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(JG Graphics/Josep Tri Ronggo Laksono)
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Had William Shakespeare been an economist, he might have observed
that some economies are born great, some achieve greatness while others
have greatness thrust upon them. If alive today, he might include in the
latter category so-called “emerging markets” many of which have in
effect had fame, or at least familiarity, thrust upon them.
The result has been the creation of a widespread belief that
“emerging” markets or economies are approaching developed country status
whereas, in fact, their physical, institutional and financial
infrastructures remain relatively weak. Their stock markets have become
casinos where chips are bought and sold largely by foreign investors,
with marginal benefit to the domestic economy.
A couple of decades or so ago, relatively few people had heard of
emerging markets, and far fewer of “frontier” markets. Yet today these
territories are constantly in the news, the subject of regular claims
about being poised, if not exactly to take over the world then, at
least, to account for the lion’s share of global GDP within a decade or
so.
That the progress of many among this group of 50 to 70 emerging
markets, depending upon definition, has been impressive is undeniable.
But as a group they have achieved a prominence that belies the relative
lack of economic, financial, political, social and institutional
development they still need to overcome before they can truly be said to
have “emerged.”
The fact that a highly diverse group of economies have been labeled
as “markets” is revealing as to why they have achieved prominence in a
relatively short space of time. They have been “packaged” by Wall Street
investment bankers and sold to international fund managers anxious to
acquire overseas assets in line with the ongoing process of
globalization.
This has been one of history’s greatest exercises in marketing, and
the result has been that a bunch of countries which not so very long ago
were of interest mainly to development professionals – economists,
engineers or social specialists – which were known as “developing” or
“third world” economies, “basket cases” even in some instances, are now
regarded as vibrant and dynamic emerging economies.
Some might argue that this has been all to the good, raising the
self-esteem of countries concerned while also boosting their image among
the international community. But globalization of portfolio investment
has also tended to create an assumption that by connecting developing
countries to flows of international investment, development challenges
can be overcome. This is often not the case, however, as glaring
deficiencies of development come to light even after emerging markets
supposedly graduated to a new “emerged” status. Among these deficiencies
is their relative lack of basic infrastructure such as highways,
railroads, power grids and sanitation networks, not to mention health
and education systems.
The projected cost of such infrastructure — $8 trillion in Asia alone
over the current decade, as estimated by the Asian Development Bank,
and $57 trillion globally as estimated by the Organization of Economic
and Co-operative Development — vastly outstrips the $1 trillion or so of
private capital that flows annually from advanced to emerging
economies, as estimated by the Institute of International Finance.
These discrepancies between supply and demand only begin to hint at
the true scale and nature of the problem, however, which is that the
packaging of emerging economies in a way that makes them attractive to
global portfolio investors encourages an often short-term and
superficial or “cherry picking” approach to financing their economic
development.
Foreign portfolio capital, that is investment into stocks and bonds,
naturally seeks the highest return in the shortest possible period of
time and prefers existing enterprise with a track record of
profit-making rather than so called “greenfield” ventures in projects
such as infrastructure with a long gestation and payoff period. Likewise
foreign “direct investment,” where corporate capital is directed into
new ventures, tends to prefer manufacturing or service enterprises that
produce returns in a few years rather than longer-term projects such as
infrastructure. The upshot is that emerging economies receive an
inadequate and unbalanced diet of funding.
Not only that, but the need for development of domestic financial
systems that are vital to national economic wellbeing in emerging
economies is often overlooked by those who focus on the supposed need to
bring developing economies into the global marketplace for capital. Put
bluntly, it is a case of emerging markets being exploited by the market
itself.
This raises the question of how and why emerging markets did in fact
“go to market.” Very simply, it’s “because savings in Europe began to
exceed local demand [for investment] in Europe” during the late 1970s
and in the 1980s, in the words of David Gill who might fairly be called
the “father” of emerging markets.
This led to a desire on the part of European and later US investors
to acquire portfolio assets outside of their own borders, according to
Gill, who was managing director of the capital markets department at the
World Bank’s International Finance Corporation during the seminal years
of emerging-market development.
It was principally pressure applied from advanced economies, or
rather from agencies acting on behalf of the Western investment
community, rather than internal motivation that precipitated the
activation of stock markets across the developing world, beyond the
relative few that had had such markets for decades as part of a colonial
legacy.
Antoine van Agtmael, a former investment banker at Bankers Trust in
New York who later joined IFC, recalls that in 1981 when he “pitched the
idea of a third world equity fund” to Salomon Brothers, he was told
that it would never sell under that name. So, he came up with the label
“emerging markets” — which stuck.
The marketing of these economies has been a remarkable success.
Today, the value of stocks listed on the world’s emerging markets is
around one quarter of the global value or capitalization of all listed
stocks and that should reach one half within the next 20 years,
according to estimates by Goldman Sachs.
Among the most prominent of the emerging markets are China, Brazil,
Russia, India, Mexico, Turkey, South Africa, South Korea and Taiwan
while so-called “frontier” or not-yet-emerging markets include countries
such as Argentina, Ukraine, Romania, Bulgaria, Kazakhstan, Lebanon,
Jordan, Vietnam and others in various parts of Africa.
The aggregate value of emerging market stocks exceeds that of those
quoted on the New York Stock Exchange, and in some of these markets the
total stock market value or “capitalization” of listed stocks exceeds
the size of the country’s economy. This reveals the huge discrepancy
between stock values driven by foreign funds and the actual
capital-raising ability of local stock exchanges for the domestic
economy. In this sense, they are casinos.
Stock markets do play an essential role within any financial system,
but the equity market mania that has driven their development in many
emerging economies has arguably been at the expense of the development
of banking systems and bond markets essential for raising long-term
funds and of investment institutions capable of channeling local savings
into local investment.
This says nothing, moreover, of the problems caused by the
introduction of extremely volatile foreign capital flows into emerging
economies via their stock markets, causing the creation, and subsequent
destruction, of asset bubbles and posing problems for the conduct of
domestic monetary policy. All of which suggests that stock markets have
“emerged” prematurely across much of the developing world.
Anthony Rowley is a former business editor and international
finance editor of the Far Eastern Economic Review and is currently field
editor (Japan) for Oxford Analytica and Tokyo correspondent of the
Singapore Business Times. During a long career in journalism, Rowley
has written extensively on issues of economic and financial development
in Asia and elsewhere and his books include “Asian Stock Markets – the
Inside Story” published by Dow Jones Irwin in 1986 as well as “The
Barons of European Industry” published by Croom Helm in 1973.
By Anthony Rowley on 07:49 pm Jul 02, 2014
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