New leaders facing financial globalization

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Nicolas Bordeaux's picture

           Financial Markets have become key partners for Asian government leaders over the past decades, no matter if their rule over a developed Nation, such as S. Abe, or on an emerging country, such as J. Widodo. Both of them tried to seduce investors, especially by announcing structural reforms supposed to reinforce investors’ confidence in their respective country. Their goal was obviously to convince Financial Markets that they, as government leaders, also could be key partners for them.

 

Financial Markets obviously took into account the election of someone like S. Abe. When he came to power in December 2012, his program to revitalize Japanese economy and the “three arrows” (5) of his “Abenomics” particularly impressed the market. In front of this highly motivated leader, and the combination between a monetary easing policy conducted by the Bank of Japan and a fiscal reform announced by the government, investors began to trust S. Abe. In February, just 3 months after Mr Abe’s election, the Nikkei had already risen by 22% (5). And this trend was to be prolonged. In order to face the high level of Japan’s public debt, which is always a critical subject for investors, S. Abe announced a fiscal reform to reach the budgetary balance as soon as possible, and thus meet the Financial Markets’ expectations. To finish with, in June 2013, the publication of the first economic indicators that show good results for Japanese growth and inflation in Q1 made analysts review their predictions. In their opinion, the Nikkei was then supposed to reach 18000, instead of the 16000 initially predicted (2). Confirmed by the good economic indicators, investors believed in Japan’s recovery at least until May 2014, and the Nikkei beat records (+55% from Abe’s election to May 2014) (1).

The market adopted pretty much the same behavior latter towards Indonesia, though it is an emerging country. When J. Widodo came into office, on October 2014, he had two assets usually particularly recognized by the Financial Markets. First of all, he had a background of businessman, which is supposed to make him a business-and-investors-friendly leader. The second asset, linked to the first one, was his program: he planned to address the problem of the ever-increasing fuel subsidy debt. One more time, investors were seduced, and the Jakarta Composite Index grew up to 5246,48 in November 2014, which represented an increase of 25% from January (3).

 

             But Financial Markets do not only take into account leaders declarations and intentions. Their anticipations can quickly change, due to their capacity to aggregate and integrate pieces of information from all over the world. If they sometimes accept to trust one leader, especially when he or she tries to seduce them by announcing structural reforms, they want these reforms to be successfully implemented. They are also particularly attentive to economic indicators over time: bad news about growth or interest rates can easily break months of positive anticipations about the future progression of a particular country and its market. And finally, even if a certain leader does everything he can to have Financial Markets on his side, financial globalization makes investors also sensible to what happens in other countries. All in all, you may intend to attract investors, but they might ignore you if something more meaningful for them happens somewhere else.

Let’s illustrate these ideas. In Japan, S. Abe chose to address the public debt problem, and to this respect, he decided to raise taxes successively (5). It would also prevent inflation to reach too high levels, so that investors would be satisfied. However, tax increases, especially when it concerns VAT, tends to reduce private consumption, which has always been a key indicator for a subjected-to-deflation country like Japan. Therefore, and as various economists expected (7), these austerity policies led to worse-as-expected economic indicators for 2014. Recession and deflation finally came back in Japan (6) and now, it has become commonplace to consider Abenomics as a failure. So finally, the lesson to learn might be that however strong S. Abe’s will to reform his country may have been, Financial Markets, by defining their attitude with respect to indicators such as public debt and deficit or inflation, play an ambivalent role towards S. Abe’s goal: they were both a help by anticipating growth and success for Abenomics and thus providing investments, and an infringement by focusing too much on debt, deficit and inflation. It made S. Abe to take decision that finally cancelled the efforts deployed in 2013 (6). All in all, he was not as free as it may see at the first glance: whatever their intentions, in global economy, leaders need the support of Financial Markets, which define spontaneously a (low) level of freedom they give to leaders.

In Indonesia, though J. Widodo’s election led to a short term increase in the Jakarta Composite index in 2014, investors quickly turned back from the country. They may still do believe J. Widodo will succeed in reforming the country, but they simply took back their investments from emerging markets. Indeed, they have seen that economic indicators for the end of 2014 are not as good expected, but they obviously cannot connect it with the J, Widodo’s government, given the short time he has been ruling over the country. Actually, they anticipate the consequences of the end of the quantitative easing policy driven by the Fed, and thus repatriate their capital to the US (3). This raises another question: in a global economy where the movement of Capital is more or less free, what is the weight of the election of a new leader in an emerging compared with changes in policies such as quantitative easing for Financial Markets?

 

           All in all, in the short run, new government leaders do matter for Financial Markets. When a determined leader comes to power with the strong intention to use the strongest tools available to revitalize his country, it will undoubtedly affect the Nation and its market. Therefore, Financial Markets had to react to S. Abe reaction, positively or negatively. When a country passes from a former Army general officer (S. Bambang Yudhoyono) to a former businessman (J. Widodo) as President, it will also undoubtedly have an influence on the future path this country will take. One more time, Financial Markets have to take it into account. However, in a globalized World, Financial Markets are not only passive actors. New leaders, especially in emerging countries, need their support to provide to them means and for example, to buy their debt securities. By considering economic indicators such as public debt and deficit, growth or inflation to define their attitude, Financial Markets clearly limit new leaders’ freedom to act. Into the bargain, there is no doubt that today, a change in government leaders, especially in emerging or declining countries, is seen as marginal for Financial Markets which have to face new challenges with the changes of monetary policies, both in the US and in the European Union.

References: 

 Please, note that in the essay, numbers in italics mean that the previous idea is developped in an article. All articles are numbered accordingly.

  1. http://ftalphaville.ft.com/2013/05/17/1506092/bird-plane-abe/ David Keohane, the Financial Times Alphaville, 17 May 2013
  2. http://ftalphaville.ft.com/2013/06/13/1534252/doubling-down-on-the-nikkei/ David Keohane, the Financial Times Alphaville, 13 Jun 2013
  3. http://www.ft.com/intl/cms/s/0/3123c120-3734-11e4-8472-00144feabdc0.html#axzz3JzeR37Hc Ben Bland, The Financial Times, 8 sept 2014
  4. Peter McCawley, (Sept 2014). Joko Widodo’s Indonesia. Possible future paths. ASPI Strategy.
  5. Yoshino, N., and F. Taghizadeh-Hesary, (2014). Three Arrows of “Abenomics” and the Structural Reform of Japan: Inflation Targeting Policy of the Central Bank, Fiscal Consolidation, and Growth Strategy. ADBI Working Paper 492.
  6. Another austerity victim: Japan falls back into recession M. O'Brien, The Washington Post, 17 Nov 2014
  7. http://blogs.wsj.com/japanrealtime/2014/09/19/krugman-warns-abe-on-tax-increase/ John D'Amico, The Wall Street Journal, 19 Sept 2014
  8. http://www.tradingeconomics.com/japan/stock-market
  9. http://www.tradingeconomics.com/indonesia/stock-market