SIMES January 2011 Newsletter by Editorial Team SIM Economics Society

SIMES January 2011 Issue

SIMES Publications For internal circulation only 1

CONTENTS Letter from the Editor

SIMES Economics Week 2010

A First Hand View of Risk-o-nomics

Seminar By Dr. David Lee

Singapore Property Market

US Policies: Analyzing Efficacy and Long-Term Prospects

Troubles in the Eurozone

The Next Economic Weapon: Rare Earth

SIMES Forum: The Eurozone Crisis

Letter from the Editor Greetings from ‘AL’. As we herald in a new decade, there is much of which to be both relieved and deeply concerned. Asia by large has been at the forefront of global recovery, international trade remains active and we have a new economic marvel in the form of China. At the same time, Europe is ‘at sixes and sevens’ over common currency stability whilst the US continues to inflate its ballooning public debt. That being said, the next few years could see heavier shifts of investment into Asia and growing significance of domestic consumption. SIMES has gone a long way in promoting interest and appreciation for economics. Recently, we began organising discussion forums on current economic issues (See page 25). Each forum will consist of student panelists and provide reference materials. It is hoped that the forums can be used by participants to keep updated on current issues, appreciate practical applications of economic theories, and sharpen their reasoning skills. Be sure to look out for advertisements on SIMES Facebook Page. As always, I would like to invite anyone who has the urge to share their thoughts on economics in writing to email arcane517@yahoo.co.uk. With the April 2011 newsletter in mind, please express your intentions by 7 th February 2011. To a productive and successful year ahead. Al Marzuki Anuar

Great things are done by a series of small things brought together ~Vincent Van Gogh

SIMES

Economics Week 2010 A Review By Al Marzuki Anuar

The Economics Week 2010 was the climatic annual event in the society‘s calendar. It was held at SIM HQ from the 28th of October to 3rd of November 2010. The week-long itinerary included a lunch talk, economic exhibition, quizzes and a life-sized Risk game. Mr. Lee Kwok Chong, CEO of SIM and honorary guest speaker, Mr. Vikram Khanna, Associate Editor of The Business Times, graced the event‘s opening ceremony. During his speech, Mr. Lee highlighted the growth and significance of SIM Economics Society to student development at SIM. After lunch, guest speaker Mr. Khanna gave an enlightening speech on ‗Asia as The Engine for World Growth‘. He described recent trends in Asia, such as rising percentage of consumer demand, contrasting with those of US and the Euro-zone. China‘s leading role in Asia‘s recovery from the crisis and Japan‘s ongoing structural woes were also pointed out. The present consensus is that global rebalancing cannot be ignored, and measures such as the recent QE2 were designed to force the balance. Mr. Khanna also reminded us of factors that could hold back sustainable growth, such as lack of credible social safety nets, pro-short-term Biography of the speaker investments and risk of asset-price pressures in some parts of Asia. The conclusion was that uncertainty still reigned, but Asia Mr. Vikram Khanna is an Associate Editor of The Business Times (SPH), where he has certainly had the potential to move ahead in world growth. This year‘s exhibition showcased a summary of economic developments for ten Asian economies, which included historical trends and forecast analysis. Its purpose was to increase public awareness towards key policy-effects, cyclical trends and structural issues. The SIMES Editorial‘s resourcefulness resulted in a comprehensive and engaging layout.

worked since 1993. He is also a commentator on economic issues and a council member of the Economic Society of Singapore. Prior to joining The Business Times, he was an economist at the IMF in Washington D.C. In recent years, Mr. Khanna has served on several government committees. This includes The Enterprise Challenge (2001-2004), which provides seed funding for innovations in public services; and The Pro-Enterprise Panel, which helps promote a more business-friendly environment in Singapore. Mr. Khanna holds a B.A., M.A., and M. Phil. in Economics from the University of Cambridge, UK.

Another attraction of Economics Week 2010 was the ‗Risk-ONomics‘ game. The team-based game was the brainchild of SIMES Project Dept., incorporating economic concepts into modified rules of the Risk board-game. Five teams challenged each other in tactical ‗skirmishes‘, economic quizzes and more, aiming to occupy the most ‗countries‘ on huge map laid out in the Atrium. The combination of strategic thinking and camaraderie made the game a memorable experience for both participants and organisers. Overall, SIMES Economics Week 2010 was a success. It managed to achieve a higher standard in its never-ending quest to instill appreciation for economics amongst students of SIM. As such, the acting EXCO members of SIMES would like to express our heartfelt thanks to Mr. Lee Kwok Cheong (CEO), Mr. Seet Min Kok (SIMES Advisor), Ms. Patricia Lee Mei Yee (Programme Executive, Student Activities & Special Interest Clubs, CCA Admin, Student Life), SIM staff and student volunteers for making this success possible. 4

A First-hand view of ‘Risk-O-Nomics’ By Jeslyn Lye

Conquest and conquer! That must have been on the mind of each participant at the Risk-onomics game. Risk-o-nomics was a life-sized game introduced by the SIM Economic Society on 29 Oct 2010, in conjunction with SIM Economics Week 2010. The game incorporated economic trivia and other elements from the original board game Risk. And of course, the team that controlled the most number of countries won! Five teams - three prizes up for grabs: Who would be the ultimate economic power? Being a board game lover, the name Risk-o-nomics intrigued me. Will that be a game based on Risk? If so, how does one incorporate Risk with economic concepts? Having only tried the board game Risk a few times (Risk is not part of my collection as yet), I gamely agreed to take part when my friend, Wan Ling, asked me to join her for this game. Unlike the original board game that you can place on your table, the "board" fills up most of the SIM HQ atrium. As the theme of that week was "Asia as the Engine for World Growth", the organisers decided to include only Asia, divided into four regions: MiddleEast region, South-East region, Far-East region and North-East region. Risk-o-nomics is a turn-based game - teams took turns to attack for each round. At every round, if a team conquered an entire region, bonus soldiers would be awarded, depending on the region. The rules on attacking were similar to the original board– attacks could only be launched against the neighbouring countries not under your rule during your turn and each dice roll determines the outcome of an individual attack. Players have the liberty to choose to attack or not. Differences included a time limit of 5 minutes per turn to attack for Risk-onomics and other interesting elements added such as “Miracle Box”, “Training Centers”, and “Games Station”. My team‟s strategies: We wanted to be low profile- we didn't want to be the primary target of every other team (that will be suicidal!). - We did not want to get into unnecessary "tug-of-war" with any specific team, as the Chinese proverb says “When the snipe and the clam fight, the fisherman benefits." - We wanted to adopt a spread-out strategy - to conquer at least one territory at each turn: Conquest and conquer! Attack more to get more soldiers! - We would put fewer soldiers in lands that are less "connected" with neighbouring lands, and more soldiers in lands that have many neighbours to defend against more threats. - We hoped to get the "corners" of the map and conquer out from there (less threats, can build strength from there". From our brief glance of the map the day before, we had our sights on Saudi Arabia and Indonesia.

With a bad dice throw, our team was the last to choose our turn for each round - we will be the second team to start for each round. In my opinion, teams that are the last few to play in every round have an advantage over others – they get to attack later, when the other party‟s resources may be depleted or reduced! This is especially evident in games with limited time period! It seems that the bad dice throws persisted with our team - I lost count of how many “ones” I threw that day. At the beginning of the game, our team got Taiwan, Thailand, Kazakhstan, and India by means of drawing lots. The initial lands we got determined the tone of the game, as fortunate teams like the Green Team were dealt a very strong initial presence while we, the Blue Team, got a fragmented holding. In fact, Kazakhstan and India are far away from Taiwan and Thailand. With our lands spread out, they were soon targeted by other teams aiming to conquer an entire region for the bonus soldiers. By the third cycle, we are only left with India – which we held on (by trying very hard at the mini-games to gain reinforcements). All the strategies that we thought of initially didn‟t work well, much to our chagrin. We did manage to take over Sri Lanka subsequently but we were wiped out in the last round. It was an emotional and addictive game. I experienced the elation getting more soldiers through the mini-games or economic trivial and expanding territories; plus the anxiety when you fear that your team can be wiped out in the next round. It is also a complex and highly dynamic game - two hours was definitely not enough! Although our team did not clinch one of the top three prizes, we were really glad to have taken part in this game – we got to know more people and we really enjoyed ourselves (especially in the mini-games- we were trying really hard to get all the extra reinforcements that we can!). We were also pleasantly surprised that we were only wiped out during the last round of the game – I guess we weren‟t too much of a threat to the other teams after a few rounds. We appreciated the effort put in the planning of this game - the 5 minute restriction per-attack phase reduced the chance that group discussion may drag the pace of the whole game; and the implementation of the mini-games at the Games Station for the rest of the teams while the two teams are engaging in a “battle”. Anyone who did any sort of eventplanning before would know that it is no easy feat to plan an event of such a scale, considering the number of people who were mobilised to help out. We were also grateful of the game-master assigned to our group, Dean Yang, who help explained the game rules to us and assisted us though-out the game. All in all, strategising may be essential, but luck plays an important part too, as in most other board games. Our spread-out strategy didn‟t work – our initial fragmented holdings and „poor hands‟ hampered our attacks and defenses. Perhaps that's why Cluedo is still my favourite board game to date- any possibility of a life-sized Cluedo game next year?

Seminar By Dr. David Lee:

“Economics of Luck—Sense or Nonsense?” A Summary by Tumy Buinguyen On the 22nd of November 2010, SIMES was honoured to host guest speaker Dr. David Lee, presenting his seminar titled ‘Economics of Luck: Sense or Nonsense? His seminar began with a historical review of economic principles, transitioning into recent volatilities and finally ending with a global outlook. The Great Moderation Definition: In the mid 1980s major economic variables such as GDP, industrial production, monthly payroll employment and the unemployment rate began to decline in volatility. This is called the Great Moderation. Possible reasons of decline in volatility:      

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Structural change: Changes in economic institutions, technology, business practices, or other structural features have improved the ability of the economy to absorb shocks. Improved macroeconomic policies: Particularly monetary policies. In the 1970s, the period of highest volatility in both output and inflation, was also a period in which monetary policy performed quite poorly. Good luck: The reduction in macroeconomic volatility is largely the result of good luck as the shocks hitting the economy became smaller and more infrequent, not because of intrinsically more stable economy or better policies. Ben Bernanke remarked otherwise: “Improvements in monetary policy…..I am not convinced that the decline in macroeconomic volatility of the past two decades was primarily the result of good luck” and hence “the increase in stability should be more likely to persist”. The Increase in Volatility: Lehman Brother collapsed in 2008, hence began the series of increasing volatility in output and inflation. Alan Greenspan conceded an error in regulation: “The whole intellectual edifice, collapsed. I found a flaw in the model that I perceived is the critical functioning structure that defines how the world works.”

What went wrong? From Alan Greenspan to Ben Bernanke, policy-makers face several human elements that contribute to unpredictable outcomes. Pursuit in Mathematical Theory and Elegance for 20 years. “The beauty of such modern approach entails many complicated approximations….which amount to impreciseness in the entire logical process…..a huge imbalance between theory and common sense”. 7

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Market Imperfections and Political Economy With Information Asymmetry, Systematic Risk, Social Cohesion and Culture, etc. the market is far from perfect.  Irrationality: The assumption of perfectly rational individual is just simply unrealistic.  Time Compression:  Modern technology speed up the sheer speed of information flow, enables the world to react faster to sudden events than at any other time in our history.  Discontinuity:  The real world does not follow the statistical continuous distribution. What Global Players Face in the Near Future Economic trends for developed countries: Deleveraging of financial institutions; high sovereign debts; high unemployment; uneven distribution of income; higher energy, food and commodity prices. China’s future plan: Short Term: Control of Price and Asset Inflation Medium Term: Preparation for Super Cycle (GDP grows 6x – 2020) and New Financial Architecture: Managed Floating Rate since July 21 2005 with 10 currencies RMB :3%-5% Annual Appreciation Ensuring enough raw materials and commodities Reduction of Current Account Surplus to 4% There is an old saying: “The harder we try, the luckier we get”. We’d all rather be lucky than smart. But policy makers have just got to keep trying harder.

Biography of the Speaker Dr David Lee Kuo Chuen is the Managing Director, Chief Investment Officer and founder of Ferrell Asset Management. Prior to that, he was the Managing Director of Fraser Asset Management. He also served as Director of Institutional Sales at Fraser Securities and covered the Asia Pacific equities market. Other past positions include CEO of Overseas Union Enterprise Ltd and Group Managing Director of Auric Pacific Group Ltd. Dr. Lee holds a PhD in Econometrics and Applied Economics from London School of Economics & Political Science and a MSc. degree from the University of London. He is a council member in the Economics Society of Singapore. He also taught at the National University of Singapore and Singapore Management University. 8

THE SINGAPORE PROPERTY MARKET By Jeslyn Lye and Jerry Siak

―Shall we apply for a HDB (Housing and Development Board) flat?‖ – A question commonly used by Singaporean men to propose to their girlfriends. This unique albeit unromantic way of proposal reflects the high importance Singaporeans place on the ownership of a house. According to Abraham Maslow (professor of Psychology, creator of Maslow’s Hierarchy of Needs), the desire to own a ‗roof over our head‘ is one of our intrinsic needs. Hence, it is understandable why many Singaporeans are concerned over the rapidly rising property market prices.

It is noteworthy that only Singapore citizens are allowed to purchase new flats directly from HDB. Permanent Residents are eligible to buy resale flats in the open market, but other foreigners cannot buy any public housing. Recent Upward Trend The dreadful subprime mortgage crisis had its roots in the US real estate bubble. Just 13 years ago the Thai property market bubble spurred a speculative attack on the currency, leading up to the Asian financial crisis. Hence, real estate bubbles affect the stability of the financial system – it is not only a micro-trade issue; property bubbles are invariably followed by severe price decreases, resulting in enormous financial and social risks. Housing prices in Singapore only fell 4.7% (-9.6% in real terms) at the end of the 2008 -- during the US Subprime mortgage crisis, with inflationary pressures from high global fuel and commodity prices. The IMF was predicting a "long, severe recession" for Asia but lo and behold, the housing market recovered quickly in 2009, said to be pushed by better-than-expected economic conditions and lower interest rates. The number of residential units sold in Q2 and Q3 2009 reached 21,638, significantly higher than the 13,642 units sold through the year 2008. Housing prices have been rising ever since. Is this a surge in demand normal or is it indicative of an impending property bubble?

Singapore Property Market: An Overview Singapore has a unique property market. More than 80% of the population lives in a HDB flat, while more than 95% of them actually owns the flat (99 year lease from HDB). In 1999, the HDB started to build executive condominiums, a form of public housing for Singaporeans who prefer such facilities but find private property too expensive. In the 1960s and 1970s, the HDB adopted cost-based pricing for its flats as the resale market started to take off. Flats were priced at the same price within each zone – disregarding other features such as location, amenities and floor levels. When the resale market was in full swing in the 1980s, the HDB switched to market-based pricing – new flats are now priced based on what similar flats (in terms of attributes like convenience, location and floor levels) would fetch in the resale market, but discounted with subsidies like the current Additional CPF Housing Grant (AHG). Cautious over a repeat of over-supply in 1997 when they built ahead of demand, the HDB implemented a Build-To-Order (BTO) system to manage supply in 2001. BTO is a flat allocation scheme that requires potential buyers to apply for apartments that are planned for launching. Construction of a project will only be considered when there are at least 65~70% of bookings. 9

Forces Behind High Housing Prices Buyers’ Optimism John Maynard Keynes used the term ‗animal spirits‘ in his book The General Theory of Employment, Interest and Money to describe emotions which influence human behaviour. He said that apart from the instability due to speculation, a large proportion of our positive activities depend on spontaneous optimism rather than quantitative expectations. In other words, shifts in consumer confidence are an important factor in demand and supply of housing. Confidence among consumers in Singapore appears to be unwavering from a Consumer Confidence Index of 113 in Q3 2010 (Nielsen Global Consumer Confidence Index). Optimism that a sustainable economic recovery is underway in 2009 drove the prices up sharply in the second half of 2009. When future prices are expected to be high, more potential buyers will step forward to purchase houses, as they may worry that prices will become even higher should they not buy it now. Low Interest Rate Interest rates are relatively stable in Singapore, as the foreign exchange rate is used as a policy instrument. The prime lend-

ing rate has been 5.38% since January 2008. The interest rate on housing loans has been at a record-low of 5.23% since July 2010, down from 5.73% imposed from June 2006 to Feb 2008. Stable interest rates have provided security for borrowers, including potential homeowners and companies that are planning to acquire properties. Although it is more attractive for potential homeowners to buy houses now as the mortgage rate is relatively low, they must not neglect the upside risk that comes with the lower rates. There exists the possibility of the rates rising in the future. The risk is even more significant for existing homeowners with adjustable-rate mortgages (ARMs). If the interest rate increases, it will become more relatively more expensive to service the mortgage. Speculative Demand There are growing concerns over increasing tide of ‗hot money‘ into higher-yield Asian economies, encouraged by US quantitative easing. The early signs of asset-price bubble are starting to show in some countries. Property markets in China and Hong Kong are riding a boom, partly due to the increase in liquidity. According to Bloomberg‘s Business Week, the Hong Kong Monetary Authority reported in 26 October 2010 that the luxury property prices passed the record levels achieved in the third quarter of 1997. In addition, home-buyers from China are becoming more prominent in the private housing market in Singapore. Chinese purchasers are making headlines as the largest property purchasers in the luxurious Sentosa Cove, for instance. According to property consultancy DTZ, the Chinese accounted for 20 per cent of private home transactions involving foreigners and permanent residents (PRs) in the third quarter. This proportion is said to be the highest since official data was available from 1995. While the foreign home-buyers or investors affect only the private property market in Singapore, public and private property prices are often positively correlated– here lies the power of market sentiments. Hence, should the speculative demand in private property go out-of-hand, and create a huge

property bubble, it would also implicate the public property market. Comparisons to the Past As quoted by the American author Mark Twain, ―History doesn't repeat itself, but it does rhyme.‖ In effect of the Asian Financial Crisis of 1998 Singapore responded with regulations that stabilised the property market to secure levels, along with additional measures introduced in 2005 that arguably lay the foundation to the surge in property prices experienced today. Singapore suffered the spillover effects of the Asian Financial Crisis among its regional neighbours and fell into recession in the second half of 1998. The private residential property price index plunged from 270.0 in the first quarter of 1997 to 163.7 in the fourth quarter of 1998, a drop of about 40 percent over a one-year period. The government took steps to stabilise specific sectors of the economy, in particular the property market, by suspending government land sales until end of 1999 and deferring stamp duty on uncompleted properties. It also assisted households by granting them rebates on HDB charges and rentals, as well as helping them with mortgage re-scheduling. As a result, property prices began to stabilise in the second half of 1998. The stabilisation of property prices helped prevent more bankruptcies and increases in non-performing loans, which helped to ease tensions of the economy as a whole. Renewed policies were implemented in 2005 to significantly boost the housing market. Examples are the relaxation of foreign ownership rules on apartments and a reduction of cash down payments from 10% to 5% for home purchases. Since then, the property market has been seeing increases in demand and keen speculation on the prices. Aided by the recent economic recovery and the availability of large amounts of liquid cash in the financial market, prices have been increasing steadily due to increased demand. Buyers‘ general sentiment is to act upon this price increase and to buy the houses now before prices continue to rise, leading to an increase in demand and further price in-

creases. These are signs that lead to a potential property market b u b b l e . Regulators must be vigilant of shortterm speculative bubbles that are leveraged off cheap liquid funds. In Singapore, the government acts preemptively to let some air out of property bubbles before they burst with a bang. The use of direct and targeted tools and administrative measures (e.g .stamp duties on transactions control of land sales) have proven to be effective. Singapore‘s long track of prudent policies proved to be a great asset, as it helped reassure markets that the policy easing taken by the authorities to address short term problems are less likely to endanger or signal a deviation from commitments to its long term goals. Measures Taken to Cool Property Market in Singapore In 30 August 2010, the Ministry of National Development (MND) has introduced three important measures in attempt to cool the property market in Singapore: 1) Reduction of the loan-to-value limit Description: Loan to value (LTV) limit for housing loans granted by financial institutions regulated by MAS will fall from 80% to 70% for borrowers who have one or more outstanding housing loans, be it from HDB or a financial institution regulated by MAS at the time of applying for a housing loan for the new property purchase. Relevance: The aim is to encourage financial institutions to maintain credit standards and encourage greater financial prudence among property purchasers already servicing one or more outstanding housing loans. Current low global interest rate environment will not continue indefinitely, and higher interest rates could have severe implications for over-

leveraged buyers. 2) Increasing the holding period for Seller's Stamp Duty Description: The holding period for Seller‘s Stamp Duty (SSD) is being increased from one year to three years for property buyers who already have one or more outstanding housing loans at the time of the new purchase. Relevance: The amount paid will depend on when a property is sold. If the property is sold within one year the full duty will be payable at 1% for the first $180,000, 2% for the next $180,000 and 3% on the balance. If the property is sold within one to two years after purchase then the owner faces payment of twothirds of the duty, and if it is sold between two and three years then only one-third will be due. This is to deter people from selling their houses on a whim. Due to the lag in the full impact from the new rule, buyers and even investors would be forced to employ a ―wait and see‖ approach before making a decision. 3) Increasing the minimum cash payment Description: Under this new rule, property buyers have to make cash payment of 10% of the valuation limit, as opposed to the 5% earlier. This measure will only affect property buyers with existing mortgages i.e. those who have one or more outstanding loans at the time of new purchase. Relevance: Like the two measures mentioned earlier, this measure is put in place to discourage speculative flipping. Requiring potential buyers to pay out more by cash upfront would

make it relative more expensive upfront, deterring those without sufficient means to do so. Conclusion Attempts to curb the red hot property market in Singapore do not yield immediate results as figures show that higher than expected number of private properties was sold in October 10 2010. Factors such as the rosy economic outlook, low interest rates and robust stock market have also seeded optimism and confidence in the property market. Several home buyers might also have decided to proceed with purchasing properties that offer investment potential or a possibility for capital appreciation. There are, however, notes of caution worth considering among this optimism. There are still uncertainties in the global economy, particularly in developed economies. Property buyers could face capital losses due to market correction, with implications on their finances and the economy as a whole. The Singapore government‘s objective has always been to create a stable and sustainable property market where prices move in line with economic fundamentals. Prudent financial considerations by all parties are essential in ensuring stability of the financial market. References Aaron Low, 2010. Risks from capital inflows, The Straits Time, 28 Oct 2010. pB22 Bloomberg Businessweek, 2010. Global Economics: The Bernake Code. Bloomberg Businessweek, November 8 – November 14. page 12- 18 Emilyn Yap, 2010. China buyers home in on Singapore properties. The Business Time, [online] 26 November. Available at: http://www.asiaone.com/Business/News/My+Money/Story/ A1Story20101124-248927.html [Accessed 1 December 2010] Joseph, 2010. Property blame game: Are foreigners really driving up prices? Yahoo! News Singapore, [online] 11 November. Available at: http://sg.yfittopostblog.com/2010/11/11/propertyblame-game-are-foreigners-really-driving-up-prices/ [Accessed 21 November 2010]. Mah Bow Tan, Minister for National Development, 2010. Pricing Flats According to Their Value. TODAY, 29 Oct. pB6 & pB7 Mah Bow Tan, 2010. Interview with MND Principals. Interviewed by Satwant Singh. Tessa Wong, 2008. Consumer confidence dips. The Straits Time, [online] 12 November. Available at: http:// www.straitstimes.com/Breaking%2BNews/Singapore/Story/ STIStory_301395.html The Nielsen Company, 2010. Consumer Confidence in Singapore nears all-time high in Q2 2010 , Singapore: The Nielson Company. 21 July.

US Policies: Analysing Efficacy and Long-term Prospects By Al Marzuki Anuar, Erick Chan, David Wahyudi Rahardjo and Dean Yang

The 2009 global financial crisis stemmed from a decade‘s combination of ‗irrational exuberance‘ and ‗accommodative policies‘ via financial innovation and free-market ideals. With its roots in the US domestic economy, the Bush administration left and Obama administration entered a period of massive policy decisions accompanied by endless debates and scrutiny. Scrutiny has come upon the Fed, Treasury and Congress due to questionable effectiveness of the policies. A Reminder of the Build-up to 2008 The sub-prime crisis was a consequence of irrational exuberance—by financial institutions, by governments and their financial regulators, and by consumers. We owe some credit to Alan Greenspan‘s Fed administration for policies that helped fuel the recent housing bubble. The idea of keeping low interest rates to bring the US out of recession following the technology stock bubble (2000-2001) set the base for which ‗rational‘ investors would seek profits in the midst of a housing market boom. The Federal Funds rate hovered around 1% to 2% from early 2002 to 2004. Profound liquidity for cheap credit in the mortgage markets, reckless rating agencies and ‗new discoveries‘ in financial engineering increased demand for mortgage-backed securities (MBS). From respectable institutions in Wall Street to a town council in Norway, varying layers of sub-prime MBS were bought up in droves without fully realising the credit risk behind most of the mortgages. At the peak of the euphoria, even insurance company AIG was churning out credit-default swaps (CDS) against MBS backed CDOs, gambling that

profits from fees will continue with little chance of having to pay the insured. In essence, no one expected the bubble to burst! Who is ultimately to blame for the global financial crisis that followed? This is no chicken or egg debacle; first there must be policies employed that sets a conducive environment that encourages all forms of riskaggressiveness, from financial engineering to ‗everyone wants to own a house‘. This is complemented by lack of prudent regulation on financial and rating institutions by the Fed, Treasury and SEC. In analogy, without the ‗fuel‘ (cheap credit flooding the market), and the ‗engine‘ (financial innovation), the ‗car‘ (real economy) would not be able to ‗drive itself‘ (irrational exuberance) off the cliff. By the time Fed rates started to rise in 2005, in was too late. The Questionable and The Risks Beginning with the Troubled Asset Relief Programme (TARP) in 2008 to the recent Bush-era tax cut extension (2010), a number

of key expansionary monetary and fiscal poli- Effectiveness cies were debated and passed in Congress.  Adding to the series of ‗bailouts‘ The common big picture is to arrest unemploysince 2008, bankers moral hazard is ment and prevent prolonged recession. The likely to remain as they believe that differences were the paths to achieve those any huge losses can be ‗cleaned off‘ ends, and the risks involved. We shall examthe balance sheet by the Fed and ine a few examples below. Treasury  A portion of bailout funds ended up TARP (passed October 2008) as executive ‗remunerations‘. Since Original Idea: the fund ultimately comes from taxOriginally, the TARP was designed to payer‘s pockets, we essentially obbuy up mortgage-backed securities (MBS), serve the privatization of profits from whose value had dropped so sharply, from social funds. balance sheets of key financial institutions to  In June 2009, reports showed that 8 prevent further losses. A total of USD700bill banks were on the brink of repaying target was set aside for lending, which largely their TARP loans after passing a consisted of tax-payers money. It was divided banks stress test by the Fed. Alinto the Capital Purchase Program though this signaled improved capi(~USD190bill spent) and individual capital tal cushion of those banks, it did not lending to Citigroup, BoA, AIG and GM, translate to their readiness to inamong others. crease lending. In November 2008, then Treasury secre- QE1 and QE2 (announced March 2009 and tary Henry Paulson extended TARP funds to August 2010 respectively) non-financial firms. Eventually, loans of up to Original Idea USD13.4bill to General Motors and USD4bill Under QE1, the Fed agreed to purchase were authorized to Chrysler. approximately USD1trill of long-term Treasury bonds and mortgage securities from firms. By What Else Transpired? Henry Paulson, one of the original architects of the TARP, decided not buy those ‗toxic‘ assets after all, but instead injected nearly USD350bill into large insider banks by purchasing those banks‘ shares. According to the New York Times, 9 of the largest banks were given USD25 bill each. It seems that the Treasury has a closely guarded process of picking which banks will get funds and which will not and critics have argued that the government is effectively creating a group of socalled ‗winners‘ and ‗losers‘.

the end of its tenure, the Fed had ‗printed money‘ on USD1.75trill of debt. Ben Bernanke, current Fed chairman, then proceeded to announce a second round of QE in August 2010, pledging USD600bill of Treasury purchases up to June 2010 at the least. Thanks to near-zero interest rates, the Fed resorts to increasing inflation expectations via increasing money growth rates. To date, real yields on 10-year Treasury Inflation Protected Securities (TIPS) have fallen, signaling that objective is being met. Moreover, loan rates are usually based on long-term Treasury bond yields, which are expected to fall under higher purchases using the newly printed money. Based on Fisher‘s Hypothesis, a rise in expected inflation amidst current low

nominal interest rates would reduce real interest rates, leading to higher investment and loans issued. This, in return, is supposed to raise employment and output. In addition, capital mobility within an imbalanced global market causes the ‗new money‘ to flow into higher yielding assets in emerging economies, as ‗hot money‘. This will depreciate the USD, hopefully increasing net exports for growth. Proponents of QE would refer to the following data. According to the Congressional Budget Office (CBO), actual output net of po-

tential output in Q2/2010 is 6.3%. Unemployment still hovers around 9%. Inflation remains stable but low at 1.5%, below the Fed‘s longterm target of 2%. The constant warnings of a Japanese-style deflation and dissatisfaction on China‘s reluctance to revalue its Yuan are major incentives for arguments in favour of the two-pronged effects of printing money: inflating and exporting the US out of the slowdown. What Else Transpired? Since the announcement of QE2, we are slowly observing ‗beggar-thy-neighbour‘ consequences. Bank of Japan has acted to arrest appreciation of the Yen by selling USD25bill worth of Yen in September 2010. Some economies have considered capital controls (eg: Brazil, Indonesia), no longer a taboo as Malaysia‘s was during the 1997 Asian financial crisis. What stands out is that China‘s Yuan has not appreciated significantly as hoped. Meanwhile, within US shores, the warnings point out first to the track record of ‗easy money‘, which can heighten riskaggressive spending in the near future, leading to a future crisis similar to the recent one. Already, share prices have increased and higher inflation expectations have the effect of bidding up commodity prices. The devil is in the details: With the uncertainty of profitable investment climate, funds could be moving purely based on speculation.

The August 2010 budget report by the CBO shows that US fiscal deficit remains high at 9.1%, barely falling from 9.9% in 2009. In return, debt-to-GDP has reached 62% of GDP. Even if the likelihood of a Euro-style debt crisis is unlikely given size of the US economy, a future rise in interest rates and/or political unfeasible leeway in expansionary fiscal policy can worse any adverse shocks. Both QEs and the even more recent USD858bill extension in Bush-era tax cuts may be a short-term gain, but a long-term pain. Last but not least, the inflow of excess liquidity into ‗better prospect‘ and higher rates emerging economies as ‗hot money‘ poses a threat analogous to the 1997 Asian financial crisis. Even though addressing global trade imbalance is of interest to many, the existence of speculators can exploit ‗hot money‘ to the detriment of the global economy, regardless of rebalanced trade. The Worrying State of US Fiscal Budget In 2009, the federal government spent nearly USD3.52trill on budget expansions, up 18% versus 2008 spending of USD2.97 trillion. Primary expenditure categories include (see PIE CHART 1): Defense and Homeland Security ($782B or 23%), Social Security ($678B or 20%), and Medicare & Medicaid ($676B or 19%). Expenditures are classified as mandatory, with payments required by specific laws, or discretionary, with payment amounts renewed annually as part of the budget process.

ing demographics: average age of US citizens in increasing. Mandatory spending is also expected to increase as a share of GDP. According to the Heritage Foundation, spending on Social Security, Medicare, and Medicaid will rise from 8.7% of GDP in 2010, to 11.0% by 2020 and to 18.1% by 2050. Since the federal government has historically collected about 18.4% of GDP in tax revenues, this means these three mandatory programs may absorb all federal revenues sometime around 2050. Worse, this is besides the Defense and Homeland Security allocation which historically takes up a huge ‗priority‘. A danger of high budget deficits (with high debt-to-GDP ratio) is a reduction in future savings rate should consumers anticipate future tax increase to rebalance the budget. This can have an adverse effect on capital accumulation hence far-term growth rates.

Current Developments Stemming from US Policies: A Cause for Concern The weaker USD precipitated by QE2 is a recipe for hidden currency war. A currency war provides stronger excuse by nations such as China to be protective towards their currency. Exchange rate protectionism seems to be the new trend for nations around the world, by being cautious about their exchange rate standings. None of them want to be the first victim of a ‗competitive devaluation‘ and all are looking upon China as their leading role in Over the past 40 years, mandatory these issues. spending for programs such as Medicare and Social Security has grown as a share of the Global cautiousness on US exchange budget, while other discretionary categories rate has been seen through the meeting in Ghave declined. Between 1966 and 2006, Medi- 20 in Seoul and the recent bilateral move care and Social Security grew from 16% of the made by Russia and China. In the recent G-20 budget to 40%. The recent health-care bill ap- meeting; US request to halt state manipulation proved by the Obama administration runs the of the Chinese Yuan was rejected by leaders risk of straining future budgets in light of shift- from G-20, G-20 leaders only agreed not to 16

competitively devalue their currencies. We may start to see major emerging economies such as BRICs move away from the Dollar bloc, citing the agreement between Russia and China to trade in each other‘s currencies, not the USD. There are signs of rising commodity prices due to the transition made by the investors from the weakening USD to commodities such as oil and gold. Recent news reports that investors are getting their hands on metals and other precious commodities. One example would be silver being at USD29.38/oz, up 12cents in line with high industrial metals prices. The fact that many commodities such as oil are denominated in American dollars, this means that the weakening of the Dollar increases their appeal. Overall, it is both good news and bad news. The good news is that with investors starting to come into US commodity markets, it might support their economy. The bad news is, we face risk of global commodity price inflation.

http://krugman.blogs.nytimes.com/2009/03/20/fiscal-aspects-ofquantitative-easing-wonkish/ http://www.nytimes.com/2009/03/19/business/ economy/19fed.html?_r=2 http://www.cnbc.com/id/31187744/ http://www.businessweek.com/news/2010-09-30/japan-sold-25billion-of-yen-in-market-intervention.html http://timeline.stlouisfed.org/pdf/CrisisTimeline.pdf http://www.bloomberg.com/news/2010-12-10/stiglitz-says-fed-sqe2-creates-considerable-risks-for-emerging-markets.html http://www.forexyard.com/en/news/Steps-countries-are-takingto-counter-hot-m oney-2011- 0105T063755Z-FACTBO X http://www.guardian.co.uk/business/2008/oct/14/ businessglossary http://www.thebasispoint.com/2010/10/09/weeklybasis-10910quantitative-easing-101-rate-timeline-2008-to-present/ http://news.yahoo.com/video/business-15749628/23109535 http://www.suite101.com/content/fed-set-to-begin-round-one-ofqe2-monetary-stimulus-spending-a307301 http://money.cnn.com/2010/08/11/news/economy/ economic_collapse_GDP_unemployment.fortune/ index.htmhttp://www.bloomberg.com/news/2010-11-15/boveopposes-qe2-supports-cutting-u-s-deficit-and-debt-video.html http://www.businessweek.com/news/2010-11-16/rising-yieldshelp-fed-raise-inflation-expectations-with-qe2.html http://www.worldnewsheardnow.com/what-does-the-qe2-meanfor-the-u-s/3941/ http://wallstreetmess.blogspot.com/ http://online.wsj.com/article/BT-CO-20110106-701633.html

Conclusion Economics is indeed a difficult subject, just as policy-makers cannot guarantee certainty over the effectiveness and risks of their decisions. Be it inflationary risk of ballooning public debt or global concern over asset-price bubbles as a result of excess USD circulating, policies will always be debated upon. Moreover, the private sector may not act perfectly according to plan, especially when policy itself promotes further uncertainty. What is certain in from the point of view of the US is their interest to shore-up their domestic economy in the short-term. What worries us are the risks present that can accelerate forward a future crisis. References ‗The Fed‘s Big Announcement: Down the Slipway‘, The Economist Nov. 6, 2010 http://www.ft.com/indepth/federal-reserve-quantitative-easing http://www.globalpost.com/dispatch/the-americas/101105/ federal-reserve-600-billion-banking

TROUBLES IN THE EUROZONE:

SURVIVAL OF THE FITTEST By Kwang Yang, David Wahyudi Rahardjo and Devane Sharma The Eurozone debt-crisis is the next economic woe stemming from developed economies post US subprime crisis. Thanks to trade and financial market links, the global community is understandably concerned for any signs of de-stabilisation within the Eurozone.

(FRA), Belgium (BEL), Italy (ITA), Finland (FIN), Portugal (PRT), Greece (GRC), Spain (ESP) and Luxembourg (LUX); relative to USA. The recent global financial crisis adversely affected growth in many countries worldwide. Unfortunately for the Eurozone, it also exposed significant fiscal imbalance b e t we e n An Overview of the Eurozone ‗spearhead‘ ( G e r m a n y, France) and The Eurozone is a monetary union ‗peripheral‘ (PIGS) economies. consisting of 17 members, which adopted the Euro from 1999. The framework of the monetary union PIGS: What’s all the Hype? was laid out by the Treaty of Maastricht in 1992, Greece which emphasised convergence criteria for From 2001-2007, the Greek economy grew member states. This includes a ceiling of 3% fiscal at an average annual rate of 4.2%, marked by high deficit-to-GDP, 60% sovereign debt-to-GDP, and foreign capital inflow. A rosy economy and allowable deviation of about 2 percentage points in relatively low debt yields led the then-acting inflation from best performing members. Besides government to run-up larger structural deficits. sharing a common exchange rate and monetary According to Greek newspaper Kathimerini, public policy, the Eurozone includes freer flow of goods, deficits are one of the features of the Greek labour and capital. welfare model since the restoration of democracy The Eurozone features a hybrid system of in 1974. Successive Greek administrations have supra-nationalism and inter-governmentalism. run deficits to finance public sector jobs, pensions, However, the absence of a fiscal union implies that and other social benefits. Historical statistics show fiscal policies, which include state budgetary plans that debt-to-GDP ratio was consistently above 60% and welfare benefits, are implemented largely with of GDP. domestic interests in mind. The supra-nationalism The global financial crisis that began in 2008 weighs in monetary policy measures, such as dented Greek growth prospects. Two of the controlling inflation, the ultimate agenda of the country's largest industries, tourism and shipping, European Central Bank (ECB). were badly with revenues falling as much as 15% It is worth to note that Eurozone members in 2009. In early 2010, it was reported that Greece have relatively high public welfare expenditure as a had paid Goldman Sachs and other banks percentage of GDP compared to other OECD hundreds of millions of dollars in fees since 2001 countries. The following shows public and private for arranging transactions that hid the actual stateexpenditure (% GDP) in 2007. Take note of France leverage. The purpose of these deals made by past governments was to enable them to spend beyond their means, taking advantage of lower interest rates upon adoption of the Euro. By mid-2009, Greece‘s GDP contracted by approximately 0.3%, and net debt hovered around 120% of GDP. This caused S&P and Fitch to downgrade its sovereign ratings, raising state-debt yields. To reduce investor pessimism, the Greek government passed a €24mill austerity plan in March 2010, which included a freeze on state-fund pensions and a 2% hike in VAT. By May 2010, the ECB and IMF had passed a 3-year €110bill rescue package aimed at preventing a financial meltdown. 18

The conditions attached included reducing fiscal deficit to 3% by 2014. Economic observers report that the Greek administration have to exercise spending cuts amounting to more than 11% of GDP up to 2013. Ireland Ireland‘s real economy experienced a boom since the mid-1990s, which was accompanied by real-estate euphoria built on leverage. Low corporate taxes, absence of property tax and lower interest rates after joining the Eurozone spurred a property bubble. By the early 2000s, Ireland had six times higher home construction rate than the UK. The eventual bursting of the bubble, accompanying the global financial crisis in 2008, caused Irish banks to be saddled with NPLs. Homeowners‘ wealth deteriorated to the extent that average house values were a quarter of its value in the late 1990s. The immediate response of the government was to recapitalize troubled banks by buying up NPLs in return for state debt (through the Nationalised Asset Management Agency, NAMA). The buy-up of €50bn to date puts a strain on budget deficits, which reached a record of 32% in 2010, the highest in the Eurozone. In a series of budget plans since 2009, the Fianna Fáil administration emphasised on higher VAT and income taxes, necessary but unpopular amongst voters. Recently, Ireland received a rescue package from the ECB and IMF a 3-year €85bill to help stabilise the financial system. In return, the Irish government agreed an immediate €6bill budget savings plan for 2011, which includes €4bill in spending cuts and €2bill in tax increases (VAT and income tax). As part of the larger €15bill budget savings to bring deficit down to 3% by 2013, Irish citizens can expect a 10% reduction in tax credits and 4% cut in pensions.

mired in the worst recession for decades. The economy contracted by 0.1% in the fourth quarter of 2009, marking the 7th successive quarter of negative gross domestic product. In understanding the cause of the debt crisis, it is important to first consider the domestic policies of the affected nations and their role in contributing to the crisis, focusing on areas that stressed fiscal deficits and encouraged higher state-debt levels. European policies + The Global Financial Crisis = Debt Gloom

Domestic governance Greece was initially left out of the Eurozone single currency during the dialogs of 1991 because it failed to meet several economic criteria including a stringent austerity program, making deep cuts in public spending. When they did meet the guidelines and gained entry in 2001, Greece benefited from lower interest rates with Eurozone membership. While Greece had always ran large government deficits to finance social benefits, to keep within Eurozone Monetary Guidelines it had been found to falsify its accounts. The Greek government had paid several banks millions of USD to have transactions that hid its actual Portugal and Spain borrowing levels. This was exposed in 2010 and Portugal and Spain are predicted to be the Italy had been implicated to similar misreporting as next in line as targets of falling confidence on well. creditworthiness. The recent global financial crisis exposed both countries‘ huge external debt: Spain Welfare state at 91% of GDP (€950bill), Portugal 108% of GDP The innate welfare structure of individual (€177bill). The danger of a long-term Eurozone Eurozone economies coupled with disparity in crisis is particularly based on Spain‘s stability as economic potential was clearly an unmistakable the 3rd largest economy. contributor to unsustainable state-debt. While the Portugal‘s budget deficit last year stood at European Central Bank (ECB) has unified 9.4% of GDP and its debt is currently 85% of GDP. monetary policy of member countries, the labor Unemployment in Spain currently stands at 20%, markets have not. Given the Stability and Growth the highest in the Euro-zone, and the country is Pact, member countries have little they can do by 19

means of domestic policy to stimulate output and unemployment. What impact did labour unions, unemployment benefits and pensions have in the build-up to the crisis? Labour unions were less influential in the build up to the recent crisis as they were in the 1990s. There has been a rapid decline in union membership in Europe over the past twenty years. EU‘s most populated states have at most, modest levels of unionization with Italy at 30%, France at 9% and Germany at 27%. Unemployment stands at 20% in Spain, 10.7% in Portugal, 8.2% in Italy and 6.7%, in addition to varying levels of labor productivity. Unemployment benefits also vary considerably. In Spain, workers can get up to 70% of their original salaries for up to two years, in Italy its 40% for up to seven months. Germany in comparison requires worker and employers to contribute 6.5% of monthly salaries to unemployment insurance. A worker‘s three-year unemployment record is taken into account when one requests for unemployment benefits and other measures are in place to prevent moral hazard, including revoking of employment benefits if a worker turns down a job offer. With the exception of Spain, which has a significantly more generous pension system, the systems in Germany, Portugal and Italy are not drastically different. In Germany, workers have to contribute to the pensions of their parents‘ generation in addition to theirs with contributions of up to 19.5% from a combination of employers and employees. Spain on the other hand has the most generous state pension system among the countries in comparison. A participant with a contribution of 40 years can get more than €30,000 annually. A Madrid-based consultancy firm expects the system to be overhauled at least with a raise in the retirement age and better matching pension payments to individual worker‘s contribution.

The current Italian system had undergone more stringent reforms since the famed 1995 Dini Reform. Now the annual pensions received by pensioners are related on one hand to lifetime contributions and on the other to retirement age, which is similar to Germany and Portugal. All three also require that claimants have a well-disciplined prolonged period of contribution with multiple criteria in place to reduce moral hazard. Financial markets The Subprime Mortgage Crisis in the US had an indirect but clear impact on banks in the Eurozone. The IMF estimated that large European banks lost over a trillion USD in toxic assets following the US Subprime Crisis. Following the financial crisis of 2008 and before the Euro debt crisis, many financial institutions in Europe had been forced to restructure to avoid collapse. Many European banks have been exposed the Greece‘s debt which has been given ―junk‖ status by Standard and Poor. This includes banks in Germany. Ireland was also in the midst of a banking crisis with roots in a domestic property bubble. In 2010, it was revealed that the Anglo Irish Bank had hidden a total of €87mill in loans from the bank. Whilst banks all over Europe are affected by the regional debt crisis, banks in the UK and Spain also face a lack of liquidity and a surge of nonperforming loans. Spain‘s problems have been amplified through the fall in the property market. Spanish banks however have had a strong performance in terms of operating efficiency. Emergency Response by the EU The concerted rescue-funds for Eurozone members burdened with rising cost of debt came from EU-IMF debt-rescue package of €750bill in May. The European Financial Stability Facility (EFSF) consisted of €440bill provided by Eurozone

members, €60bn supported by all EU members through expansion of an existing balance of payments facility and up to €250bn provided by the IMF. Loans for members will be raised through a SPV backed by Eurozone government guarantees. Such loans will be meant to restore confidence in private markets within debt-stricken countries. The conditions for a borrower are speedier economic and fiscal adjustments to ensure lower government debt by 2013. With EFSF implemented, the EU devised another rescue package called European Stability Mechanism (ESM), a permanent financial safety net from 2013 that will help countries with liquidity problems and allow for debt restructuring. €500bill to be used as safety nets for European debt-ridden nations of course with suggestions for a debt ‗haircut‘, which has brought much debate. With Market concerns are now focused on whether the Eurozone has sufficient immediate funds to come to the aid of the likes of Portugal or Spain, should they need a bailout in 2011 as a result of servicing maturing debt. Markets are still facing a high level of uncertainty, compounded by news such as suggestions for debt ‗haircuts‘ by Germany and the concerns over EFSF financial potential. Facing an uphill battle against creditors in the coming years as members‘ debt mature, the effectiveness of responses is still questionable.

government spending, the ‗G‘ factor of the GDP equation is reduced and there would be less spending on factors to boost consumer spending. Beyond this, popular opinion is likely to change in the wake of austerity measures. As evident in the protests across the Eurozone nations, there would be a dip in the support of the general European public for a collective currency- the costs appearing to clearly outweigh the possible benefits. This is evident if the benefits of the common currency are perceived to better the balance sheets of the governments and large corporations with little spillover to the general population. Beyond the direct and indirect effects on the economy, it is important to consider the social impact of the austerity measures on the people of affected countries. Sociology professor Coastas Panayotakis, Associate Professor of Sociology at the New York City College of Technology suggests looking deeper into understanding its causes of the problem ―It’s a very difficult situation, and it’s an attempt to solve the crisis that has been produced by neoliberal free market policies using policies that have the same conservative philosophy, but are much more brutal and much more draconian than the policies that caused the crisis.‖ The professor alludes the unfairness of the crisis and its aftermath. He explains that the crisis is caused by the very free market policies of the present but governments are attempting to solve it Austerity Hangs Over the Eurozone through labour incentives: reducing pensions and The governments of Eurozone countries wages. affected by the debt crisis including contributor nations such as Germany and France have cut What Future Holds for the Eurozone? spending in multiple areas in effort to reduce debt. Austerity measures have been imposed throughout Austerity and Public Support the European Union including a rise in retirement Austerity measures to directly address rising ages, pension cuts, public sector wage cuts and fiscal debt are a hot topic across all of Europe in reduced healthcare benefits. Such measures are the wake of the crisis. It is being employed to necessary to curb government spending in the varying degrees by all EU governments but it risks short term thereby raising investor confidence and short-run growth stump especially for Portugal, also to reduce the moral hazard associated with a Ireland, Italy, Greece and Spain. Their having a high degree of social safety nets. The clearest example can be seen in Greece, being the first affected Eurozone nation. Following a €45bill loan provided this year to Greece, the government imposed several austerity measures including increasing takes on luxury items such as alcohol and fuel by 10%, changing laws related to overtime pay and firing workers and increasing the retirement age for public sector workers from 61 to 65. Austerity poses a paradox for an economy, particularly in the short-run. By reducing 21

governments must ensure there is sufficient investment in the education and training sectors. Growth could be anemic if the current youth from these countries are deprived of an adequate education to meet the demands of their economies. For the current older generations of the workforce, training and skills development must also not be ignored by their governments. Investment in human capital is a costly but an integral part of a long-term solution. If most citizens of the affected countries do indeed perceive the debt to be caused by government policies and the bailouts unjust, at the expense of tax-paying individuals, Conflict Theory in Sociology might suggest a reduction in support in their respective states‘ powers and especially for the legitimacy for the Eurozone common currency. The latter seems like a likely outcome given the outright disapproval by citizens in France who perceived the recent increase in retirement age to be a move to support poorer-performing Eurozone countries at their expense. For the austerity measures to be effectively employed with acceptance from the citizens of these countries, the governments would need to use a large deal of Social Engineering as these states have traditionally been welfare states by and large. Europeans must be convinced of the necessity to cut government spending and its effectiveness in revitalizing the economy for the measures to be employed without social unrest.

disclosing accounts. The members will do this to ensure their creditworthiness is being maintained. In return, the investors should be prepared the restructure their debt. The main hurdle is that the common bond involves creating a single credit status for members with different ratings. In other words, it is an expensive proposition for credit-worthy countries like Germany. Moreover, increasing fiscal harmonization may not be in the interest of all members. Most radical of all are suggestions for a fiscal union. This would imply domestic governments give up their control on budget plans to a collective Eurozone organization. Proponents argue that collective budget plans can put all 17 countries in line in terms of fiscal discipline, stabilising creditor confidence on future creditworthiness. Opponents question the worth of sacrificing a major portion of national sovereignty. If a common monetary union created for the benefit of all members now threatens individual economic prosperity due to spillover effects, what might happen to sovereignty if a fiscal union proves faulty?

Conclusion With substantial portions of sovereign debt maturing in the next two years, Eurozone members face a tough future ahead. Fiscally healthier nations such as Germany are being stretched economically and politically, while Spain and Portugal are adopting austerity measures to ensure they are Common European Bonds and Fiscal Union? There is an urge to issue a common sovereign not next in line to receive a ‗headshot‘ by investors. bond. Further fiscal harmonization is seen as a Overall, uncertainty is the main threat of Eurozone way to help Eurozone to free from the crisis. This stability. idea was suggested by Luxembourg‘s Jean-Claude References Juncker and Italy‘s Giulio Tremonti. The combined credit quality of the Eurozone, http://news.bbc.co.uk/2/hi/business/1095783.stm http://www.enepri.org/files/Publications/OP01.pdf accompanied with clear macroeconomic http://www.fedee.com/tradeunions.html governance, strong EU bank supervision, the http://www.justlanded.com/english/Germany/Germany-Guide/ credibility of the ECB and supported by liquid Jobs/Pension-insurance futures and repo markets, should ensure that E- http://www.efinancialnews.com/story/2010-12-13/piigs-tacklepension-reform bonds are recognized by investors as the http://www.studiamo.it/blog/economia_diritto/italian-pension/ benchmark representing the overall Eurozone. italian-pension.php Even if E-bond yields were to be higher, the http://195.245.197.196/ingles/left.asp?03.02.02 incremental cost would be marginal and http://graphicsweb.wsj.com/documents/PIIGS/Cutting-BackEuropean-Debt-Crisis.html inconsequential compared to the cost of continued http://www.reuters.com/article/idCNL554155620091105?rpc=44 instability. http://www.pbs.org/wgbh/pages/frontline/meltdown/ Besides that, the common bond should http://www.rte.ie/news/2008/1219/anglo-business.html ttp://www.financierworldwide.com/article.php? include convertible characteristics to eliminate hid=7067&page=1 moral hazard in member states. The bond should http://www.social-europe.eu/2010/11/european-austeritybe converted into domestic sovereign bond as regimes-threat-to-social-welfare-state/ incentives for the members to take close control to ht t p: / / www. t e l e gr ap h. c o. uk / ne ws / wo rl d ne ws / eu r ope/ the system as well as taking prudent measure in spain/8032851/Europe-on-strike-over-austerity-measures.html http://www.bbc.co.uk/news/world-europe-11725551 22

The Next Economic Weapon: RARE EARTH By Oscar Pan

What are Rare-Earth Metals? Rare earth elements are a collection of 17 elements in the periodic table, namely Scandium (Sc), Yttrium (Y), and 15 Lanthanides, from (La) to (Lu). They are categorised into light heavy rare earths, which are differentiated based on relative atomic weights. Due to their special geochemical characteristics, concentrations are relatively small, hence require high cost of harvest. Since the concentration of rare earth elements in the Earth‘s crust ranges from 10ppm to 500ppm in weight, the challenge is finding adequate concentrations to be economically mined and processed. Rare earth elements are important because of unique magnetic properties within high-tech applications, ranging from I-Pods to hybrid vehicle engines. Adopting miniaturisation and automation signifies the demand for rare-earth components. The recent promotion of greener technologies intensifies the search for sustainable supply of such elements. Perhaps unknown to the general public, rare-earth elements play a crucial role in leaps within secretive weapon technologies. For instance, Lockheed Martin‘s Aegis SPY-1 warship radar use Samarium-Cobalt (SmCo) magnets. This reality brings one conclusion: rare-earth is becoming as scarce and sought after as fuel. Whilst technological progress allows for alternatives to fuel consumption, (eg: biomass), rare-earth substitutes are currently nil.

China, the reason China monopolises global supply could be because of its willingness to tolerate high polluting mining methods and relatively cheaper costs. Hence, users of rare-earth have ‗supported‘ China‘s role as supplier, only to realise that China‘s gradual rise to power could lead to its stranglehold.

In the last 3 years, China has reduced the allowance of local rare earth production for export. The total export quota for 2010 is 20,258 tonnes, 40% less than the 50,145 tonnes for 2009. This year, the quotas are forecasted to be even smaller. The decision on restricted exports of rare-earth to Japan after a diplomatic dispute, for instance, has sparked international concern over Chinese ulterior motives. The export quotas would force manufacturers that use rare-earths to move production to China. Coupled with onerous local content requirements and cheaper loans to domestic firms, Chinese firms can wrestle market share from foreign MNCs, as proven with production of wind turbines. Hence, domination in supply of factors can lead to domination in sales as well. The Chinese have also made strategic moves to buy other rare-earth companies outside China amidst the recent financial crisis. The government owned mining companies stepped into acquire 52% of Lynas Corporation and 25% of Arafura Resources, which plan to open mines in the next few years that would have a combined proChina Holds the Cards duction around 25% of the global rare earth supply. The announcement of much tighter export Based in 2010 data, 97% of global rarequotas has caused the prices to rise significantly in earth supply is mined in China, and 75% of inter2010. It is forecasted that by 2013, Chinese supply mediate rare-earth magnets are made in China. could just meet local demand, which signals growAlthough rare-earth deposits are not unique to

2009/1H

2009/2H

Foreign

6,685

10,160

Local

15,043

Total

21,728

Total 2009

2010/1H

2010/2H

16,845

5,978

1,768

7,746

-54.01

18,257

33,300

16,304

6,208

22,512

-32.39

28,417

50,145

22,282

7,976

30,258

-39.65

Total 2010

Total % Change

debate. Moreover, the WTO may not provide an immediate solution due to usual bureaucracy.

ing excess demand outside the country. The shortrun outcome could be commodity price inflation. Responses to China’s Rare-Earth Dominance Japan, the world‘s biggest importer at 56%, has reduced its dependence on China by seeking for resources in Vietnam. Japan is negotiating rights on the exploration, mining, development, and separation of rare earth in Vietnam, which was described as ‗a political and strategic decision‘. In addition, Japanese firms have improved recycling and production methods to reduce its requirements for fresh supply of raw rare earth. Specialist companies recycle rare-earth from used laptops, mobile phones and 21st-century automobiles. Relating to production, Japan‘s New Energy and Industrial Technology Development Organization recently announced that it had developed a hybrid vehicle motor that does not need rare earth metals. While focused on securing fuel supply in much of the recent past, the US apparently ignored back-up plans to shortage of supply from China. For instance, the largest rare-earth mine outside China is located in California, with zero output since 1998. Moreover, in 1996 GM sold its rareearth magnet business to a China-led consortium, whilst US companies lag behind the Japanese in rare-earth components production. In March 2010, the Rare Earths SupplyChain Technology and Resources Transformation Act of 2010 (RESTART) was referred to the Senate Committee on Energy and Natural Resources. In October 2010, legislation was passed to increase R&D by the Department of Energy to assure sustainable domestic supply of rare-earth, with collaboration with EU counterparts. Clearly, momentum is building in the US to face shortage from China. To address China‘s move to hoard rareearth, business groups and trade unions in the US are seeking evidence to make a case against China at the World Trade Organization (WTO). This could add more tension on top of the currency

What are China’s Excuses? China refers its export restriction to rising concern of environmental degradation. The opencast mines scar the landscape while refineries leak vast quantities of polluted water into the landscape. Opponents argue that the decision strategically driven by China as a bargaining tool to enhance its influence as a global super-power. The Chinese government further defended its actions by saying it needs sustainable supplies to develop its domestic clean-energy and high-tech sectors. The restrictions may provide an costsaving advantage to Chinese turbine makers and as well as other industrial sectors. Chinese greenenergy companies would have priorities in securing supply of the metals over international peers and their proximity to sources of the minerals ensures quicker and cheaper long-term supply. China‘s dominant position with large mineral deposits is propelling them forward in the global green energy race. Obviously, opponents point out to a violation of free-trade. Conclusion Considering the time taken to obtain a steadier supply of rare-earth from recent efforts, the main concern is short-term supply and commodity inflation. Mines under development in Canada and Greenland would take at least 5 years to generate significant output. Moreover, it is likely to be relatively more costly to operate these mines in developed countries (EU and U.S) due to stringent safety and environmental regulations. ―There is oil in the Middle East, there is rare earth in China‖, once remarked by the former Chinese reformist Deng Xiao Ping. China rareearth monopoly adds to its export dominance, traditionally a result of low-cost labour and undervalued currency. Looking ahead, a question worth pondering is: Will rare-earth resources dominance be China‘s trump card or increase perceived threat to others? References h t t p : / / o n l i n e . w s j . c o m / a r t i c l e / SB10001424052702303550904575561922857320014.html http://news.bbc.co.uk/2/hi/8689547.stm http://www.bbc.co.uk/news/world-asia-pacific-11677802 http://www.bbc.co.uk/blogs/newsnight/ pauln/2009/11rare_earth_the_new_great_game http://www.rsc.org/chemistryworld/News/2010/ October/05101001.asp

SIMES

Forum:

The Eurozone crisis A Review By Al Marzuki Anuar On the 13th of December 2010, SIMES organised an economic forum titled ‗The Eurozone: Debt, Austerity and Challenges‘. The two hour event was moderated by the acting Editor, consisting of four UOL student panelists from different academic years and attended by members of SIMES. Supporting graphical materials were sourced from various media. The forum‘s objective was to promote the awareness of current issues such as the Eurozone crisis and encourage students to apply theoretical knowledge to real-life economic situations. The forum began with an overview of the Eurozone and recent shocks that built-up to the current debt crisis. Next, a comparative explanation of sovereign debt and budget deficit was provided, along with their connection to debt yields. Beginning an analysis of peripheral members, the panelists took turns to highlight the domestic woes that befell Ireland, Greece, Portugal and Spain. Points were made regarding differences in origins of historically high state debt faced by Greece and Ireland, as well as spill-over effects to Portugal and Spain via investors‘ sentiments. The moderator then prompted the floor to suggest viable solutions for the debt crisis. There were references to a single fiscal union, which appeared to be the quickest antidote if not subjected to threats on sovereignty. Following that, an overview of emergency responses (EU financial packages) and analysis of subsequent austerity conditions were provided by the panelists. The next phase of the forum involved a discussion on the welfare-state structure of individual members, the purpose of Eurozone‘s formation and the lingering disparities between Franco-German North and peripheral South. Among the highlights were moral hazards of certain policymakers in response to lower borrowing costs and varying economic competitiveness amidst resource mobility. The panelists also took on the issue of the stability of a common monetary union in response shocks in the absence of unified policy discipline. The role of speculators and investors‘ confidence was pointed out to highlight the spill-over effects currently occurring within the Eurozone. Panelists also discussed the benefits and difficulties of adopting common Eurozone debt securities. They then proceeded to explore the chances of the Eurozone‘s dissolution, pointing out arduous but determined efforts to maintain the union‘s stability. The role of China in indirectly aiding the Eurozone out of its debt crisis was addressed next. In addition, comparing the Eurozone with the US in terms of rising state-debt levels, it was widely agreed that the US was a time-bomb of fiscal deficit. With reference to the final question regarding a feasible near-term solution to the Euro debt crisis, the panelists commonly agreed that a dual-scenario of increased growth prospects and mutual tolerance between domestic governments were keys to winning back investors‘ confidence. The moderator concluded the forum with a quote: ―We are all merely speculators in the grand design of uncertainty‖. Recommended further references in print and digital media were provided to participants of the forum.