Impact of GLobal Financial Crisis on OIC Member States

Islamic Development Bank

IMPACT OF GLOBAL FINANCIAL CRISIS ON OIC MEMBER STATES

Presentation to the 24th Session of the COMCEC,

Istanbul – 20 October 2008

20 October 2008

• Global Financial Crisis How It All Started? How It Turned Into a Global Crisis

• What are the Implications ?On developed countriesOn developing, including OIC, countries

• What are the Vulnerabilities ?MacroeconomicSectoral

• What are the Opportunities ?

Contents of Presentation

Global Financial Crisis – How It All Started• Unknown Unkowns Have Turned Into Known Unknowns!

[Prof. Paul Krugman commenting on the nature of the US financial crisis on 15 September 2008]

• Interconnections and cross-exposures of risks– major Wall Street investment banks, – hedge funds, – unregulated credit default swaps market, and other derivatives

• Loosenıng the Reins – Guess What??– Net Capital Rule Waived for US Investment Banks– Unleashed reserves held to cushion losses– 28 April 2004 / 55 minutes

• Dark Heart of the Financial System – Toxic Debts– $10 trillion ın securitized assets– $55 trillion market in credit derivatives and credit default swaps– Mechanism routinely used to insure banks against losses on risky investments– CDS market size is more than twice the size of the combined GDP of the US,

Japan and the EU

US Financial Crisis – How It All StartedJuly 2008

• US Federal Reserve supported the rescue of Bear Stearns by taking $29 billion of the investment bank's mortgage-related assets as collateral for a loan to J. P. Morgan Chase, which then agreed to ‘acquire’ the insolvent investment bank

Begınnıng September

• Fannie Mae and Freddie Mac, the two largest US mortgage lenders having a portfolio of about $5 trillion in home loans, which is equivalent to about 40 percent of the US mortgage market, were effectively nationalized by the US Government.

Mid-September

• Crisis was triggered following the liquidation of 158 years old investment bank Lehman Brothers,

• ‘Forced sale’ of 94 years old Merrill Lynch

From US Crisis to Global Implosion3rd Week - September• The US sub-prime mortgage credit crisis turned into a financial implosion

when the largest insurance company in the world – American International Group (AIG), which operates in more than 100 countries - effectıvely became ınsolvent

• US Treasury organızed $85 billion loan rescue package for the American International Group (AIG)

– Default by AIG was imminent mainly due to the falling value of its debt securities and insurance contracts, - CDS - amounting to $441 billion; of which more than three quarters were held by European Banks

• Contagion Effect on Major Financial Institutions ın Europe– UK, Switzerland, France, Germany, Iceland, Netherland, and elsewhere

– Seizing -up of ınterbank lending market

– Deposit guarantees

– Partial nationalization of financial institutions

Implications of Global Financial Implosion

Inter-mixing of – Commodization of cross-market risks– Investment instruments– End of investment banks in the US

Swirling Effect– Credit sequeeze: Seizing-up of interbank lending– Cost of lending to businesses and consumers has

become prohibitive


• OECD Countries– Deterioriation of Public Finance

• Global costs of rescue packages = $3.2 trillion• Size of US rescue package = $700 billion

(= GDP of Netherlands; 5 times the GDP of Pakistan; $100 billion short of cmbined GDP of Africa)

– Onset of Recession: IMF Forecasts for 2009

GDP Growth

Global 3 %US 0.1 %Euro area 0.2 %Japan 0.5 %

World TradeImports

OECD 1.1 %Developıng 10.9 %

ExportsOECD 2.5 %Developıng 7.4 %


Developing and OIC / IDB Countries• De-coupling of Growth and Trade Performance

2007 2008 2009

IDB / OIC Member Countries

GDP Growth (% p.a.) 6.1 5.9 5.5

Inflation rate (% p.a.) 8.2 12.2 11.5

Current Account Balance(% of GDP) 7.9 10.6 7.8

Developing Countries

GDP Growth (% p.a.) 8.0 6.9 6.1


Source: World Economic Outlook, IMF, October 2008

Region-Wise Macroeconomic Outlook of OIC / IDB Member Countrıes

2007 2008 2009

SSA (22 MCs)

GDP Growth (% p.a.) 5.7 5.9 7.0


CAB (% of GDP) -1.8 1.6 -2.0

MENA (19 MCs)GDP Growth (% p.a.) 5.4 5.6 5.1


CAB (% of GDP) 10.8 14.4 10.6

2007 2008 2009

Asia (8 MCs)

GDP Growth (% p.a.) 6.3 6.1 4.9


CAB (% of GDP) 4.6 2.8 2.7

CIT (7 MCs)GDP Growth (% p.a.) 11.7 8.1 8.6


CAB (% of GDP) 4.3 11.8 11.9

Key Macroeconomic Vulnerabilities for OIC / IDB Member Countries

• Reduced ODA flows in the short-term– Re-prioritization of government expenditures in OECD countries toward salvaging their own

financial sectors and to minimize recessionary conditions

• Reduced private capital flows, including FDI – Financial institutions and private investors reconstituting their balance sheets and

reassessing risks

– IIF is projecting that net capital inflows to 30 emerging markets would decline sharply from $899 billion in 2007 to $562 billion in 2009.

– Normal credit lines could be curtailed, reducing the ability to undertake trade financing

• Weaken some countries’ ability to service external debt – Recession in OECD countries and reduced capital inflows could, among other

consequences, generate capital flight and negatively impact exchange rate stability

– Resultant negative effects on countries’ credit ratings could further militate against restoring normal capital inflows—at least in the short run

• Adverse ‘terms of trade’ and BoP effects– Recessıon ın OECD countries reduce primary commodity prices and export earnings

– Net effect on the trade balance of oil importing countries is ambiguous because of the falling cost of oil imports

Key Sectoral Vulnerabilities for OIC / IDB Member Countries

• Exposure of GCC sovereign wealth funds and wealthy individuals– It has been estimated that the assets of Gulf SWFs in the US and Europe have dropped by

30 percent during the past year, which translates to an estimated book loss of $30 billion resulting from the on-going global financial crisis

• Threats to financial sector intergrity – Incipient outflows of banks’ deposits, guarantee of deposits, and massive ınjection of

liquidity in the bank system

– Contagion effect of some banks’ exposure to troubled or failed banking institutions in US and Europe

– Hıgh exposure of banks, particularly Islamic banks ın GCC, to real estate sector

• Threats to capital markets – Turmoil ın stock markets; shaking investors confidence

– ‘Flight to safety’ – impeding flow of new equity investment as a favoured asset class and possible shift of new investment flows to sovereign bonds and commodity markets

– Slowdown ın ıssuance of new corporate bonds, including sukuks ın GCC region

Key Opportunities for OIC / IDB Member Countries• De-coupling of economic growth and trade performance

– Export share of developing countries, including IDB member countries, to developed countries is 50% of their total exports.

– Opportunity to focus increasingly on regional integration as a source for improving economic prospects

• Mobilize resources from international capital markets for supporting MDGs– Donor countries have failed to deliver on commitments to increase ODA by $18 billion a

year to keep their pledge to provide $50 billion by 2010

– With the support of sovereigns, IDB and other regional MDBs to seize strong appetite for quality bonds / sukuks and launch a medium-term mega MDG Fund aimed at mobilizing resources on sub-Libor term

• Attract foreign direct investments– Engage and facilitate SWFs, which were important player on the global business landscape,

to invest in OIC counties

• Attract institutional deposits / investments– Central bank placement of reserves and financial institutıons treasury investments

– Good quality sovereign and institutional bonds (including sukuks) can be rapidly launched in order to attract global liquidity as options and yields in developed financial markets are dried out

• »»»Coordination of positions ın the re-designing of international financial architecture

Documents

Impact of GLobal Financial Crisis on OIC Member States