Lower Global Oil Prices: What is Driving It and What Implications for Sri Lanka?

This article originally appears in the Daily FT of 3rd February 2016.

 

The world economy is seeing an unprecedented fall in global oil prices, now hovering at around US$ 30 per barrel – levels not seen since 2003. So far this year oil prices have fallen more than 25%. In 2015, oil prices fell by 47% and are forecast to fall by a further 18% this year. In 2015, global crude oil supply grew by a staggering 2.6 million barrels a day and forecasts indicate that during the course of 2016 over supply is likely to reach around 1 million barrels a day.

The main drivers of these continued low prices are: high supply from OPEC countries struggling to maintain market share; continued supply from the unconventional oil producer – the US – of shale oil/gas; new production coming on-stream from Iran; and the impact of slowdown in China and wider slowdown in aggregate demand in the global economy.

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Europe’s Long Term Unemployment Problem: ‘Scarring’ & ‘Hysteresis’ Effects

Each time I make a presentation or give a talk on the health of the world economy and implications for Sri Lanka, I pause a bit on the Europe section to go beyond the immediate data on prospects for the forthcoming year to talk a little about a more medium to long-term issue that often gets missed. And that is the legacy effects – or ‘hysteresis’  – of the current high youth unemployment rate. I first wrote about it back in 2014, almost exactly a year ago today, in an article in memory of the labour economist and Nobel Laureate Dale Mortensen who I had met a few months prior to that. In it, I talked about the concept of ‘unemployment scarring’ and argued that,

There is substantial evidence suggesting that when people are unemployed at a young age they are more likely to be unemployed and welfare-dependent later in life, and more likely to earn lower wages, due to the “scarring effects” of youth unemployment. The effect is more pronounced the longer a young person spends out of work.

Just this week the IMF has released an interesting working paper on the ‘Risks of Stagnation in the Euro Area’, looking at some of the prolonged effects of the current crisis – one of which is the high unemployment and the ‘unemployment hysteria’ effect. The author, Huidin Lin, notes:

“The share of long-term unemployed, defined as the proportion of unemployed for longer than 12 months among the total unemployed, continues to increase, raising the risks of skill erosion and entrenched high unemployment. High youth unemployment could also damage potential human capital, and give rise to a “lost generation.” While weak demand plays a major role, more spending on active labor market policies would help increase employment opportunities, especially for the young”

Lin’s analysis showed that long-term unemployment could as high as 53% in the Euro area (see the Figure below).

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This has important implications for Sri Lanka, as currently around . Prolonged unemployment in Europe will depress wages and reduce purchasing power of the region’s people. It will have a significant impact on not just how much of Sri Lanka’s exports would be demanded there, but also who will buy them and what type of products will be demanded.

The Microeconomics of Uber’s ‘Surge Pricing’

It’s New Years’ Eve. You’ve had a blast and you’ve partied till the wee hours of the new year. But then the time comes to figure out how to get home. You’re probably going to order a taxi. Along with hundreds of others. For the first time on NYE in Colombo, you might be checking for taxi availability on the apps of the new sharing economy services – PickMe, Uber, and Hire1. But if you opened the Uber app during around 1am to 4.30am, you’d probably see a screen like this one below. Ouch. Prices are going to be higher than normal – ‘surge pricing’ is in force. (Customers in Miami saw prices surge up to 9.9 times on NYE!)

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Sri Lanka is not alone in this. Uber has seen this spike in cities around the world. This graphic from Uber shows what the typical spike in demand looks like on NYE globally, based on five years of data.

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I found Uber’s ‘surge pricing’ really intriguing from a microeconomics point of view and thought about exploring it a little further, including wondering “how can I model it on demand and supply curves?”.

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A Volatile Global Economy – Lecture at BIDTI

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“2015 was one of the worst years in the century”, remarked Prof. Joseph Stiglitz at the recent Sri Lanka Economic Forum when I asked him for his take on the health of the global economy. He may sound more bleak than a lot of people, but he isn’t far off the reality. The global economy is certainly in a period of alarming volatility.

 One of the original ‘BRIC’ country touted as a growth superstar – Brazil – is now in recession. An unprecedented monetary policy divergence has begun between the US and Europe. China is in the midst of a tricky economic rebalancing and growth moderation, and Chinese authorities appear to be struggling to keep up. Meanwhile, we are yet to see how global markets adjust to a new era of steadily rising US interest rates, outflows from emerging markets, and oil dipping to between $30 and $40 a barrel.

I was invited by Ambassador Pamela Dean, the head of the Bandaranaike International Diplomatic Training Institute (BIDTI), to deliver a guest lecture on these issues to the students of the ‘Diploma in Diplomacy and World Affairs’ programme. I wanted to keep the lecture to a story, capturing – what in my opinion – are the key issues unfolding and the trends to watch moving forward. Given the diversity of backgrounds and expertise in the group, I kept it fairly non-technical. Here are the slides.

Al Jazeera Interview

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Al Jazeera has been keen, for some time now, to run a story on Sri Lanka’s recent policy shifts relating to foreign land ownership. I first flagged it back in 2014, when the government introduced highly restrictive laws that were poorly designed, had serious loopholes, and hurts our FDI attractiveness. This week, Al Jazeera featured Sri Lanka in its ‘Counting the Cost’ programme, with a special focus on foreigners owning land in Sri Lanka and also the broader climate for foreign investment. I was asked to share some views on FDI attraction, policy shifts, and overall investment climate. Skip to around the 12-minute mark in the video for the Sri Lanka segment.

http://www.aljazeera.com/programmes/countingthecost/2016/01/china-stock-market-meltdown-160109133239440.html

Quoting from the story:

Sri Lanka opens doors to foreign investors

Twenty-five years after a brutal civil war, Sri Lanka is beginning to see a big increase in tourism numbers.

In 2015, almost 1.8 million people came to the formerly troubled island, up nearly 18 percent on 2014.

Elected a year ago, the government is now trying to turn Sri Lanka into a destination for foreign investors – the most important being foreigners. Individuals and companies will now be allowed to own Sri Lankan land.

Anushka Wijesinha, the chief economist at the Ceylon Chamber of Commerce, joins the programme to discuss the new investment drive

 

‘Speakonomics with The Curionomist’ 2: ‘Fed’s Dot Plot’

Following my first ‘Speakonomics’ on Game Theory a few months ago, this second one unpacks a phrase heard frequently this week – the ‘Fed’s Dot Plot’. I was asked by someone last evening, after a forum on the economy, “what is this dot plot?”.

The ‘Dot Plot’ is something that features in the Federal Open Market Committee (FOMC) decision on interest rates, along with the minutes of the meeting. Essentially what it is is a representation of the Fed officials’ (the folks part of the FOMC meeting) outlook on rates at a point in time. Put differently, it is the plot of what FOMC participants feel should be the appropriate federal funds rate at the end of the year; essentially charting the appropriate monetary policy path.

The background is that the US Federal Reserve (“the Fed”), as widely expected, raised rates on Wednesday by 25 percentage points, ending almost a decade long period of near-zero interest rates. Much of it is likely to have already been priced in. But how the Fed proceeds in its tightening cycle will be what we need to watch next year.

This is what the latest ‘Fed dot plot’, alongside the rate revision this week, looked like. The next edition – the update to this plot – will only be in its next meeting in March next year.

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As the Fed explains:

This chart is based on policymakers’ assessments of appropriate monetary policy, which, by definition, is the future path of policy that each participant deems most likely to foster outcomes for economic activity and inflation that best satisfy his or her interpretation of the Federal Reserve’s dual objectives of maximum employment and stable prices.

Each shaded circle indicates the value (rounded to the nearest 1⁄8 percentage point) of an individual participant’s judgment of the midpoint of the appropriate target range for the federal funds rate or the appropriate target level for the federal funds rate at the end of the specified calendar year or over the longer run

In general, ‘dot plots’ are a widely used tool for statistical representation, and particularly useful for assessing distributions when there is a relatively small amount of observations.

Tea Hub or Perish?

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One of the mainstays of the Sri Lankan economy is in trouble. Despite over 100 years of history, despite being world’s largest supplier of orthodox tea and the largest exporter of value added tea by a tea growing country, Sri Lankan tea is facing a bleak future. Although the country boasts some world-class tea companies, over the past decade and a half instead of growing its tea share Sri Lanka’s share of the world tea market has fallen from 21% to 17% (2000 to 2014). The retail value of the global tea market is around US$ 90 billion, but Sri Lanka’s share is a meager 1.7%.

But Budget 2016 announced a measure that could, even at this late stage, reverse this decline – the liberalisation of tea imports in order to become a tea-blending hub.

The Tea Hub concept is by no means new, and has been debated in Sri Lanka for a while now. Yet, we were too slow off the mark. Other cities seized the opportunity;  London, Hamburg, Rotterdam, and Dubai now occupy commanding positions in the global tea value chain as popular tea hubs. Dubai’s DTTC (Dubai Tea Trading Centre) is now widely regarded as the nexus of a lot of tea blending, processing, value adding activities utilising teas coming from the world over.

One of the major reasons cited by opponents of the tea import liberalisation and Tea Hub effort has been that the value of ‘Pure Ceylon Tea’ will be lost. “Lion Logo tea will lose its coveted place”, they argue. Yet Tea Board reports suggest that only 45% of tea that is exported from Sri Lanka as ‘Pure Ceylon Tea’ actually ends up with the final consumer in that same form. So while we cling on to the notion that ‘Pure Ceylon Tea’ still dominates globally, the reality is very different. The fact that less than half of tea retailed globally is ‘Pure Ceylon Tea’ sent in that form by our tea companies means that someone else is capturing much of the value added along the way. The Tea Hub, if implemented robustly, can ensure that more of that value gets captured here at home.

This article by the Tea Exporters Association provides an excellent insight into why this is important, why it should happen now, and what to consider when structuring a Tea Hub.

 

Messages from India’s Economic Reform Guru

Montek Singh Ahluwalia, delivers the key note speech during the Inaugural dinner at 20th Asian Corporate Conference organised by Asia Society in New Delhi.
New Delhi; March 18, 2010
Photo:- Jay Mandal/On Assignment

“In an increasingly volatile world, flexibility in government policy is essential” argued Dr. Montek Singh Ahluwalia, the respected Indian economist and former World Banker, at an event in Colombo yesterday. That was my main takeaway from his one-hour long tour de force on undertaking economic policy reforms in a country. He argued that flexibility in policymaking can ensure that countries don’t get stuck in a rigid model and are able to be more nimble and quickly respond and adapt to global and local economic changes.

Dr. Ahluwalia was a key player in India’s market-oriented reforms during the 1990s, and Chaired the country’s key economic policymaking body – The Planning Commission.

Ahluwalia remarked that when he often gets asked what should the most important policy reform priorities be he prefers to stay away from naming a list – “I don’t believe in policy check lists”. But he argued that there are a couple of fundamental areas that a country needs to get right and at the top on the agenda should be fighting macroeconomic imbalances. He said macro imbalances are the most damaging to developing economies in particular. He called for keeping a close watch on budget deficits, and not to assume that any particular “level of debt” is a sustainable one especially as reliance on foreign debt grows. He remarked that countries like Sri Lanka should try as much as possible to get loans from multilateral lenders, rather than go for commercial borrowing. However, he didn’t explore in detail how this would work for a country like Sri Lanka that is no longer eligible for ultra-concessional loans. He probably meant that we should go for at least the semi-concessional, long-tenor loans from lenders like the World Bank and ADB, which have long repayment and grace period, rather than relying on commercial borrowing through sovereign bonds.

He went on to highlight a few key areas that countries like Sri Lanka should focus on, in placing the country on a sustained growth path

  • Creating more jobs and not relying on public sector to pick up the employment creation slack.
  • Encourage public private partnerships to meet infrastructure needs, as debt-fuelled infrastructure spending is now sustainable
  • The importance of creating well-functioning and dynamic financial markets, which can finance firms of all sizes
  • Bring dynamism in labour markets through reforms for labour market flexibility

Dr. Ahluwalia was speaking at the MILODA Academy of Financial Studies, of the Ministry of Finance, as part of the ‘Eminent Speaker Series’ supported by ADB. This evening he is scheduled to speak on ‘Managing Economic Reform’ at the Bandaranaike Centre for International Studies, where I teach some courses on international financial institutions. I just might go and listen to him there too….