Banking on Bonds: The New Links Between States and Markets

This is the first of two excerpts from a recent paper, co-authored by Daniela Gabor and Cornel Ban and published in the Journal of Common Market Studies, on the role of “repurchase agreements” (or “repos”) in the eurozone crisis. Gabor is an associate professor in the Faculty of Business and Law at the University of Western England-Bristol. Ban is an assistant professor of International Relations and Co-Director of the Global Economic Governance Initiative at Boston University.

Part 1 explains what repos are and how their importance has grown in recent years. Part 2, to be posted next week, describes the behavior of the European Central Bank in the repo market—for example, tightening the standards for use of repos as borrowing collateral by embattled private banks—which had a perverse (pro-cyclical) impact in the eurozone crisis. The full paper is available on the GEGI website.

Part 1: How Repos Work

Daniela Gabor and Cornel Ban

The ‘repurchase agreement’ (often referred to as ‘repo’) has become a key financial device for contemporary capitalism. Though the legal and formal definitions of a repo transaction can make it sound quite complex, it most simply can be thought of as a (usually short-term) secured loan. In a repo transaction one institution (the lender) agrees to buy an asset from another institution (the borrower) and sell the asset back to the borrower at a pre-agreed price on a pre-agreed future date (a day, a week or more). The lender takes a fee (repo interest rate payment) for ‘buying’ the asset in question and can sell the asset in the case that the borrower does not live up to the promise to repurchase it. The fundamental purpose of this circular transaction is to lend and borrow funds (and, in some cases, securities). While financial institutions use it to raise finance, central banks use it in monetary policy.

To illustrate, suppose Deutsche Bank (DB), acting as a borrower, sells assets to a buyer (Allianz), acting as a lender, and commits to repurchasing those assets later (see Figure 1). Allianz becomes the temporary owner of the assets, which also serve as collateral, and Deutsche Bank has temporary access to cash funding. DB and Allianz also agree that the purchase price is less than the market value of collateral (€100) – in this case a 5 per cent difference, known as a haircut. This provides a buffer against market fluctuations and incentivizes borrowers to adhere to their promise to buy securities back. In our example, DB provides €100 worth of collateral to ‘insure’ a loan of €95. When the repurchase takes place, DB pays €95 plus a ‘fee’ or interest payment in exchange for the assets it had sold.

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U.S. Matters

Sunita Narain

This blog post, from regular Triple Crisis contributor Sunita Narain, expands on the arguments put forth in her earlier letter (with co-author Chandra Bhushan) about their recent report on U.S. government policy on climate change: “Captain America: U.S. Climate Goals—A Reckoning.” Narain raises tough criticisms here not only of the inadequate steps that the U.S. government has taken on climate mitigation, but also the complacency of U.S. civil society in counseling the world to wait for the United States to get its act together. As she points out, the world cannot afford to wait, for every day of delay further shifts the burdens of climate mitigation from the U.S. to other shoulders. —Eds.

Why should we look at the U.S. to check out its climate action plan? The fact is that the U.S. is the world’s largest historical contributor to greenhouse gas emissions—the stock that is already in the atmosphere and already warming the earth’s surface—and the second largest contributor (after China) to annual emissions. What the U.S. does makes a huge difference to the world’s fight against runaway climate change. It will also force others to act. It is, after all, the leader. And now, after nearly three decades of climate change denial, the U.S. has decided enough is enough. President Barack Obama has said clearly that climate change is real, and his country must act. It has submitted its Intended Nationally Determined Contribution (INDC)—its emissions reduction framework—to the climate treaty secretariat. The world is already celebrating—the prodigal has returned.

My colleague Chandra Bhushan and I humbly disagree. Our research, which we present in our just released report, Capitan America, presents a few inconvenient truths that might throw cold water on the celebration. The U.S. climate action plan is neither ambitious nor equitable. Worse, it is but business-as-usual. When implemented emissions reduction will be marginal. Whatever reduction is achieved, whether due to increased efficiency or a shift in fossil fuel use, will be negated by runaway gluttonous consumption. We conclude, for the sake of the world’s future: American lifestyle can no longer remain non-negotiable.

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Africa and the WTO

The Perils of Weakening the Development Agenda

Biraj Patnaik and Timothy A. Wise

Biraj Patnaik is the Principal Adviser to the Commissioners of the Supreme Court of India in the Right to Food case. Regular Triple Crisis contributor Timothy A. Wise is the Policy Research Director at Tufts University’s Global Development and Environment Institute.

In the 2013 WTO Ministerial in Bali, India stood mostly alone as the rich countries tried to isolate the government for its stockholding and food security program. But India is far from alone in recognizing the value of public food reserves as insurance against price volatility, emergency food in the event of shortages, and stocks for anti-poverty programs.

In fact, many African countries, including Kenya, Egypt, and Zambia manage such initiatives. They would be deluding themselves to think that the WTO measures taken against India will not be used against them. Most of these countries have exceeded, or are on the verge of exceeding, the de minimis limits set by the WTO’s Agreement on Agriculture (AoA), tripped up by the same loophole that has snagged India. That technicality, which artificially inflates the calculation of subsidy levels, must be resolved in Nairobi along with additional progress on outstanding agricultural issues in the long-running Doha negotiations.

To put the Doha Round in perspective, suffice it to say that even if the entire round was concluded to the satisfaction of the developing countries, it would not address any of the issues of food sovereignty that are raised by social movements in the Food and Nutrition Watch 2015, released today at FAO in Rome. It is, thus, from the perspective of social movements, a minimalist package facilitated by the WTO – an agency that they believe does not have the legitimacy to deal with issues of agriculture and food security, and which ultimately seems to favor corporations and profit interests of the most powerful States.

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What We’re Writing, What We’re Reading

Triple Crisis contributors Martin Khor and Sunita Narain are both interviewed in the new film This Changes Everything, “inspired” by the Naomi Klein book of the same title and narrated by Klein. Here’s the description from the film website:

Directed by Avi Lewis, and inspired by Naomi Klein’s international non-fiction bestseller This Changes Everything, the film presents seven powerful portraits of communities on the front lines, from Montana’s Powder River Basin to the Alberta Tar Sands, from the coast of South India to Beijing and beyond.

Interwoven with these stories of struggle is Klein’s narration, connecting the carbon in the air with the economic system that put it there. Throughout the film, Klein builds to her most controversial and exciting idea: that we can seize the existential crisis of climate change to transform our failed economic system into something radically better.

What We’re Writing

Daniela Gabor and Cornel Ban, Banking on Bonds: The New Links Between States and Markets

Patrick Bond, Only Pressure on South Africa’s Elites Can Ease University Fee Stress

C.P. Chandrasekhar, The Nobel Committee for Economics Makes Amends, at Least for Now

Matias Vernengo, Causality and the New World Economic Outlook (WEO)

What We’re Reading

European Commission, Press Release: Illegal Tax Advantages Granted by Luxembourg (Fiat) and the Netherlands (Starbucks)

Florence Jaumotte and Carolina Osorio Buitron, Union Power and Inequality

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The World Bank’s Second Chance in South America

Kevin Gallagher

Earlier this month the World Bank held its annual meeting in Lima, Peru—the first time the Bank’s annual gathering has touched down in South America since 1967. Planned long in advance, the original idea had been to celebrate the region’s return to economic growth.

But now there is little to celebrate in the region, as Latin America’s China-led commodity boom has reached a limit and the region faces sliding growth and growing social and environmental conflict.

Riding the coattails of the China-led commodity boom, between 2003 and 2013 Latin American countries grew faster than any period since the relatively high growth of the 1960s and 1970s. As a result, during the boom many countries in the region were able to erase the increases in inequality from the low growth, crisis-ridden Washington Consensus period from the 1980s to 2002—a period associated with the unpopular World Bank and International Monetary Fund (IMF) programs.

At the same time China is experiencing a bumpy transition to a more consumption-led economy and is no longer driving a global commodity boom. The decline in China’s demand for commodities, in part, explains why Latin America is projected to grow at just 0.5 percent in 2015.

While Latin American leaders must be credited for using some of the proceeds to reduce poverty and inequality during the China boom, those same leaders invested little of the proceeds to diversify into services and manufacturing activities that could have picked up the slack now that commodity prices have plateaued and even begun to fall.

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Walled Off From Reality

Trump’s claims about immigration economics are without merit.

John Miller

Mexico’s leaders have been taking advantage of the United States by using illegal immigration to export the crime and poverty in their own country. The costs for the United – States have been extraordinary: U.S. taxpayers have been asked to pick up hundreds of billions in healthcare costs, housing costs, education costs, welfare costs, etc. … “The influx of foreign workers holds down salaries, keeps unemployment high, and makes it difficult for poor and working class Americans—including immigrants themselves and their children—to earn a middle class wage.
— “Immigration Reform That Will Make America Great Again,” Donald Trump campaign website

Donald Trump’s immigration plan has accomplished something many thought was impossible. He has gotten mainstream and progressive economists to agree about something: his claims about the economics of immigration have “no basis in social science research,” as economist Benjamin Powell of Texas Tech’s Free Market Institute put it. That describes most every economic claim Trump’s website makes about immigration: that it has destroyed the middle class, held down wages, and drained hundreds of billions from government coffers. Such claims are hardly unique to Trump, among presidential candidates. Even Bernie Sanders has said that immigration drives down wages (though he does not support repressive nativist policies like those proposed by Trump and other GOP candidates).

Beyond that, even attempting to implement Trump’s nativist proposals, from building a permanent border wall to the mass deportation of undocumented immigrants, would cost hundreds of billions of dollars directly, and forfeit the possibility of adding trillions of dollars to the U.S. and global economies by liberalizing current immigration policies. That’s not counting the human suffering that Trump’s proposals would inflict.

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The Plutonomy Is Doing Fine

Matias Vernengo

The new issue of the Credit Suisse Global Wealth Report (2015) has been published. Below is the distribution of global wealth.

regional composition of global wealth distribution

Nothing has changed much since we posted the previous version here. As I commented regarding the previous version, the poor are fundamentally in Africa, India, and Asia-Pacific (mainly Bangladesh, Indonesia, Pakistan, and Vietnam), while the wealthy are in the United States, Europe and Asia-Pacific (i.e. Japan). China has more people in the middle section of the wealth distribution than at the extremes.

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What We’re Reading, What We’re Writing

What We’re Writing

C.P. Chandrasekhar and Jayati Ghosh, Understanding “Secular Stagnation”

Martin Khor, Debate on TPPA Will Continue

Sunita Narain, Dengue, Another Climate Alert

Matias Vernengo, Branko Milanovic on Global Inequality

What We’re Reading

Nina Eichacker, Too Good to Be True: What the Icelandic Crisis Revealed about Global Finance

Robert Pollin and Shouvik Chakraborty, An Egalitarian Green Growth Programme for India

Franklin Serrano, Brazil´s Sudden Neoliberal U-Turn

Rachel Thrasher, Dario Bevilacqua, Jeronim Capaldo, Trade Agreements and the Land: Investment Agreements and Their Potential Impacts on Land Governance

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Trading Away Land Rights

TPP, Investment Agreements, and the Governance of Land

Rachel Thrasher and Timothy A. Wise

In 2009, the government of Mozambique put a moratorium on large-scale land acquisitions, a belated response to a wave of protests triggered by so-called “land grabs” by foreign investors. The moratorium, which lasted two years and restricted only land deals larger than 25,000 acres (10,000 hectares), calmed tensions while the government sought to resolve the inconsistencies between the great land giveaway and the country’s progressive land law, which recognizes farmers’ land rights even when they do not hold formal titles.

Some of those investors were from the United States, and it is a wonder that they didn’t sue the Mozambican government for limiting their expected profits. They could have under the Bilateral Investment Treaty (BIT) between the United States and Mozambique.

As U.S. trade negotiators herd their Pacific Rim counterparts toward the final text of a long-promised Trans-Pacific Partnership Agreement (TPP), the investment chapter remains a point of contention. Like the 1994 North American Free Trade Agreement (NAFTA) and most U.S. trade agreements since, the TPP text includes controversial provisions that limit the power of national governments to regulate incoming foreign investment and give investors rights to sue host governments for regulatory measures, even those taken in the public interest, that limit their expected returns. A host of BITs with a far wider range of countries, including Mozambique, contain similar provisions.

The impact of such agreements on land grabs and land governance has received scant attention until recently. As new research from the International Institute for Environment and Development (IIED) and Tufts University’s Global Development and Environment Institute (GDAE) shows, the kinds of investment provisions in the TPP and in most BITs can severely limit a government’s ability to manage its land and other natural resources in the public interest. They can also interfere with the implementation of newly adopted international guidelines on land tenure.
As GDAE’s research shows, there are alternatives to such restrictive investment rules. Mozambique, for example, could withdraw from its BIT with the United States and instead draw on the less constraining investment provisions offered by the Southern African Development Community (SADC).

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No Case for Complacence

C.P. Chandrasekhar

Though restricted to a single day, the 1625-point collapse of the Sensex on 24 August 2015, which was the largest single-day decline in six years, appears to be a signal that all is not well with the Indian economy. More troubling is the steep depreciation of the rupee from Rs. 63.8 to Rs. 66.7 to the dollar over the fortnight ending August 25. The government has tried to brush these developments under the carpet claiming that the disease is global and the Indian economy is strong enough to resist contagion. All that is needed is to stick with reform, it argues.

What emerges, however, is that as a result of continuous and incremental liberalisation, including of transactions on the capital account, the Indian economy is extremely vulnerable to even minor shocks such as flagging growth in parts of the world economy or policy measures such as an interest rate hike that encourage the exit of investors from financial markets in developing countries. That makes the current global environment one that can be extremely damaging for India.

The world’s investors are on the run, away from equity, to gold and bonds, especially U.S. Treasury bills, indicating that the flight is to safety. The result has been a collapse in equity markets worldwide. Given the whimsical behaviour of investors, this may be seen as of little consequence. But the fears that have overcome investors this time seem more significant because of the factors prompting them. These include: evidence and implications of a major slowdown and crisis in China; the consequences of that for emerging markets, especially commodity producers and countries that have attracted large capital flows during the period that followed the financial crisis of 2008-09; and, the resulting spin-off effects on the US, and the negative feedback loop that would be triggered by the likely U.S. response to its predicament.

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