The invisible hand

Why Argentina needs free trade more than ever  |  There is little doubt that Argentina needs a miracle, or at least a helping hand. No, this is not another reference to football: just a simple statement of fact.

It has until the 30th July to find USD 1.3bn in order to avoid default. Argentina’s trade performance has suffered as a result of poor economic and trade tariff management since 2011. Trade declined in 2012 by over 4% and while it grew in 2013 and is expected to return to growth of around 7% this year, this will only take it back to the levels of exports last seen in the middle of 2011. Policy makers have focused instead on attracting inward investment to develop the large shale gas reserves, taking their eye of the trade ball. Yet even this policy has stalled: Delta Economics is forecasting that Foreign Direct Investment levels will increase in 2014 but this will again only take them just above the 2011 levels. Put simply: if Argentina is to stave off the permanent threat of default and encourage enduring FDI, it will have to bring the invisible hand back into its trade markets.

At first glance, it does not appear that trade matters unduly to the Argentinian economy. It still runs a trade surplus, although not as substantial as it was and this is reflected in its positive terms of trade (the value of exports in relation to the price of imports). Yet there appears to be very little correlation (-0.37) between its terms of trade and the value of the Argentinian Peso (ARS), as illustrated in Figure 1.


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Figure 1  |  Argentina’s terms of trade vs ARS per USD, Last Price Monthly, June 2001-June 2014

Source  |  DeltaMetrics 2014, Bloomberg


This matters in so far as countries with high correlations between trade and their currency values are less prone to speculative attacks on their currency. The Peso has weakened by around 50% since the financial crisis: the last time the deterioration in its value was as substantial, Argentina was gripped by its last sovereign debt crisis. While the decline in value has been over a longer period of time, it does suggest that traders are speculating against Argentina being able to re-pay its debt.

If this is the case, then it is more than worrying. Argentina needs to default on its debt a bit like its football team needs the Netherlands to score 2 goals in the first fifteen minutes of the game on Wednesday. If it defaults, then it will find it very difficult to raise the external capital/inward investment that it needs to begin the process of extracting shale gas. But as Figure 2 shows, Argentina is no longer a net exporter of oil and gas, so, in order to restore its self-sufficiency urgently needs this inward investment.


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Figure 2  |  Value of Argentina’s oil and gas trade (USDm) versus ARS per USD, Last Price Monthly, June 2001-June 2014

Source  |  DeltaMetrics 2014, Bloomberg


The Peso is barely correlated with oil and gas exports (-0.42), although it is correlated with its imports (0.72) suggesting that as the currency weakens (values are in Peso per USD), it is more likely to import oil which is worrying because it suggests that oil imports are plugging a structural weakness in Argentina rather than a response to imported oil being proportionately cheaper. And as the correlation with exports is so weak, it reinforces the view that the currency is more closely correlated with its economic condition than with its trade position.

So what is the scale of the challenge ahead? What does the Argentinian government need to do if it is indeed to create substantial economic growth through the inward-investment associated with shale gas production? Figure 3 presents the specific six-digit subsectors within natural gas that represent shale.


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Figure 3  |  Value of Argentina’s natural gas imports and exports (USDm), 2001-2026 (forecast)

Source  |  DeltaMetrics 2014


Other things being equal, that is, if inward investment continues at the pace we are currently seeing it and if policy and the economic climate remain unchanged, then the picture is not rosy for Argentina’s shale gas revolution. Our model suggests that imports are already outstripping exports and that trend will continue to grow over time. The chance of a trade surplus is remote, as is the chance of self-sufficiency in gas.

It is not the intention to enter a debate on shale in Argentina, still less to suggest that this is the only way out of the current crisis. Instead, just take a look at where policy really can have an influence: trade. Argentina’s openness, in other words its trade as a proportion of GDP has grown from just under 30% in 2001 to over 60% now. The economy is more dependent on trade as a result since it is so important in relation to GDP.

Yet oil and gas is not the sector, arguably, where it should be focusing in the short term. There are two reasons for this. First, the normalised revealed comparative advantage of oil and gas has deteriorated from a position where it was competitive in 2001 (0.39) to a position where it is uncompetitive now (-0.51). We are expecting its position to deteriorate still further to -0.60 by 2020. In contrast, Automotives were uncompetitive in 2001 (-0.12) but are competitive now (0.32) and will be more so by 2020 (0.38).

Second, there appears to be a much stronger correlation between automotive trade and the value of the currency suggesting that some of the speculation may dissipate if the manufacturing side of the economy can be allowed to flourish as Figure 4 shows.


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Figure 4  |  Value of Argentina’s automotive exports overall and to Brazil (USDm) vs ARS per USD, June 2001-June 2014

Source  |  DeltaMetrics 2014, Bloomberg


If Argentina can grow its manufacturing sector then it stands a chance of creating real export-led growth, particularly if it focuses on the regional automotive supply chain to Brazil since the correlation between it and its currency is particularly high for that trade route. As the currency has weakened, this has strengthened the position of Argentina’s automotive sector in relation to Brazil and has provided a platform for growth.

This is where policy makers should focus to address the challenges of growth and currency stability in the long run and to provide a clear message to markets and arguably the US Supreme Court to stave off default in the short run. Trade suffered between 2001 and 2012 when tariffs were first imposed and Argentina can in no sense afford to make this mistake again. Free trade is as key – otherwise the “hand of God” may well start to look like an Argentina own goal.



Chain reactions?

Why Turkey cannot escape geo-politics | When Turkey’s citizens went to the polls in local elections on Sunday 30th March, it is probable that President Erdogan’s Twitter ban featured more strongly in their minds than t-shirt exports to Europe, but maybe it shouldn’t have done. The economic growth and stability that was a key feature of the first few years of his Presidency have been dwarfed recently by substantially slower GDP growth, just 2% in 2013, a rising budget deficit, accusations of corruption and cronyism and rumbling under-currents of protests. An influx of 700,000 refugees from Syria is further putting strains on Turkey’s economic resources and the recent shooting-down of a Syrian jet on the Turkish border points to the vulnerability of Turkey to the spill-over from instability in the Middle East.

What a difference a couple of years make. Delta Economics is forecasting that Turkey’s export growth in 2014 will be 4.6% but this is under half the rate of growth of nearly 10% seen in 2012 and with imports growing 4.5% compared to just under 4% in 2012, there is no likelihood of the trade deficit closing any time soon either. The challenge for Erdogan, quite apart from restoring his reputation with his voters on the political front, is that he must also restore the reputation of Turkey amongst the investment community.

The first challenge will be to address the value of the Turkish Lira which has been falling against the US Dollar since the beginning of 2011, with a brief respite between the end of 2011 and the end of 2012.  However, this has had little effect on exports, which grew by 5.3% in 2013 (Figure 1).


Figure 1 | Turkey’s Imports, Exports and Total Trade (USDm) vs Turkish Lira per USD, Last Price Monthly June 2006-Feb 2014

Figure 1 Source | DeltaMetrics 2014, Bloomberg

The recent intervention by the Turkish Central Bank to rescue the Turkish Lira by raising interest rates to 12% shored up the value of the currency in February but Foreign Direct Investment (FDI) is a more effective route for stabilising the real economy. FDI in 2014 is expected to reach its 2013 levels, but the more expensive currency will also exacerbate the trend of rising imports.  And at a sectoral level, only clothing has reached its pre-crisis export level (as shown in Figure 2). What the link between sectors and trade routes suggests is that the appreciation of the Turkish Lira up to the financial crisis was negatively related to trade and was fuelled to a large extent by hot money. Since then, it is the depreciation of the currency that has propped up trade; any attempt to shore up the currency could have a detrimental impact long-term on trade without sustained real investment. This is because short-term capital flows are not contributing to the value of the currency as much as they did pre-crisis; instead, Turkish trade relies on exports and inward investment.


Figure 2 | Turkey’s key sector export trade growth, USDm, vs Turkish Lira per USD, Last Price Monthly, June 2001-Feb 2014

Figure 2 Source | DeltaMetrics 2014, Bloomberg

The second challenge will be to re-invigorate the move into higher-end manufacturing that was initiated through closer trade and supply chain ties with Europe. Delta Economics estimates that automotives generally will contribute the equivalent of USD 17.6bn to Turkish exports in 2014. While we are expecting exports of cars and goods vehicles to fall back slightly in 2014, exports of components are forecast to grow by some 4.9% reflecting the role that Turkey has forged for itself over the past decade in global supply chains.

However, as Figure 3a shows, Turkey’s trade in higher end manufacturing (proxied through clothing and automotives and even to some extent through iron and steel) is vulnerable to regional risk. Nine of Turkey’s top ten export partners are either in Europe where demand is flat and deflationary pressures increasingly evident, or the Middle East, where geo-political pressures are placing downward pressure on trade in the smaller nations by trade value.


Figure 3a | Regional risk to Turkey’s trade


Figure 3b | Regional risk to Turkey’s trade

Figure 3b highlights the third challenge: the higher-end manufacturing which grew so rapidly up to the end of 2012 is highly dependent on Europe while commodity and infrastructure trade relies more on the some of the least stable countries within the Middle East region. Delta Economics is forecasting that automotive trade with its five main export partners, including Russia, will decline during the course of the next year.

Figure 4 shows automotive exports to Germany and Russia. There does not appear to be any effect of currency depreciation on trade; the correlation is just 0.26 for Germany and 0.21 for Russia. More than this, we are expecting a significant slow-down in export growth of cars to both countries during 2014 suggesting that previous growth has been on the back of inward investment which has now stabilised.


Figure 4 | Turkish exports of automotives to Germany and Russia (USDm) vs Turkish Lira per USD, Last Price Monthly, June 2001-Feb 2014

Figure 4 Source | DeltaMetrics 2014, Bloomberg

Decelerating export growth to Europe could be compensated by diverting attention to Turkey’s largest export partners in the Middle East, but this highlights the fourth challenge faced by Turkey’s leaders: that its exports to MENA are in iron and steel which themselves are a function of infrastructure development in that region. In the wake of the downturn and the Arab Spring, infrastructure spending has suffered and Figure 5 shows how regional volatility affects the growth path of exports for Turkey.

The substantial drop in exports between 2009 and 2010 reflects the collapse of the infrastructure boom in the MENA region at that time, particularly in the UAE. The sustained uncertainty in Egypt and Libya has meant that exports have not recovered to their pre-crisis levels and we are forecasting a net decline in trade to these countries during 2014.  And although trade has recovered to pre-crisis levels with Iran the growth is fragile and arguably will be highly dependent on the outcome of the on-going talks with the US and Europe to remove economic sanctions. We are forecasting growth in iron and steel exports to Libya, Iran and Egypt after Q3 2014, but the geo-politics of the region present a substantial downside risk to the forecast.


Figure 5 | Turkey’s exports of iron and steel to selected MENA countries (USDm) vs Turkish Lira per USD Last Price Monthly, June 2001-Feb 2014

Figure 5 Source | DeltaMetrics 2014, Bloomberg

The final challenge is particularly prescient given the current situation in Russia. Turkey’s growth has to a large extent been fuelled by its role as an energy transit hub and, in turn, this has meant that it has become highly reliant on imports from Russia, for its own increasing demand and to supply its own export growth, particularly to the Middle East. We estimate it will import nearly US$ 7bn of refined oil in 2014 from Russia, which is roughly three times higher than its second largest importer, India. Nearly half of its top 30 export partners are in the Middle East with ten of its top 30 export destinations facing major geopolitical or economic challenges over the next year. These countries account for nearly 30% of Turkey’s oil exports and while we are forecasting substantial growth for nearly all these destinations, the potential for downside risk to this forecast is equally substantial.


Figure 6 | Geo-politics and Turkey’s oil trade

Turkey cannot separate its politics, global geo-politics and its economic performance. It must attract real investment into its economy to reduce its dependency on hot-money flows. But to do this, it must convince investors that it is both politically stable itself and that it can over-come its reliance on Russian oil and trade with highly volatile countries while re-invigorating its innovation and manufacturing base in textiles, automotives and iron and steel. Geographically located as it is on a geo-political and sectarian fault line between Europe, central Asia and the Middle East, it is a microcosm of the challenges that the world faces during 2014 all of which are linked together through trade. Turkey’s voters in the future should think beyond their politics to realise that their economics may well be determined by a chain of geo-political events over which they have very little control.

Don’t Cry for Me…

Why trade mistakes are hampering Latin American growth | In the context of the current Ukrainian crisis, the decision by Venezuela’s President, Nicolas Maduro, to suspend diplomatic and economic relations with Panama has barely registered. Trade between Panama and Venezuela is relatively small, worth an estimated US$ 1.2bn in 2013. Crude oil, which is Venezuela’s main export with a value of over US$ 2.6bn is not within the top 30 trade sectors between the two countries and therefore, on the face of it, the impact on long term policies to stabilise the Venezuelan economy may be minimal. Trade is highly volatile between Venezuela and Panama and Venezuela is more reliant on its trade with Panama for imports than it is for exports, as Figure 1 shows.



Figure 1 | Estimated exports from Venezuela to Panama and imports to Venezuela from Panama, 2001-2014

Source | DeltaMetrics 2014

(Trade data between Venezuela and Panama contain a large number of zeroes thus data must be seen as indicative)


Second, and as Figure 1 also shows, the decision to stop trade with Panama potentially hurts Panama more than it hurts Venezuela. Venezuela was Panama’s largest export partner in 2013, although the US will take over from Venezuela during 2014. This calculation is ill-advised on several counts. For example, Venezuela relies heavily on the US for its oil exports. It is the US’s third largest importer of crude oil; it’s exports to the US of crude oil are ten times higher than for the second largest export partner – Germany. With inflation running at, reportedly, above 50% and with the fiscal deficit running at 16% of GDP, the country needs stability more than anything. Any tension with Panama has the potential to spill over into relations with the US and thereby affect its oil exports. The parallels with Ukraine’s situation are not drawn idly: street protests leading to a new government and increasing tensions with the US pose a risk of sanctions and this would not help Venezuela’s quest for sustainable economic growth.

Second, Venezuela is not amongst Latin America’s top 30 trade partners, and yet it is highly dependent on the region for its trade. As Panama’s canal grows so too will its trade both with Latin America, North America, the Middle East and with Asia-Pacific. Its port-to-port trade with, say Singapore is forecast to grow by 10% in 2014 alone and with Hong Kong by 8%. Any greater political instability in Venezuela will have the effect of destabilising trade between other countries in the region. We are already forecasting substantial drops in the trade between it and many of the Latin American countries and yet it has the scope to act as a trade route through to North America if it keeps its export routes with Panama open.



Figure 2 | Venezuela’s export trade with Latin American countries (2014 values and change on 2013) compared to Panama’s extra regional growth.

Source | DeltaMetrics 2014


The fact that its largest export product through Panama is automotives demonstrates how important this trade route is potentially in integrating Latin American and North American non-oil supply chains. Before the lock-down of trade we were expecting Venezuelan exports of cars to Panama to increase by over 18% this year, albeit from a small base.

Venezuela’s exports to Argentina are forecast to grow by over 9% during 2014 but Venezuela would do well to learn from Argentina’s trade track record, especially on restricting trade with other countries. Argentina imposed punitive tariffs on importers in 2011 requiring them to export from Argentina the amount in value terms that they were importing. The effect on trade for Argentina has been to increase export and import volatility since, as illustrated in Figure 3.


Figure 3 | Argentinian exports and imports, June 2001-February 2014

Source | DeltaMetrics 2014

Since mid-2011 when the first range of additional tariffs were imposed, Argentina’s trade has experienced greater volatility in its trade and in fact, trade seems set on a downward trend. The seasonal swings in trade, which were already greater than pre-financial crisis appear to have been accentuated in the years since with a particularly severe drop in 2011-12 as the tariffs started to take effect.

While Venezuela has not introduced tariffs, it has just suspended its trade with Panama, the lessons from Argentina in terms of regional contagion cannot be understated. Figure 4 is the same chart, Argentinian exports and imports, against the value of the Brazilian Real and shows clearly that the value of the Real in relation to the USD has deteriorated over the same time period.


Figure 4 | Risk of contagion: Argentina’s trade against the Real per USD exchange rate 2001-2014

Source | DeltaMetrics 2014, Bloomberg

It would be a mistake to say that Argentinian, or even Venezuelan trade directly causes a depreciation of the Real or other regional currencies. However, what Argentina’s economic and trade strategies have done, like other countries in the region, is make markets call into question the robustness and sustainability of economic performance and therefore to make them more bearish on the overall outlook as the collapse in the Peso and its knock-on effects to other Emerging Market currencies in January showed.

Venezuela’s trade is important to the region because of the link with the US and although they are not currently through Panama itself, the risk to that trade comes from geo-politics rather than trade economics. If it continues to suspend trade, then the US may impose restrictions on its imports. This could increase the downside risks to Venezuela’s trade forecast for 2014 and there is a clear risk for further contagion across the region. Perhaps like the Ukraine, this is a crisis that may start small but escalate to something bigger, particularly in economic terms. When it does, remember the lessons from Argentina, and don’t cry for me…..