Fed-Bank of Korea Study Says QE Pain Varies: Cutting Research

Emerging-market policy makers who argued the Federal Reserve’s quantitative easing led to capital inflows that distorted their bond markets may have exaggerated.

The first and second of three rounds of large-scale asset purchases led to a 100-basis point and 13-basis point drop in U.S. 10-year Treasury yields respectively, according to Jeffrey Moore and Alexander Tepper of the Federal Reserve Bank of New York, and Sunwoo Nam and Myeongguk Suh of the Bank of Korea. The resulting decline in government bond yields in 10 emerging-market economies included in the study: about 17 basis points for QE1 and 2 basis points for QE2, the paper showed.

“These effects are qualitatively similar to conventional U.S. monetary policy easing,” the authors wrote in a New York Fed staff report published this month. The views expressed in the study were the authors’ and don’t necessarily reflect those of the institutions they represent.

Fed Chairman Ben S. Bernanke has kept interest rates close to zero since December 2008. In the first round of QE starting in 2008, the Fed bought $1.25 trillion of mortgage-backed securities, $175 billion of federal agency debt and $300 billion of Treasuries. In the second round, announced in November 2010, the Fed bought $600 billion of Treasuries.

Every 10-basis point decrease in Treasury yields pushed up the foreign share in emerging-economy bond markets by only an average 0.4 percentage point, the authors said, as international investors sought returns outside the U.S. A basis point is 0.01 percentage point. The countries studied were Brazil, Hungary, Indonesia, South Korea, Malaysia, Mexico, Peru, Poland, Thailand and Turkey.

The size of government debt markets of the 10 countries in the study grew to $2.2 trillion in 2010 from $445 billion in 2000, while foreign participation increased to 16 percent from 2 percent in the same period, according to the report.

“Changes in U.S. longer-term Treasury rates appear to have influenced foreign investment in EMEs’ government bond markets and, in turn, longer-term government bond yields in many EMEs,” the authors said. “However, these effects appear to vary depending upon the FX rate regime, degree of financial openness, financial linkage with the U.S., and the size of the government bond market in each country.”

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Housing may lift U.S. economic growth by as much as two percentage points in 2013 via stepped-up construction and increased spending by homeowners heartened by higher property prices, according to Carl J. Riccadonna, senior U.S. economist at Deutsche Bank Securities Inc. in New York.

Writing in Deutsche Bank’s Jan. 18 “U.S. Economics Weekly,” Riccadonna argued that the wealth effect from rising home prices could have as big an impact on the economy this year as may a rebound in housing construction. “A little home appreciation goes a long way,” he wrote.

Rising property prices not only provide homeowners with a psychological lift. They also allow households to refinance their debts at lower interest rates and tap into the equity of their homes, freeing up cash for consumption, according to the report.

“Housing is typically the single largest asset for most households,” Riccadonna said. “As a result, a small change in home values can have a massive effect on aggregate household assets.”

Deutsche Bank is forecasting that U.S. home prices will rise 5 to 10 percent this year, creating anywhere from $860 billion to $1.72 trillion in household wealth. That in turn could translate into as much as $172 billion in extra consumer spending, Riccadonna said.

Couple that with increased residential construction, and housing’s impact on gross domestic product in 2013 could be substantial, he added. “This relatively small sector is poised to play an outsized role in the year ahead.”

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Forget eliminating import tariffs. Supply-chain barriers are greater impediments to global commerce and reducing them would have a more significant impact on GDP and world trade, a study showed.

Global GDP and exports could increase by a combined $4.2 trillion if countries removed just two supply chain hurdles, researchers from the World Economic Forum, Bain & Co. and the World Bank said. In contrast, completely ending tariffs would increase GDP and exports by $1.5 trillion, they said in a Jan. 23 report released at the forum’s annual meeting in Davos, Switzerland.

“The biggest deterrents to trade are physical, administrative and informal obstructions to the movement of goods,” according to the report. “Regulations that impinge on the smooth functioning of a product’s global supply chain interfere with trade more than traditional barriers do.”

The two key parts of the supply chain governments should try to improve are border administration and transportation and communications infrastructure. Better and more transparent border administration increases the speed at which imports and exports can clear customs and reduces corruption. Upgrading inadequate road, rail, sea or air networks is the other key, as well as improving technology to track shipments.

Fewer supply-chain barriers will reduce costs for companies that trade and allow them to pass savings to consumers and other businesses in the form of lower prices, according to the report.

“Consumers gain access to a wider variety of goods,” according to the report. “Workers benefit as well, as the boost to GDP is likely to stimulate employment growth.”

Still, the changes may be easier said than done.

“Reducing certain supply-chain barriers -- particularly those related to infrastructure -- requires upfront investments, whereas tariffs can be eliminated with the stroke of a pen,” the researchers said. “The magnitude of the required investments will depend on the specific situation in a given country or region.”

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The world needs a multilateral agreement to regulate global foreign direct investment after extensive discussions to set one up between 1970 and 1998 never came to fruition, said Anders Aslund, a senior fellow at the Peterson Institute for International Economics in Washington.

The proliferation of bilateral trade accords or international agreements -- 3,164 among 181 countries at the end of 2011 -- is proof that there should be a standardized set of rules for FDI, Anders wrote in a policy brief published this month. A Multilateral Investment Agreement, or MIA, should be formed within the World Trade Organization, he said.

“An MIA is needed now more than ever because FDI has skyrocketed in the last few decades,” Aslund said. “It is too large to be left unattended by international regulation.”

Global foreign direct investment has climbed from $27 billion in 1982 to a peak of $2.2 trillion in 2007, according to the United Nations Conference on Trade and Development.

Resistance to the development of a code of conduct for multinational companies, competition by emerging markets for FDI, the increase in bilateral agreements and an anti-globalization movement meant that efforts to forge an MIA over the decades failed.

Such an accord can help facilitate international investment by state-owned companies or sovereign wealth funds (SWFs) that are sometimes viewed with suspicion if they are interested in acquisitions that may be linked to another country’s national security, Aslund wrote.

“A large number of countries have set up SWFs that are considered dubious,” Aslund said. “Countries that are recipients of these state funds question the transparency and objectives of the funds.” An investment agreement is needed “to mediate the interests of state investors and national security worries in the recipient countries.”

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