RA Status Report: Any Improvement in Trade and Foreign Indebtedness?

There have been some positive developments in the past year with regard to the structural economic outlook for RA. In some 3-7 years these improvements will result in higher productivity growth and less reliance on foreign funding.

Generally a country’s international financial independence is judged by the metrics Net International Investment Position and Current Account Balance.

NIIP is the sum of the aggregated Current Account deficits/surpluses through time. Said otherwise, CA is the first derivative of NIIP. (In turn, CA = Trade Balance + Transfers + Investment income.)

Each year of a CA deficit, as is usually the case for RA, implies accumulation of debt/liabilities toward foreigners.

The first chart decomposes RA’s International Investment Position into asset and liability categories. Assets are mainly Reserve Assets of the CBA and private RA residents’ holdings of foreign currency (categorized as Other Investment Assets).

Liabilities are principally Other Investments, which at present are mostly loans from supra-national organizations such as IMF, WB, ADB, etc. It is notable that FDI (Direct Investment Liabilities) into RA, a “good” type of Liability spurring knowledge sharing and productivity improvement, has remained stagnant since 2011.


Second chart plots the balance, that is the Net International Investment Position (NIIP) versus GDP. The metric has stabilized at low levels and has yet to reverse. It is when NIIP turns positive that a nation becomes creditor to the world economy rather than a debtor. Current levels of NIIP are on par with other vulnerable developing nations.

niip r

The third chart depicts the Current Account balance, that as mentioned drives the NIIP. The CA has improved, but mainly due to lower goods imports into RA. Such dynamics usually take place when a country experiences an economic downturn. This decreases consumer spending & business investment and thus also demand for foreign goods.

ca r

The final 2 charts present the Goods and Services Trade balances as well as balances for Tourism and IT Services specifically.

As illustrated, the Tourism surplus has now been reversed, likely due to lower economic growth abroad as well as the strength of the AMD versus EUR and RUB in particular.

IT services outlook is more beneficial as the category continues to grow rapidly although from a low base. Moreover, the positive balance on this category is likely to be understated as data releases elsewhere show numbers twice as high. (IT services are also more difficult to track which makes them prone to being underreported, i.e. activity is in the shadow economy). Finally, recent private sector educational/training initiatives are likely to increase the domestic supply of qualified labor which will help satisfy currently unmet foreign demand.

serv 2


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Interview with 1in.am

On Armenia’s economic structure, productivity and IT sector potential.


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Mexico Fixed Asset Investment and Trade

Mexico related asset classes have been under pressure. Some reaching significant dislocations versus historic averages and trends. Below takes a look at the economic data to try to establish the drivers.

In times of global uncertainty the place to start, at least in case of developing economies, is the Balance of Payments. Mexico has had a moderate Current/Trade Account deficit since late 1990s, but the deficits have been of the “good” kind, meaning that they were the result of a country that, as an attractive investment destination (e.g. due to NAFTA), was importing investment capital goods to set up export oriented factories and other productive projects. (The “bad” kind of a CA/Trade deficit would be where a nation imports consumption goods that drive the shortfalls instead).


The strong FDI flows have been maintained recently as well – even in the face of a global economic deceleration. As a result capital goods imports have blown out meaningfully – driving a further deterioration of the Current Account deficit. Given the global financial volatility (as well as presidential elections across the border), foreign investors, who usually start to take note of fundamentals when times turn bad, began to liquidate holdings causing a stir in Mexican capital markets.


Panic sell-offs can become irrational especially in case when headline level deteriorations are caused by actions and policies that should ultimately prove favorable. In case of Mexico though, things become a bit more concerning when one takes a look at 2nd order data. Inward direct investments is usually a welcome sign, but of consideration should also be to what areas these investments have been committed; which are the ultimate destinations of the future produce; etc.


It turns out, and anecdotal evidence has time and again brought this to one’s attention, Mexico is heavily exposed to the US market in general (+80% of exports) and Transportation equipment production/exports in particular. Moreover recent FDI and Fixed investment flows have also gone to autos and ancillary produce sectors.


Given the above, one may take a view that in the medium term, as oil prices recover, trade balances will improve. The heavy US exposure concentrated to autos is a more difficult matter though. Arguably that market has already passed its business cycle high. Secondly, this auto credit cycle has been marked by such loose standards that analysts are talking of subprime again. Another risk is the outsourcing backlash from US where debates on manufacturing job losses have put China and Mexico in focus. Finally, while low oil prices have in latter years accelerated car sales, the opposite should come into effect when oil markets rebalance.


To make a general conclusion, Mexican assets have indeed become more interesting in light of recent corrections. But as a macro investment case the country would be far more interesting if it’s investment and trade were more diversified, both geographically and industry wise.

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Japan Industrial Production – All Quiet?

Reports from the recent G7 meeting in Japan said there was a disagreement on how to interpret the ongoing slowdown in global economic growth and trade flows. On the one hand, Japan said to have pushed for a more explicit and concerned statement, on the other, the rest on the participants didn’t want to stir alarm and were more reserved in their evaluation.

Below two charts illustrate growth of Japanese industrial production broken down into its major components (Transport Eq., Chemicals and General Machinery are the largest categories).


As seen most of these sectors are in contraction mode – but have also been there on-and-off ever since 2009. Volatility has been due to factors such as the Eurozone crisis, the 2011 earthquake, the 2012 Yen devaluation and more recently the global business cycle slowdown. But there is not yet a sign of a drop-off comparable to that of 2008.

Still, and putting aside the political dimension of things, one should acknowledge that Japan’s central position in international supply chains and its statistical institutions’ general heft, is likely to give its policymakers relevant insights into the prospects for the global economy.

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Interview with H3


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US Portfolio Capital Flows

US residents have historically made significant investments abroad, whether via FDI or portfolio flows.

Portfolio allocations have been skewed towards riskier securities such as equities (as opposed to government bonds). Conversely, foreigners’ preferred structure of US security holdings has been the opposite (emphasis on bonds instead). This had the effect of generating higher income to Americans than the income provided to foreigners from US assets.

Another important effect was that in times of turbulence US residents repatriated their holdings from abroad, while foreigners (many from developing/commodity producing nations) were less keen to do so as the dollar proved to be a more reliable asset than their domestic currency. In aggregate this led to substantial US net inflows during global uncertainty or recessions. See chart below. (1998 – Asian crisis & IT Bubble, 2008 – Financial crisis, 2011 – Eurozone crisis, 2014 – the oil price fall and the emerging market stress).

What is notable is the extent of the repatriations this time around. Underlying data indicates that on net, Americans have reversed all of their outflows going back to June 2011. Said otherwise, US residents’ net portfolio flows abroad from June 2011 until February 2016 abroad were 0. While the 57 month duration is matched only once, 1998-2002, the extent of the current capital flows reversal is much larger.

Consequently, this has provided a substantial support for the recent strength of the US Dollar; with all of the second round effects on other markets, from commodities to tradable goods equities in US and in other markets. Portf Inv US

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Equity Returns and Inflation

The fundamental outlook for global inflation remains muted. In fact there is a valid argument to be made that supply-demand balances for many commodities and trade-able goods and services are in fact deflationary.(Causes are many, one that is not as frequently mentioned is the structurally lower credit growth around the world. Past rapid credit expansion spurred overconsumption on the demand side motivating credit enhanced over-supply/-investment on the part of businesses).

Even so, the continued and motivated actions of central banks will in most likelihood achieve the desired objectives. At least at some point.  ”"Helicopter money” discourses were taken note of, but not discussed at April [2016] governors’ meeting”, to paraphrase the ECB president.

Inflation, especially of the unanchored kind, will solve several of the current structural issues but will also cause problems. Especially with regard to off-balance sheet liabilities such as pensions. Current pension assets are in most cases long duration fixed income (i.e. 20-50y bonds), pricing of which is duly sensitive to higher inflation rates.

Below chart illustrates the inflation adjusted returns on SP500, US equities, and inflation itself, via CPI. (The smoothed lines are the 36 month moving averages).

Apart from the recessions of 2001-2 and 2008-9 and the inflationary 1970s, the 3 year real returns have been positive. But the extended under-performance 1970 through 1982 is notable. On a brighter note, the nominal performance during the 70s was positive apart from 1971, 1973-1975 and far less dire than during the last two recessions.

Real SP500

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Do Exchange Rates Affect Services Trade?

I came across these charts depicting movements in exchange rates and their influence on international tourism. The first one is for US, the second for Australia. (Note that the right hand axis on the charts is inverted, meaning that a strengthening currency implies a move lower in the exchange rate line).ER & Tourism_1
ER & Tourism_2

The correlations seem to be quite close although there is a time lag between the variables. More anecdotal reports suggest that Japan has also been experiencing a boom in foreign travel and a jump in spending at luxury stores. All on the back of a significantly weakened currency in recent years. And this makes sense. Recreational travel destinations are not set in stone from one year to another. There are substitutes available and price does have an effect on demand.

Another accepted axiom in economics says that revenue brings profits, profits incentivize new investment and new investment creates new employment.

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Letter to Central Bank of Armenia

I was recently invited to a meeting organized by CBA to exchange opinions and ideas on the institution’s policymaking and regulatory activities. Present were heads of associations, economists and other stakeholders. Upon a request, below is a letter forwarded to the Vice-President of CBA.

“Thank you for the informative session the other day. Very good initiative.

Reinforces my view of CB being a professional and responsible institution.

As a material for further discussion, and as requested, there are 2 points I’d like to make.

a) this is currently unorthodox, but I don’t see any material benefits of promoting/supporting Consumer Credit and CBA should in my opinion implement macro-pru or regulatory tools to check its further expansion or disincentivize it.

•Increased CC by and large doesn’t support any domestic productive investments.

•It directly drives a wider net export deficit.

•CC has grown above any other type of credit last time I checked (+20% YoY).

•CC only pulls consumption forward and promotes increased consumerism (something our society is already prone to).

•Counteracts a savings culture – ingredient to any nation’s success as history shows.

•Increases societal stresses.

•Armenia doesn’t have to follow in the footsteps of other increasingly over-indebted developed and developing economies.

I understand that CC promotes “growth”/importer profits and is thus politically expedient, but any trade-off analysis for the country of Armenia would indicate a significant negative.


b) Second point is on the exchange rate management,

as you well know AM has an extraordinary Current Account(CA) deficit and growingly worrisome Net negative International Investment Position (NnIIP). We have moved from labor-export-activity to debt accumulation for import financing purposes.

•For several years Armenia has been taking on hard currency debt, pushing it into the market and thus implicitly subsidizing importers’ profits (often monopolized). Again, this does nothing to improve productivity, investment or sustainable collective welfare.

•When flows stop, who will ultimately drive decision making in this country, us or creditors? One can be cynical and assume a posture (as other nations have done) that when flows stop “at least IMF will bail us out and push reforms when we can’t ourselves and we’ll adjust”. The shocks on the society are very large in this case. And this would not qualify as a responsible policymaking.

•I’ve have heard a lot of arguments on this both from local fiscal and monetary policy makers. They usually range from uneducated to disingenuous. Economic history proves something else. So do actions of current, far more competitive countries. Instead of promoting exports which drive domestic investment, productivity and employment we’re subsidizing these activities abroad.

•My suggestion is not any major overhaul in CB’s policies today – it’s too risky in this stage of the business cycle.

•What I want to stress though is that CBA should, as soon as it is opportune, consider moving towards a trade-weighted-basket managed currency that is gradually and continuously weakened until we get to CA surplus and improved NIIP position.

•Managing private sector expectations towards a weaker AMD will also disincentive actors taking “cheap” hard currency loans.

•Confidence in CB is high enough for success of such a policy. Many countries have done this successfully and there are no unsurmountable obstacles. On the line are matters from sustainable economic welfare to independence and self-financed security guarantees.

•Sudden stops as you know are sudden, unwinds from an unsustainable equilibrium can be rapid and overwhelming.

I’m pretty sure most CBA experts on this matter, in their core, will at least share the spirit on this. This is more of a political decision as I see it. Nonetheless the society is already getting conscious enough that a weaker AMD will serve us better.

Trusting CBA’s responsible and impartial stance to promote Armenia’s state and our collective interests, I would be expecting CBA to lobby the Government to underwrite a movement in this direction.

Again thank you for your attention,


Samson A”

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The Dynamics in the Gold Investment Market

Gold has adjusted higher in recent weeks. Breaking of some technical price levels seem to have accelerated the move, more fundamentally though investors seem to have reappraised their expectations for central bank policy effectiveness; monetary policy, inflation and real interest rate differentials; oil price outlook and its impact on the US trade deficit; as well as wider stock market and economic turbulence.

The jewelry sector is the largest contributor to global demand for the metal but it is the investment side that usually drives gold’s price dynamics.

The first chart below shows the trends in the COMEX Futures markets. This is the so called “paper” market whereby most transactions do not result in an actual delivery of the physical metal.


The second chart illustrates the SPDR Gold Trust flows that can serve as a proxy for the investment demand for financial products that are backed by physical gold. (The third source of demand, for bars and coins, has also picked up recently but the data is usually dated, therefore not included in this post).


A more detailed analysis shows that while Futures drive short term price fluctuations, any substantive and medium term adjustment in prices has to be confirmed by flows into the physical metal.

What is also notable is that much of the recent activity in the Futures market have come from the Short side. The Long positioning has been stable.

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