This blog is based on my new ODI Background Note: The global financial crisis and developing countries (PDF, 97kb).
The global financial crisis has caused a considerable economic slowdown in developed countries such as the UK, Germany, France and the USA. The USA and UK face the greatest financial crisis since the 1930s. By contrast, the Malawian finance minister told me last week that he projects growth in Malawi of more than 8% this year. Nigeria is also projected to see economic growth of 8%, and China 9%. Will all developing countries be isolated from the downturn in the west? If not, which countries are at risk and how might the global financial crisis affect them?
While there are reasons for optimism, many developing countries are likely to face challenges in the near future. African growth has been exceeding OECD growth by margins not seen for 25 years, and grew at more than 6% in 2007 thanks to structural change. East Asia’s growth was 9% in 2007 and is diverging as much as when the world was last in a significant downturn in the early 1990s. However, a recent IMF publication has revised growth forecasts significantly downwards over the past three months, not only for the UK, but also for China, Africa and India.
The magnitude of the crisis will depend on the response of the USA and EU. Trillion dollar rescue packages are launched around the world, but while the markets may eventually respond, the UK is already in a recession. Its magnitude will depend, in part, on how accommodating monetary policy can be, with the recent interest rate cut a sure sign that the authorities are concerned more about the financial crisis than recent inflationary pressures. There is less scope for expansionary fiscal policy – in fact these rescue measures have increased public debt.
This global crisis affects developing countries in two possible ways. It can affect stock markets in emerging markets. We have seen share prices tumble between 12 and 19% in the USA, UK and Japan, while the MSCI emerging market index fell 23%. This includes stock markets in Brazil, South Africa, India and China. The Russian stock market ceased trading twice.
The second channel is through changes in the real economy, either directly or indirectly. A leading indicator of world trade and economic activity, the Baltic Dry index, has fallen by four fifths over the past five months. Exports, investment and growth are expected to fall, resulting in fewer jobs, lower incomes and more poverty.
Some developing countries are more at risk than others. Countries most at risk include those exporting directly to crisis affected countries. Four fifths of Mexican exports go a shrinking US economy that will have immediate and negative consequences. Countries that have diversified their exports to other countries may be affected indirectly, e.g. through eventual slowdowns in Mexico, China etc.
Exporting countries experiencing declining world prices are also at risk. Zambia will receive fewer copper export revenues (responsible for three quarters of its exports) as the price and demand for copper decreases. Also at risk are countries that export goods and services with high income elasticities, e.g. luxury goods including tourism. Caribbean and African countries already heavily dependent on tourism (sometimes accounting for up to 10-15% of GDP and employment) face declining tourism revenues and this will affect the poor.
Countries dependent on foreign direct investment, remittances, and development funds to finance the current account deficit will also be at risk. Investment deals are put on hold because it is impossible or too expensive to raise the financing.
Remittances from the USA to Mexico dropped by 4% in eight months. And countries dependent on capital flows, such as South Africa, cannot easily reduce interest rates to soften the blow. Oil importers are already suffering from a period of high oil prices and have seen their current account deteriorate from a balance to a 4% of GDP deficit over the past four years. Lack of trade finance is an obstacle to trade taking place and developing country governments (e.g. in Brazil) and development finance institutions (e.g. IFC) are considering their response.
Countries like India, with high government deficits, are also in a difficult position. Finally, countries dependent on aid face uncertain times and can only hope that developed countries continue to see the case for aid. The impact on developing countries will vary. It will depend on the response in developed countries to the financial crisis and the slowdown, and the economic characteristics and policy responses in developing countries.
This blog post features the author's personal view and does not represent the view of ODI.
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re: The global financial crisis. Which developing countries are most at risk? @ Tuesday, October 21, 2008 11:08 PM
Nice Article.
Liked reading it.
Thanx for posting.
re: The global financial crisis. Which developing countries are most at risk? @ Wednesday, October 22, 2008 10:02 AM
I believe that some areas of the Philippines are at a greater risk from increased poverty than is generally understood and that dramatic seasonal weather changes exacerbates poverty in these areas to a point of startvation for many.
re: The global financial crisis. Which developing countries are most at risk? @ Thursday, October 30, 2008 5:16 PM
This is an interestig article without a doubt. However, what would the impact be on least developed countries? Most of the countries mentioned in the article such as South Africa and China have been integrated into the global economy. However what about those countries which have not really been integrated into the global economy? with the exception of Aid and remittances, could it safely be said that they will not be directly impacted by the mere fact that they were not really part of the globalized economy of today?
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re: The global financial crisis. Which developing countries are most at risk? @ Monday, November 03, 2008 8:39 AM
i'm surprised this entry doesn't mention major exchange rate depreciation as a potential risk factor.
re: The global financial crisis. Which developing countries are most at risk? @ Monday, November 03, 2008 10:19 AM
Whilst there are, undoubtedly, huge challenges facing countries such as Malawi, there are also opportunities for attaining self sustainability by weaning us away from the dependency syndrome.
The falling prices of oil can be used to galvanize growth in exports and reduce balance of payments deficits, provided that fair terms of trade are applied.
re: The global financial crisis. Which developing countries are most at risk? @ Monday, November 03, 2008 10:44 AM
We really don't know yet how the LDCs are going to be affected but we know that there will be consequences.
It will be up to BOND agencies to unite in ensuring that their UK supporters are kept informed in order to exert political pressure to maintain and increase aid and debt relief in the coming months and years.
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re: The global financial crisis. Which developing countries are most at risk? @ Wednesday, June 24, 2009 10:06 AM
The emperical evidence on the ground shows clearly that countries whose sector have fully intergrated into the world economy have suffered more severely from the crisis than those which have not.China, despite her opening up to the world has done it quite consciously, informed by requisite capacity for sequencing and adjustment. Likewise, the intensity of the impact on the African countries has depended on the level of integration of the finacial sector and nature of their exports(raw materials to the rest of the world and the pattern of demand. Two clear lessons emerge from the observed trends.The need for Africa to adopt more of the elements of Chinese model of development.Second,the need for Africa to enhance thee ownership of her development agenda to boost resilience to future crisis.
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