1 The Way to Paradise? Emerging Debt Markets at the Beginning of the XXI th Century Banque de France Paris May 29-June Javier Santiso Chief Development Economist & Deputy Director OECD Development Centre

2 1 A historical perspective Some recent improvements in emerging debt markets 2 Post-Argentina Trauma: A Policy Proposal 3

3 Fasten your seatbelts: Serial defaulters and crisis in emerging markets Source: OECD Development Centre, Based on: M. Bordo and B. Eichengreen. “Crises Now and Then: What Lessons from the Last Era of Financial Globalization”, and N. Roubini and B. Setser. “Bail-outs or Bail-ins? Responding to Financial Crises in Emerging Economies”, Note: Recent crisis episodes on the period include Brazil (1998, 2002), Ecuador (1998), Pakistan (1998), Ukraine (1998), Turkey (2000), Argentina (2001) and Uruguay (2001). Average Emerging markets Average Industrial countries

4 Serial defaults and crises are not a privilege of today’s emerging markets … Serial Defaults by Country ( ) Source: OECD Development Centre, Based on: Reinhart, C., Rogoff, K., and M. Sevastano. “Debt Intolerance”. NBER Working Paper 9908, 2003.

5 Volumes of traded emerging markets debt are not as stunning … Source: OECD Development Centre, Based on: Mauro, P., Sussman, N. and Y. Yafeh. “Emerging Markets and Financial Globalization”, 2002, 2006 and Bank of International Settlements, 2006.

6 Currently, financial integration is not at its highest level Source: OECD Development Centre, Based on Schularick 2006 and GDP figures from Maddison (1995, 2001)), Woodruff (1966) and Wilkins (1989) for 1913/14. Average 1913 Average 2000 Note: Financial Integration Index calculated as the ratio between the share of international investments and the share of world GDP. International Financial Integration Index

7 Countries have made considerable progress to keep indebtedness at sustainable levels … Source: OECD Development Centre, Based on: Dany Jaimovich and Ugo Panizza. “Public Debt around the World: A New Dataset of Central Government Debt”. Inter-American Development Bank. March Total External Debt over GDP

8 … but more efforts are needed to reduce well-known vulnerabilities Source: OECD Development Centre, Based on: Dany Jaimovich and Ugo Panizza. “Public Debt around the World: A New Dataset of Central Government Debt”. Inter-American Development Bank. March Total External Debt over GDP

9 Source: OECD Development Centre, 2006 Based on: International Financial Statistics, IMF Total External Sovereign Debt (% of GDP) Other emerging markets made improvements, becoming less dependent on external sources… External and domestic debt (Latin America) External and domestic debt (World)

10 However, the failure to boost internal savings rates is persistent in Latin America... Source: OECD Development Centre, Based on Global Development Finance, The World Bank, FIAP, Pension Assets under management Evolution of Regional Saving Rates

11 …making the region still dependent on foreign capital Regional average Source: OECD Development Centre, Based on Global Development Finance, The World Bank, Net National savings by country ( )

12 1 A historical perspective Some recent improvements in emerging debt markets 2 Post-Argentina Trauma: A Policy Proposal 3

13 Endogenous insurance mechanisms have been developed in recent years Endogenous insurance mechanisms have been developed in recent years Source: OECD Development Centre, Based on: International Financial Statistics, IMF and Central Banks information. Foreign Exchange Reserves by Region 2.1.

14 These mechanisms continue to consolidate even after recent repayments These mechanisms continue to consolidate even after recent repayments 20% 30% 40% 50% 60% 70% 80% 90% Pre-Repayment Post-Repayment Pre-Repayment Post-Repayment Argentina Brazil (International Reserves in % of Public Sector Borrowing Requirements +Monetary Base) International Reserves -40% 5% 10% 15% 20% 25% 30% 35% -35% 8,000 13,000 18,000 23,000 28,000 Oct-02 Dec-02 Feb-03 Apr-03 Jul-03 Sep-03 Nov-03 Feb-04 Apr-04 Jun-04 Aug-04 Nov-04 Jan-05 Mar-05 Jun-05 Aug-05 Oct-05 Jan-06 Mar-06 28,078 21,769 Pre-IMF Repayment Post-IMF Repayment Oct-02 Dec-02 Feb-03 Apr-03 Jul-03 Sep-03 Nov-03 Feb-04 Apr-04 Jun-04 Aug-04 Nov-04 Jan-05 Mar-05 Jun-05 Aug-05 Oct-05 Jan-06 Mar-06 67,935 60,090 Pre-IMF Repayment Post-IMF Repayment Liquidity Ratio Repayment: 9.5 bn Repayment: 15.6 bn 2.1. Source: OECD Development Centre, 2006 and Intern. Financial Statistics, IMF, 2006

15 New instruments have been increasingly used for sovereign bonds issuance New instruments have been increasingly used for sovereign bonds issuance Emerging Markets Sovereign Bonds Issuance Source: OECD Development Centre, Based on: Global Financial Stability Report, IMF 2006, Dealogic and Turégano and Santiso, Billions of US dollars Number of issues

16 Despite the slackening in recent years, corporate issuers are increasingly important Despite the slackening in recent years, corporate issuers are increasingly important International Debt Securities by Nationality of Issuer Corporate Issuers – Amounts outstanding Source: OECD Development Centre, Based on Bank of International Settlements,

17 Latin American governments have increased the size of their domestic bond markets Latin American governments have increased the size of their domestic bond markets Domestic Debt Securities All Issuers – Amounts outstanding 2.3. Source: OECD Development Centre, Based on Bank of International Settlements, 2006.

18 Domestic debt markets are comparatively shallow and there is room for further expansion Domestic debt markets are comparatively shallow and there is room for further expansion Size of Local Debt Securities Markets (amounts outstanding) Source: OECD Development Centre, Based on: Bank of International Settlements and IMF. Average Total LAC 2.3.

19 Source: OECD Development Centre, Based on Bank of International Settlements, 2006 and JP Morgan Emerging-Market Bond Index (April 2006). International Bonds and Notes by Currency Amounts outstanding 2.3. Total Return in Emerging Market Bond Indexes Issuance of local-currency bonds is on the rise, outperforming US dollar bonds… Issuance of local-currency bonds is on the rise, outperforming US dollar bonds… Billions of US dollars

20 Changes in debt composition, maturities, and rate structure have been observed Changes in debt composition, maturities, and rate structure have been observed Asia LAC Source: OECD Development Centre, Based on: Global Financial Stability Report, IMF,

21 The original sin was a persistent phenomenon in Latin American countries Source: OECD Development Centre, Based on: Eichengreen, B. Hausmann, R. and U. Panizza. “Currency Mistmatches, Debt Intolerance and Original Sin. Why they are not the same and why it matters”, NBER Working Paper 10036, Note: Original Sin Index is defined as: The inability of countries to borrow in their own currency 2.4. Original Sin Index

22 Original sin has been overcome through the promotion of domestic financial markets Original sin has been overcome through the promotion of domestic financial markets Source: OECD Development Centre, Based on: Mehl, A. and J. Reynaud. “The Determinants of Domestic Original Sin”. European Central Bank Working Paper No. 560, Dec Original Sin Index % of GDP

23 Credit worthiness and higher access to capital can be reached through remittances… Credit worthiness and higher access to capital can be reached through remittances… Source: OECD Development Centre, Based on: “Economic Implications of Remittances and Migration”. World Bank, (2004)

24 …which could have a positive effect on sovereign credit ratings 2.5. Source: OECD Development Centre, Based on: Rowland, P. “Determinants of Spread, Credit Ratings and Creditworthiness for Emerging Market Sovereign Debt: A Follow-Up Study Using Pooled Data Analysis”. Banco de la Republica de Colombia, Determinants of Sovereign Credit Ratings Potential Improvements in Credit Rating through Remittances Rating (S&P)

25 1 A historical perspective Some recent improvements in emerging debt markets 2 Post-Argentina Trauma: A Policy Proposal 3

26 Considerable efforts for monitoring portfolio flows could have been spared In 2000 no systematic databases of portfolio investments were available One year spent with a research team of 3 economists to collect microeconomic data Three hundred interviews conducted with asset managers, buy- side and sell-side strategists Source: Palgrave, 2003.

27 The political economy of emerging markets: actors, institutions and crises Source: Javier Santiso, “The political economy of emerging markets: actors, institutions and financial crises in Latin America”. New York, Palgrave, 2003.

28 Since 2000 new databases have been developed with higher update frequency Sources: EPFR, Bloomberg, and Santander Investment. Source: OECD Development Center, Based on:

29 Back to the Argentinean Debt Default: CIPS+ as a strategic tool? The Argentinean giant debt default has been epic in scale. It involved 152 varieties of paper denominated in six currencies and governed by eight jurisdictions Source: Nieto and Santiso (2006). ArgentinaBrazilMexicoVenezuela Number of sovereign bonds issued before the Argentinean crisis Recent Sovereign Debt Restructurings Number of jurisdictions Number of sovereign bonds

30 Back to the Argentinean Debt Default: CIPS+ as a strategic tool? Argentina defaulted on bonds worth $81 billion in December It represented the longest period of debt restructuring : no database of Argentinean bondholders is available (Lazard was hired for this purpose). Source: OECD Development Centre, Based on Porzecanski, A. “From Rogue Creditors to Rogue Debtors: Implications of Argentina’s Default”, Recent Sovereign Debt Restructurings

31 Thank you for your attention!

32 ANNEX: Three essential challenges for Latin America

33 Three essential challenges for Latin American economies : High indebtedness and vulnerabilities Strong dependence on foreign capital Low rates of savings and illiquidity 1 2 3

34 Source: OECD Development Centre, 2006 Based on IMF, World Bank, National Data Debt ratios have decreased, but they remain high with respect to other economies… Debt ratios have decreased, but they remain high with respect to other economies… Average 1. Average External debt as a share of exports ( )

35 Latin American public sector still has important obligations Source: OECD Development Centre, Based on: International Financial Statistics, IMF and Central Banks information. Public Sector Borrowing requirements PSBR measure the financing needs of public, private and social entities that act on the Government's behalf. 1.

36 Three essential challenges for Latin American economies : 1 High indebtedness and vulnerabilities Strong dependence on foreign capital 2 Low rates of savings and illiquidity 3

37 Latin America’s investment ratios remain low and limit growth potential Latin America’s investment ratios remain low and limit growth potential Source: International Financial Statistics,IMF and UNCTAD. 2.

38 -20, ,000 40,000 60,000 80, ,000 Mar-97Sep-97 Mar-98 Sep-98 Mar-99 Sep-99 Mar-00 Sep-00 Mar-01Sep-01 Mar-02 Sep-02Mar-03 Sep-03 Mar-04 Sep-04 Mar-05Sep-05 Russian Crisis Argentinean Crisis Capital Flows puzzle is a symptom of the region’s exposure to market sentiment Capital Flows puzzle is a symptom of the region’s exposure to market sentiment Capital Flows to Latin America Millions of US Dollars Mar-06 Source: OECD Development Centre, Based on: Latin Focus,

39 Latin American governments are still dependent on international securities International Debt Securities by Nationality of Issuer Governments – Amounts outstanding Source: OECD Development Centre, Based on Bank of International Settlements,

40 Three essential challenges for Latin American economies : 1 High indebtedness and vulnerabilities Strong dependence on foreign capital 2 Low rates of savings and illiquidity 3