Increased Financing Needs of the SovereignsOpening Remarks by Murilo Portugal, Deputy Managing Director, IMF
At the Debt Managers’ Forum, Istanbul
June 8, 2009
Let me start by thanking once more the Turkish authorities for hosting the Forum. My thanks go to Minister Babacan, Under Secretary Çanacki and their colleagues for all their excellent work in organizing this meeting.
This is the 9th occasion that we convene the Debt Managers’ Forum. Over the recent years, this event has become an important opportunity for debt managers, central bankers, policy makers, and private sector representatives to meet and candidly discuss their views on current issues, policy options related to debt management and share experiences. For us at the Fund, this event allows us to deepen our understanding of the policy challenges and issues that are of concern to Forum participants, helping us formulate our work plan so that the Fund may respond as best as possible to its members’ needs.
The current crisis provides us with many issues to discuss. The agenda for the next two days is very rich, and covers not only subjects directly related to the debt managers’ immediate response to the crisis, but also tries to look into the future. We are attempting to explore some wider questions on what the future challenges for debt management might be; how the public sector should think about its exit from public interventions in the financial sector; and ways in which we can learn from these events to help ensure smooth and efficient functioning of debt markets going forward.
Let me, however, turn from concerns about the future to the more day-to-day issue facing debt managers in emerging and mature markets alike, namely the need to raise financing. Although the problem may be similar for both emerging and mature markets, the environment in which countries need to raise funds is very different.
Financing needs have increased dramatically across the industrialized world, mostly as a result of bank recapitalization, bailouts, and fiscal stimulus packages. The stock of contingent liabilities has also increased as governments have guaranteed bank and other private sector debt or expanded deposit insurance schemes. Across the Eurozone, the pledged amounts to support the banking sector—through capital injections or guarantees—have so far reached, on average, 21 percent of the Eurozone GDP (as of mid-May). In the UK, this figure has reached 69 percent, and 18 percent in the U.S. In Ireland, the government’s pledge amounts to more than double the country’s GDP, and in Sweden, where banks are heavily exposed to Baltic countries, this amounts to half the GDP. Of course, a large part of that will not have an immediate impact on current financing needs, since they represent contingent liabilities, such as guarantees. Contingent liabilities have also increased further through the ways the deposit guarantee schemes have been expanded.
But net debt issuance in mature markets is projected to grow dramatically this year. It is now estimated that in Europe and Japan sovereign net issuance will be twice as high as the annual average in the previous decade, and more than triple that in the US. In response, we saw a widening in credit default swap spreads on mature market debt; in particular in those countries where the banking system is severely under stress. Earlier this year, CDS spreads reached 100 bps for such issuers like Germany and the US, and 175 bps for the UK—something we had not seen before. While these spreads have decreased substantially since, they are still much higher than the historic average—an issue I believe Jose will say a little more about later this morning.
Although the CDS data may be questioned—as this market is relatively shallow and trades are infrequent—it does point to a deterioration in sentiment toward even the most stable and trustworthy issuers. What’s more, rating agencies have downgraded several Eurozone issuers (Greece, Iceland, Ireland, Portugal and Spain) and warned about potential downgrades for the largest issuers, citing unsustainable debt levels. If the perception of the riskiness of the U.S. Treasuries or German Bunds increases, what are the implications for EM issuers trying to rollover their existing debt, and competing with these established issuers?
Although, initially there were some signs that markets might struggle—for example, a few bond auctions went uncovered—overall the increased issuance has been absorbed by the markets, given investors’ strong appetite for liquid government securities. In a few countries, the demand has been also aided by central banks’ purchases of government debt, as they adopt a quantitative easing policy. Retreat from the EM assets and expansion of money market funds have also supported the demand. But we need also to ask whether this may lead to crowding out of private issuers, which would have a negative impact on potential growth, and to significant increases in the interest rates, or whether this simply counterbalances a decline in demand for credit from the private sector.
Emerging markets are facing a different challenge than mature markets. Although EM governments had strived to reduce the public debt level and move towards issuing more in the domestic markets, in some countries EM corporates and even households have borrowed extensively abroad. This gives rise to a significant level of refinancing risk as external bonds and loans mature. In managing this refinancing need, EM issuers face not only increased competition from MM issuers, but also the challenges raised by deleveraging. They are also affected by a deteriorating export outlook, lower commodity prices, worsening macroeconomic prospects, and a decline in trade financing.
Estimates of rollover needs and funding gaps in EMs vary depending on the assumed methodology. Updated Fund estimates point to around $200 billion of refinancing needs for EM sovereigns in both 2009 and 2010. But this pales in comparison with the (approximate) $1.3 trillion of refinancing for EM corporates, again in both 2009 and 2010. Regionally, European EMs faces perhaps the greatest challenge with 19 percent of GDP to be refinanced in 2009; this is more than double the 8 percent and 9 percent respectively for Latin American and Asian EMs. However, lack of complete data, including on the derivative exposures of banks and corporates, contribute to the uncertainty about the extent of the potential refinancing risk. This, in turn, exacerbates the problem as investors, who are unable to properly assess the risk of investing in EM debt, step up their retreat from this asset class. This uncertainty is visible in the data—CDS spreads on EM debt have remained elevated since the late 2008, despite a gradual decline this year. EM-dedicated funds have been experiencing outflows, and syndicated lending to EMs is lowest in years.
After a very difficult end of 2008, when issuers had to rely on short-term domestic instruments for financing, well–established EM issuers have been able to raise funds in the international markets. At least $60 billion has been issued this year, mostly by a narrow group of sovereigns and state owned enterprises including Brazil, Colombia, Czech Republic, Indonesia, Peru, Philippines, Poland, Turkey, and South Africa. The situation has improved recently, and issuance picked up in the second quarter of 2009. EM governments have also turned to the Fund and other IFIs as an additional source of external financing. And the Fund has worked hard to ensure that its financial resources and lending framework are well suited to members’ need, in this, as well as in future crises. So far—including Iceland—the Fund has offered some SDR 100 billion in non-concessional support to emerging market and (some) low income countries, through a variety of SBA, FCL and emergency assistance arrangements. This compares with a commitment of less than SDR 1 billion in 2007, and far outstrips the SDR 33 billion offered in 1998.
Despite that, the deleveraging and a retreat from EM debt instruments has not stopped. Since it seems it will be difficult to attract substantial new funds to the EMs, it’s important to slow down and smooth the deleveraging as much as possible, so that alternative sources of financing can be found without the disruption of a liquidity crisis. It’s also important to make sure that regulatory pressures and home bias in MMs do not exacerbate the problem. We also have to make sure that the issuers understand the expectations and concerns of the investors. This Forum provides us all with the opportunity to achieve that.
There is a large role for debt managers in meeting these challenges. Debt managers have to be especially careful in assessing direct and contingent claims, and the capacity of debt markets to absorb public and private debt without significant changes to the interest rates. They can play an important role in minimizing currency and maturity mismatches. They are also well placed to maintain a close dialogue with the markets, and by doing so to increase the transparency of policies, and reduce the uncertainty that has led to higher risk aversion of investors.
Concluding comment: Annual Meetings
Finally, as I mentioned at the outset, the Debt Forum allows us to deepen our understanding of the policy challenges facing our members, helping us direct our work plan toward the relevant issues. In that vein, some of these issues will be taken up again at the Annual Meetings in October here in Istanbul, which will provide an opportunity for Ministers of Finance and Central Bank Governors from all the Fund’s 185 member countries to discuss the global economic outlook, developments in financial markets, and to provide guidance to the institution on key policy directions. Given the current global economic crisis, all eyes will undoubtedly be on Istanbul in October.
Various country groups, such as the Group of Twenty (G-20) economies—of which Turkey is a member—will meet in advance and provide input for the Meetings. We hope to take specific messages from this year’s Debt Managers’ Forum and feed them into that dialogue.
More generally, the Annual Meetings will continue to provide an important forum for dialogue, and networking, among policy makers and representatives from the private sector and civil society. So I look forward to returning to Turkey in October to take stock of the latest developments and to work with IMF members to meet our common objectives.
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