2. Emerging Financial Markets Prof. J.P. Mei R 1. Growth and Prosperity

3. 2 u u V -Violence u u AL - Incorrect Politically u u AC -Adults only, Very Challenging

4. Historical Roulette u u 3000 BC, Kingdom of Egypt u u 2500 BC, The Greek Civilization u u 2000 BC, Shang Dynasty in China u u 500 BC, The Roman Empire u u Middle Ages: China, Aztec in Mexico and the Incas of Peru u u 1500 AD, Spanish Adventurers u u 1700-1900 AD, British Empire u u 1900 AD - ?, The United States of America

5. 1. 3000 BC, Kingdom of Egypt

6. 3 4. 500 BC, The Roman Empire

7. 3 The IFC Definition: Income less than $9,000 21% GDP, 85% Population, 76% Area, And 11% Market Capitalization in the World (1995) Higher growth rates & high mean returns in many countries Time Taken to Double Per capita Output (10 years but unstable) The Definition Of Emerging Markets

8. The Emerging Markets

9. Annual Real GDP Growth1987-1996

10. Average Annual Returns for the Twelve Years Ended December 1998 Source: International Finance Corporation. Returns include capital gains and dividends.

12. The Lucas Growth Model: The Puzzles of Economics Growth u u Why growths differ across countries? (India vs. China) u u Why growths do not always translate to stock (investment) returns? (Korea) u u Why capital flow is so small?

14. 4 Privatization and Incentives u u Studies have shown a high correlation between economic freedom and growth. u u Privatization of SOEs leads to great improvement in efficiency and profits. u u Low Tax Rates provide more incentives for entrepreneurs. u u Free trade and market opening allows multinationals to leverage their strength, outsourcing production, and expand their markets.

15. Effective Corporate Tax Rates Data Source: Goldman Sachs

16. 5 An Educated And Low Cost Labor Pool u u Low Literacy Rates Make Training Less Costly. u u Young and Energetic u u Cost Of Labor Is Low u u Technology Leap-frog Allows for Dramatic Improvement in Efficiency.

19. Domestic Savings And Foreign Capital Flow (FDI) u u People are thrifty (high saving rates) in many markets. But high domestic savings can not fully cushion the flow of foreign capital. u u FDI flows have increased rapidly. u u Equity flows are rising but not steady. u u The composition of capital flows are more healthy (more private than public flows) but there is a problem of duration mismatch. 6

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21. Economic Impact On Developed Countries u u Raising demand of baby boomers in EM vs. falling demand in many western countries u u Rising demand for western technology u u Badly needed infrastructure projects create huge demand for capital and expertise. 7

22. Comparison of Population Growth Data Source: United Nations Over the last five years, Japan’s population grew only at a miniscule 0.2% a year. In comparison, the population of other Asian grew at much higher rates, with some growing at over 2% a year.

23. Annual GDP Growth Projection 2000-2025 Data Source: “Asia’s Bright Future” (Steven Radlelet and Jeffrey Sachs ), United Nations, and Financial Times

24. What can go wrong u u Paul Krugman: Little TFP increase. u u Past Success has little persistence (Brazil & Korea). u u Excessive public and private borrowing increase the risk of financial crisis. u u Currency instability resulted from week financial system. u u Overbuilding of production capacity leads to low returns. (Real estate speculation)   Strong special interest groups can block badly needed reform. 8

26. Will Asia Follow Japan’s Fate? u Population growth create demand u Still in catch-up mood u Low taxes create strong incentive u Valuation reasonable before the crash (The bubble was small) u Weak currency boost competitiveness u Good fiscal and monetary condition u Weak legal institutions u New development strategy u Market panic u US market crash 9

27. Dramatic Improvement in Current Account u Population growth create demand u Still in catch-up mood u Low taxes create strong incentive u Small family business (except Korea) u Valuation reasonable before the crash (The bubble was small) u Weak currency boost competitiveness u Good fiscal and monetary condition