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World wide the informal economy is booming during recession with OECD estimating more people employed in informal sector than the formal – 1.8 bn to 1.2bn. The constituency of this growth is worrying with ILO estimating an extra 200 million people earning less than $2 per day by 2010 – all in the informal economy. Yet some are from formal jobs, using the informal sector as a cushion, an insurance, until things pick u again. photo-1

Historically, the informal economy has been seen as problematic by developed country governments owing to lost tax revenues, workers’ lack of unions rights, low wages and the exploitation of the poorest. And developing country policies and approaches to economic planning and management are largely apeing the developed world’s model.

Yet, the recession is alerting us to the inherent resilience in the informal economy globally. It has existed for far longer. It is an evolved, even natural economy, suitable for local interactions. It cushions formal employment dropouts. And in developing countries it is larger, on average 40% of GDP over 17%.

But right now it is being stretched in developing countries. More informality coupled with less demand, owing to the recession’s cumulative impact, equals lower prices, and an even more competitive market. While the informal economy might be able to apparently support growing numbers of entrants (see this India example), it is unclear if this means lower overall individual earnings and margins? “Smaller-and-Smaller Slivers of a Shrinking Pie

The simultaneous growing informality and poverty is clearly a worry. Yet the apparent resilience of the informal sector hints at a solution; that developing country governments would be wise to reroute their economic development planning from the path of the developed world, and to make visible the informal economy, give voice to its participants and begin to validate their presence as useful and welcome economic actors through targeting them with appropriate economic policies. How can the developing world’ governments help the informal economy without formalising it?

Despite many experts arguing (and hoping) that the developing world would be sheltered from the economic crisis, it appears that the answer to the question ‘will the recession impact developing countries?’ is yes. And not only yes, but that the impact has been more severe than we might have expected.

2009 will be worse in terms of the severity of the impact than 2008 as the recession really begins to take hold, and much of the economic growth to date and the associated development gains will be undone throughout this period of global financial turmoil. A depressing story has begun to emerge. By the end of 2009, developing countries are expected to lose incomes worth at least $750 billion. In sub-Saharan Africa, the figure is over $50 billion. The consequences of this fall in income will be increases in unemployment, poverty and hunger. The ODI estimates that an extra 50 million people will be trapped in absolute poverty, with the number expected to rise to 90 million. As previously mentioned, hunger is going to increase significantly and is already on the rise, with 100 million more expected to go hungry because of the recession – having risen for the first time in 20 years.

There are a number of key ‘transmission belts’ which transmit the impacts of the recession to the developing world. These are explored further below:

1) Trade

The value of trade has been falling in some countries. Japan recently reported that it exported 50% less in February than it did a year ago. Falling trade is argued to be a result of a combination of falling demand for goods and a credit squeeze (npr). The ODI found that tightening credit conditions were happening for domestic bank lending in Cambodia, Ghana and Zambia.

Indonesian exports of electronic products experienced a fall of 25% (in value terms) in January 2009 compared to the previous year. Similarly the value of garment export in Cambodia has dropped from a monthly average of $250 million in 2008 to $100 million in January 2009 (ODI). This has inevitably led to decreases in employment, for example, Cambodia laid-off 15,000 construction workers in mid-2008 and 51,000 were laid off in the garment industry. Kenya, which is highly reliant on the labour-intensive horticultural industry, saw 1200 jobs lost this year and a 35% decrease in exports of flowers. Uganda, a traditional commodity exporter, has faced significant declines in the value of its exports, because of falling prices for coffee, flowers and cotton and declining demand since November 2008. The recession has been particularly damaging for countries highly reliant on one or very few commodities that have experienced falling commodity prices.

2) Remittances

The World Bank revised its estimates of remittances downwards, after remittances reached $305 billion in 2008, to $290 billion in 2009, the first decrease in a decade.

In all countries studied, remittances had decreased, but Africa is thought to have seen the most significant decline.  In Kenya, for example, remittances were down by 27% in January 2009 compared to January 2008, following a volatile year. In Bangladesh emigration fell by 38.8% between February 2008 and February 2009, jeopardising future remittances.

3) Private financial flows

Private financial flows have been affected by the downturn. In particular portfolio investment flows fell significantly in 2008, with some signs of significant shifts from inflows to net outflows. For example, in Bangladesh and Kenya, studied by the ODI, experienced net outflows of portfolio investment flows worth $48 million in July-December 2008 (for Bangladesh) and $48 million in June 2oo8 and $12 million in October 2008 (in Kenya).

Net private capital inflows to developing countries fell to $707 billion in 2008, a sharp drop from a peak of $1.2 trillion in 2007. International capital flows are projected to fall further in 2009, to $363 billion (World Bank). In Indonesia, there has been a massive sell-off of government bonds and in Kenya and Nigeria there has been a significant drop in portfolio equity flows, consistent with the sharp fall of their stock markets (ODI).

The World Bank noted this trend in South Asia. It estimates flows to South Asia fell by 29% in 2008, among the sharpest declines posted among developing regions.  Credit conditions for bank lending has been tightening in Cambodia, Ghana and Zambia. Foreign Direct Investment has been less severely affected, but this has varied by country.

Economic policy and social protection provision responses

Economic and social protection policy responses have been extremely varied across countries in the developing world, with some adopting a business as usual approach and others being more-proactive (ODI). For example, Cambodia is implementing growth accelerating policies whereas Indonesia is implementing fiscal stimuli. Kenya, on the other hand, has done relatively little.

In terms of social protections, some countries are struggling to implement anything that even meets existing commitments such as Kenya and Uganda, whilst others are attempting to extend coverage of social protection provision to respond to the crisis (Bangladesh, Ghana and Cambodia).

During the recession it will be important to continue monitoring the impacts and the effectiveness of policy approaches, and building on any lessons learnt. This may enable developing countries and the developed world to better support the most vulnerable and avoid the further undoing of past progress.


 

itq_ice[1]Iceland is a posterchild for economic incentive mechanisms for managing wildlife stocks. Its ITQ system is based on biological criteria, not political ones like many other systems which result from exhaustive bargaining in smoky rooms, billiard halls and corridors in Bruxelles. However, the Icelandic economy has been crippled by the financial crisis and is suffering a serious recession. And in what we worry is the beginning of a global precedent, the country is looking to its natural resources to restore value in its economy, particularly in its waters.

In January, it increased its whaling quota sixfold, and recently it has increased its catch by 32% in the first two months of 2009 over 2008. And while this trend began under the previous government, it has continued under the new government.

The potential quota-busting could be a rational response to underemployment, high demand and future uncertainty. Or it could be the beginning of a mining of the resource base that could have serious implications for the welfare of future fish stocks for Iceland and its main consumer base throughout Europe. There are two dual issues worth highlighting here.

First, there is a worry for the reputation of economics in supporting conservation. Fish is second to timber for value of trade. And there is evidence that ITQs work, at least for some fisheries. Alongside New Zealand’s quota management system and the clam and sea quahog fisheries in the US , Iceland is emblematic of sound economics driving and supporting conservation itq_ice2

Second, for the broader wildlife trade, the failure of the Icelandic QMS could spell the end of any flirtation with economic instruments. Yet, the wildlife trade labours to manage trade for conservation using CITES which uses a system of international regulation which is at best conservation-neutral and at worst a driver of unsustainable use of wildlife, ITQs offered some hope of salvation in light of very few alternatives to management.

Sustainableslump is concerned that conservationists will turn their back on promising economic incentives mechanisms, and that any hope for endangered species will be lost too.

Research exploring the link between the credit crunch, trade credit and export horticulture in previous financial crises, shows that sharp falls in the availability of trade finance did cause problems for exporters – for example, Indonesia during the East Asian financial crisis of 1997, as international lenders withdrew from markets perceived as risky, to reduce their exposure.

However, in today’s economic climate, research is ‘lacking hard evidence‘ to confirm that declines in world trade are linked to trade financing.

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In recent research carried out by John Humphrey, where he surveyed 30 African export firms, none reported trade finance problems, despite the WTO warning of ‘substantial falls in trade credit, increasing lending costs and credit rationing’ in the context of today’s financial climate:

‘As of February/March 2009, very few of these firms faced any problems with respect to the availability of trade finance. What explains this finding? One factor was the resilience of the domestic banking system. Firms reported that credit in general is available from domestic banks as long as firms showed themselves to be creditworthy. Horticulture firms are considered good risks by local banks, so they did not have problems accessing finance.’

In addition to being regarded as ‘good risks’ by domestic banks, many horticultural firms benefit from inter-company credit, between exporters and producers for example and this lessens their direct reliance on the domestic banking system.

Nevertheless, these conclusions cannot be applied to the whole of the developing world, or indeed blanketedly to Africa. In South Africa, for example, it is thought that some exporters and producers of citrus fruits have been hard hit by ‘bad debtors’. Humphrey also argues that anecdotal trends in Latin America and the Caribbean, show that exporters are suffering as banks withdraw their credit.  In addition the recession is thought to be having an impact on small-traders and co-operatives who don’t necessarily have the trade ties to access inter-company credit.

Despite the incomplete conclusions about trade finance and its impact on trade, initial results for the first quarter of 2009 show that the recession is taking its toll on exports, as trade falls. Results recently published by USAID and the HCDA in Kenya, report a 17% decrease in horticulture export quantities in January, a 16% decrease in February and a 10% decrease in March. This translates to even stronger figures in terms of value, with a 32% decrease in $US earned through horticultural exports in January, a 26% decrease in February and a 16% decrease in March. This undoubtedly is having an effect on employment. One Kenyan source suggests that two major flower companies have laid off over 800 people between them, with more job losses to follow. In addition some Asian vegetable exporters have ceased to operate, and so called ‘briefcase’ exporter have stopped trading – this is regarded as a sign in the industry that the market is suffering.

As the horticultural sector starts to feel the pinch, suppliers are also affected in terms of the costs of seeds, fertilisers, protective clothing, transport, irrigation, and other inputs. Also, because cash flow on farms is tight, suppliers often receive late payments, exacerbating the situation.

The loss of earnings from horticulture will have nationwide repurcussions for many countries- in Kenya, for example, 80% of the population is reliant on horticulture for their livelihoods and as jobs are lost and incomes fall, so will the purchasing power fuelled by export horticulture, creating a ‘ripple’ effect throughout the entire economy. In some ways the recession is highlighting more than ever, the benefits of sustainable trading relationships between retailers in the developed world, importers, exporters, and producers in the developing world.

The recession has drawn the aid debate into even sharper focus as ‘cash strapped’ governments in the West pledged to continue giving aid – G20 leaders agreed at last month’s summit London that an extra $50bn would be needed to assist the developing world through the global economic crisis.

Today’s global financial pressures place ever-heavier emphasis on the need for Aid to work, and the rising popularity of Zambian economist Dambisa Moyo has giving fuel to the debate of whether Aid should exist at all – the debate has raged between Moyo and Jeffry Sachs in particular. Moyo argues that Aid achieves the opposite of its desired effect, encouraging dependency, corruption and stifling enterprise and innovation:

“With aid’s help corruption fosters corruption, nations quickly descend into a vicious cycle of aid. Foreign aid props up corrupt governments – providing them with freely usable cash. These corrupt governments interfere with the rule of law, the establishment of transparent civil institutions and the protection of civil liberties, making both domestic and foreign investment in poor countries unattractive.”

She argues that the success stories used to support those who are pro aid-giving vary hugely from the African countries still receiving aid today – notably the aid the ‘success stories’ received was smaller in amount and shorter in duration – they then moved on to adopt market-based, job-creation strategies. Holman, former Africa editor of the Financial Times argues that aid diminishes the role and responsibility of the State to its citizens – the basic contract between a citizen and the State breaks down as the State fails to deliver basic services – roads, water, schools and clinics – within the context of an aid-dependent state, these services are better delivered by a third party, such as an NGO.

Moyo and Holman make some very valid points and for countries who rely heavily on aid, adopting new financing and development strategies and ‘weening’ themselves off aid in the long-term can only be a good thing. However, Moyo’s argument can also be taken at face-value and very simplistically and misused, without more detailed understanding of the nuances of her argument and of the different forms of aid and the circumstances in which it is needed and can work. We can ill-afford to desert the poorest who can only be worse-off as a result of the financial crisis and who are in need of basic social protection.

Steve Radelet, senior fellow at the Center for Global development in Washington, poses some solutions in ensuring aid is used in the right way:

  1. Be more selective. Africa is not a monolithic entity. More aid should go to countries that can use it well, especially the emerging democracies that are implementing sensible economic policies.
  2. Set clear goals, set them publicly, and measure results with independent monitors.
  3. Streamline bureaucracies and make sure a larger share of funds gets to those that need it most.
  4. Listen more. Ask Africans – government officials and ordinary citizens – what they need most and how programs can best be implemented both to achieve immediate goals and build capacity over time.

There is an intriguing new paradigm stalking the developing world, of politicians, national governments renationalising the environment and economic development.

In light of financial mis-management in the developed world, some southern American governments are realising that externally-imposed policies, systems and principles of economic development, aid and structural adjustment [sold to them by these same people who created the financial crisis] are also founded on quicksand. The governments of Bolivia, Ecuador, Nicaragua and Venezuela have all taken steps back from a globalised system of economic development to a more nationalised system.

In these natural resource rich nations, it doesn’t take a great leap of economic thinking to begin re-investing resource rents in locally sustainable ways. Not in ways which perpetuate economic slavery to past loans and agreements with previous US administrations. And in ways that conform to good environmental economic management of non-renewable natural resources. Bolivia has renationalised natural gas reserves. And when Ecuadorians re-elected Rafael Correa on April 26, they fully endorsing his policies of “21st Century Socialism” and collectively lay blame at capitalism’s feet for the global economic crisis. Operationally, Correa’s New Socialism means refusing to repay some foreign debts and significantly increasing social programs for the poor. ACAIJKIB8CAGQVIEYCAMLUMJGCAH1JC58CAPFV6I4CAPKWE8ECAJBVE28CAWJWA4UCA04KWHLCABYYH2VCAI2MRL7CAI0HP6XCAS46ADKCA7ADKW4CA4GWZWECAWWIX3ICA28LM4DCAMBG11R

But the principles appear good, that by taking responsibility for their problems, and matching these solutions to their opportunities, that there is stronger economic systems and hope of being permanently de-linked from their developed northern cousins. There are the skeptics of course, but SustainableSlump is watching in tempered awe.

The following article from the East African Business Week (Kampala) by Cedric Lumiti indicates that the slump will impact the East African Community by reducing economic growth this year by 2%. Significantly, the WTO suggested to African nations to resist the easy path to increased donor aid, instead to “look more on trade than on donations and grants”. This echoes Dambisa Moyo’s messages from her Dead Aid book, and might seem counter development, but with Africa’s banking system being relatively inured from the slump, now might be the time to seize the initiaitve and venure into international trade finance while the rest of the world stalls. As unlikely as it sounds, might African economists hold the key to relieving the world’s slump?

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“Africa: Trade Will Save Continent, Says Development Bank” by Cedric Lumiti, 2/5/09: The global recession will see East African Community economies’ growth recede by an estimated 2% this year. This was stated by African Development Bank (AFDB) President, Donald Kaberuka at the heads of state summit in Arusha, Tanzania.

The World Trade Organisation (WTO) has warned developing countries to tread carefully with donor funded projects. WTO Director for Economic Research, Patrick Low has cautioned developing economies in Africa which rely mostly on donor funds to look more on trade than on donations and grants.

African economies have equally been advised against employing protectionist measures that will hinder trade as this will only prolong the effects of the global recession with all signs showing that the crunch has come home to roost.

The Federation of Kenya Employers (FKE), a private sector umbrella body for employers, has already attested to the fact that no more hiring should be expected and nor will salary increments be affected in the near future. This announcement will only fuel increasing unemployment figures in the country currently estimated at 71 percent.

To the extent that we can do about it, it is important not to make the mistake of turning inwards and forgetting about the contribution that trade can make.

That’s the message that many people are trying to convey, don’t start restricting trade,” warned Low. While appreciating that majority of the countries in the world were grappling with fragile economies, the Geneva-based adviser pointed out that states need to urgently address the emerging issue of the absence of trade finance which is projected to lead to a nine percent contraction of the global trade volumes this year.

An article by the ODI argues that social protection is now a global imperative. It is in all of our interests to ensure that progress made in development over the last decade, particularly towards meeting the Millennium Development Goals isn’t undone by the current financial climate. McCord, from the ODI, argues that in previous crises, a lack of action to protect the poor exacerbated poverty and inequality and had a negative effect on economic growth. The crisis, has reminded us, more than ever, how very interconnected the world is. Countries are no longer immune from financial crisis in another.

The G20 made an commitment to care for the poor through a fund for social protection – McCord suggests ways in which this fund should be put to use. However, she does not deny the difficulties in providing urgently needed social funds when countries are faced with falling revenues – what she calls ‘the paradox facing developing country governments’. Macroeconomic stabilisation and growth strategies will not be enough – they will fail to help the impoverished.

What should be done?

McCord believes we should:

  1. Increase funding flows to the developing world on a medium-term basis. Predictability of ODA (overseas development assistance) becomes even more crucial if developing governments are to take ownership of social protection programs. They should ‘include multi-year ODA packages to safeguard the provision of basic health and services and the extension of social protection for growing numbers of poor’.
  2. Recognise institutional constraints. Many developing countries lack the technical and managerial skills required to develop, manage and implement social protection programmes. This could limit the effectiveness of increased flows of ODA for social protection programmes. As a result money should also be invested in capacity building and institution building.
  3. Rationalise existing social protection expenditure. This could enable governments to improve targetting to the poor, focus on more equitable social protection coverage and harmonise initiatives at the country level to improve efficiency and reduce duplication of effort and resources.
  4. Protect social protection expenditure. The temptation exists to cut health and education budgets during periods of financial constraints. It is essential that expenditures in these areas are protected.

A report published by Euromonitor in November last year argued that the theory of ‘decoupling’ – an economy that is able to grow, regardless of the economic pressures surrounding it –  for the so called BRIC economies (Brazil, Russia, India and China) had proved wrong, as ‘the financial meltdown sent stock markets in the BRIC economies tumbling‘. Many economists have debated whether the BRIC economies will follow the US’ gloomy path into economic meltdown as a result of their highly interconnected economies or whether the BRIC economies could emerge from the crisis unscathed.

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A major consequence of a globalised world, is that the impacts of the recession are also likely to be global. The BRIC economies have increasingly come to depend on foreign markets as consumers of their exports. Euromonitor predicts that Brazil and China will see weaker demand from the USA and Europe for their exports and India’s service sector will also suffer. Falling energy prices will impact Russia, being a country heavily dependent on oil for its GDP. According to the BBC ‘Russia has failed thus far to use revenues from oil to develop the economy to support growth now the commodity price for oil is falling. it has failed to develop a broad base of small businesses that can help Russia’s economy grow from another quarter.’ Russia’s economy is therefore heavily exposed to falling oil and energy prices and may be unable to sustain growth from other sources.

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However, BRIC economies have ‘large trade surpluses and foreign exchange reserves that make them more resilient to the crisis’. Additionally, the growing middle classes in these economies and their increasing purchasing power will help to shore up economic growth. ‘The crisis is also expected to remove the danger of inflation making life easier for BRIC consumers and allowing governments to ease interest rates, fuelling further growth.’ According to Newsweek, for example,  China’s retail sales grew by 15% in February this year. The article predicts that the BRIC economies will together be larger in dollar terms than the original G7 by 2027. The date for this milestone achievement has even been brought forward by the author of this article – such is his firm belief that domestic demand in those economies are proving that the notion of decoupling ‘is alive and well’.

Despite the fact that the BRIC economies may not be as badly affected by the crisis as the West, they are by no means completely immune. And where these economies are affected the West may also see consequent negative knock-on effects. This is the flip side of an economy in which decoupling is not as relevant as we might have hoped in today’s economic climate.

As cheap imports from China fall as a result of closing Chinese factories and global demand, the era of falling product prices for the West will be over.  Our spending has been funded largely be foreign money which is drying up due to the recession. Western companies and pension funds are global companies, investing in these emerging economies. It was hoped that that the BRICs could be a cushion for the western world and we might be able to export our way out of the recession. Some economists argue that ‘it is clear that this is no longer the case’.

Let us not forget that the BRIC economies are by no means wealthy by the standards of the West despite their recent history of significant growth and a global recession therefore bodes particularly poorly for the enduring levels of poverty that exist in these countries: ‘recession will be painful for millions even billions of the people in the BRIC countries – people who thought they were now in a world where they could feed their families. Our recession will mean they can’t’.

Predictions over the future of of microfinance vary between optimism and downright doom and gloom.

Inflation is thought to be the real criminal for any struggles Microfinance Institutions (MFIs) may face, leading to an increase in MFIs operating costs, leading to an extra burden on clients, most of whom are the poor. In addition MFIs may face difficulties as the cost of commercial borrowing rises – money is simply becoming more expensive. Some reports suggest that borrowing costs have risen by up to 4.5 % in some markets. Funding from development institutions like the World Bank’s International Finance Corporation (IFC) is likely to be stable but aid budgets are being cut and other sources are being threatened. Concerns are being raised over the refinancing of existing debt and reports by the IFC show that the share of borrowers 30 days delinquent on their loans has increased from 1.2% before the crisis to between 2% and 3% now. Although still low by most loan standards the Economist argues that ‘a prolonged credit crunch could make microfinance clients start to look more like those hapless subprime borrowers’.

However, Mohammed Yunus, Nobel Peace Prize winner, and founder of the famous Grameen Bank, argues that “we have not been touched in any way by the financial crisis. The simple reason is because we are rooted to the real economy – we are not paper-based, paper-chasing banking. When we give a loan of $100 behind the $100 there are chickens there are cows. It is not something imaginary“.

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Some research suggests that microfinance is relatively safe from the downturn because it ‘performs differently to the mainstream’ and is ‘counter cyclical’ and is very different to the subprime loans that some critics have compared microfinance to. This is because it lends small sums of money to people in the developing countries so start small, profitable businesses not overpriced homes. Indeed ‘many of those businesses serve local needs which has more merit at a time when exports are collapsing’. The Economist argues that the Microfinance industry is ‘sub-par but not sub-prime’.