Developing Trends: September 2012

Transcription

1 Developing Trends: September 212 Overview Economic activity has slowed down significantly in recent months. The recent bout of financial market tensions in Europe and weaker growth in some of the larger developing countries have significantly impacted real-side activity as weaker consumer and business confidence translated to higher precautionary savings and weaker spending. Reflecting this weakness, global industrial production contracted at a rate of 2.% and.9% in the three-months leading to June and July 212 respectively - its first contraction since May 29. The deepest contraction occurred in the Eurozone the epicenter of the current crisiswith the contraction in output there occurring for a fourth consecutive month in July at a -1.4% pace ( a moderation from the -8.6% pace (3m/3m, saar) in June). Indeed, on a quarter-on-quarter basis, Eurozone GDP contracted by.2% in the second quarter. Even excluding the Eurozone industrial production still contracted for two consecutive months at a 1.9% and 3.6% pace in June and July respectively among high -income countries. Further, among developing countries, though output expanded to 2.7% in July (up from.9% in June its weakest pace since March 29), the expansion still remains well below its tenyear average of 7.5% (3m/3m, saar). Real Side activity weakens significantly in recent months Financial market tensions have eased significantly in recent months (volume %ch, 3m/3m, saar) (5-year sovereign CDS spreads, basis points) 5 1,8 Emerging markets Euro Area Industrial Production (IP) 1,6 4 Italy High-Income less Euro Area IP 1,4 Ireland 3 Developing IP 1,2 Portugal World Trade 2 1, Spain M12 21M6 21M12 211M6 211M12 212M6 Source: World Bank Prospects Group and Datastream Consistent with the decline in real side activity, the contraction in global trade flows continued in July, falling at a seasonally adjusted annualized pace of 4.5% (3m/3m, saar). The contraction in import demand in the Euro Area (-15.3% in July) was sharpest among all regions, not suprising given the rising and record high unemployment rates. Developing countries import demand picked up in July by 2.3% (3m/3m, saar), after contracting in June, but still remains well below its ten-year average growth of 11.2%. The weak demand from developing countries reflects not only spillovers from the Euro Area crisis, but also ongoing slowdown in the domestic economies of some large developing countries including Argentina, Brazil, China, and India. Conditions in global financial markets have eased significantly since July. Supported by recent decisions: such as the European Central bank s announcement to do whatever it takes to save the euro and the Mar-11 Jun-11 Sep-11 Dec-11 Mar-12 Jun-12 Sep-12 Source: World Bank Prospects Group and Bloomberg Developing Trends was prepared by the Dev elopment Economics Prospects Group (DECPG) of the World Bank. The team is coordinated by Allen Dennis (Overview and Trade), and is comprised of Theo Van Janse Rensburg (High-Income) Cristina Savescu (Industrial Production, Business sentiment) Ekaterine Vashakmadze (Inf lation), John Baffes (Commodities), Dilek Aykut and Eung Ju Kim (Finance), Sanket Mohapatra (Exchange rate) and Adil Islam (Annex). The report was prepared under the guidance of Andrew Burns. This note reflects the views of the team, but is not formally cleared by the World Bank Group. 1

2 Developing Trends: September 212 upholding of the European Stability Mechanism by the German Constitutional court; as well as policy interventions, including the unlimited bond buying programs announced by the ECB (Outright Monetary Transactions) and the US Federal Reserve s QE3 program conditions in financial markets have eased significantly since June. Euro Area yields are down sharply with 1-year sovereign yields in Spain and Italy declining by 113 and 111 basis points since mid-june to 5.79% and 5.2% respectively. Similarly, the cost of insuring against sovereign default in Italy and Spain has also declined by 235 and 268 basis points. The reduced uncertainty in financial markets has benefitted developing country bond spreads which have eased by some 8 basis points to go below their long term average of 31 bps. Indeed, gross capital flows to developing countries which fell by about 3 and 4 percent in May-June, recovered in July to their April levels and in July-August were 9% above their levels for the same period in 211. Nonetheless, financial markets remain vulnerable to changing market perceptions and with a raft of key meetings and decisions to take place in October some volatility in financial market volatility could return in the lead and in the aftermath of these decision points (e.g. the Troika s report on Greece, whether Spain will apply for the ECB s bond purchasing program). Though activity is likely to pick-up by the fourth quarter, the recent slowdown implies global GDP growth in 212 will be weaker than earlier projected. Looking forward the easing of conditions in financial markets, cuts to interest rates and or fiscal stimulus in some large developing countries bodes well for a pick-up in economic activity. Real side data for 212Q3 are still sparse, nonetheless metal and mineral prices, which until August had been weighed down by the weak global demand environment (unlike food and oil prices which surged on account of supply-side shocks) has picked up strongly in recent weeks. Further, there are also signs of strengthening momentum in industrial production among countries for which August data is available (4.6% annualized growth in East Asia and Pacific up from 3.5% in July), nonetheless, purchasing manager surveys suggest that activity still remains weak. Given developments to-date and assuming a recovery takes shape in the coming months, growth projections for 212 and 213 are likely to be downgraded by between.2 and.4 percentage points from those released in June 212. Global GDP growth is now forecast to grow at a 2.3% pace down from the June Global Economic Prospects forecast of 2.5%, with developing countries growing at 5.1% (from the June forecast of 5.3%). 2

3 High income (1) Growth in high income countries continues to weaken. Held back by negative spillovers from the ongoing debt crisis, the contraction in the Euro Area has deepened. High frequency indicators suggest an intensifying and spreading impact around mid-year. Although these real indicators are lagging, and financial suggest that economies are stabilizing/recovering, a sharp turnaround in activity before year-end appears unlikely. High-income growth remains under pressure With GDP contracting.7% saar in the second quarter, the Euro area recession has now lasted three full quarters. Periphery contractions ranged from 1.7% in Spain to 2.9% in Italy, 4.2% in Greece to 5.2% in Portugal. With latest high frequency indicators such as trade volumes, industrial production and PMIs still contracting, a strong growth turnaround is unlikely before year-end. Even in the USA, growth continues to fall from 4.1% (11q4) to 2% in the first quarter and to 1.7% in the third quarter. Japanese growth has also slowed to 1.4% in q2 but that came off the high 5.5% base in the first quarter. High-income Quarterly GDP Euro Area USA Japan I II III IV I II III IV I II III IV I II III IV I II III IV I II As industrial production continues to weaken mid-year. Despite unconventional monetary policies by high-income countries, industrial production growth continued to falter in June, with the -3.9% decline representing the steepest monthly decline since mid-29, and almost double the 2% decline recorded in May. Even though financial indicators suggest that conditions have stabilized/improved, real side data is lagging and there latest readings for June/ July IP suggest an intensifying and spreading slowdown, with Euro Area industrial productiondeclines approaching double digits and the USindustrial output growth almost halving to 3% from a month earlier. PMI still weak, but could improve later-on Going forward, prospects for the real side remains weak in the near future as Manufacturing purchasing managers' indices (PMI) in the Euro Area has now been below 5 (indicating contraction) for 12 consecutive months, while Japanese PMI has been below 5 points for the third consecutive month. In the USA, PMI declined further to 51.4 points, and is now just a blink away from outright contraction. If improving financial conditions (i.e. turnaround in spreads & improving equity markets) spill over to the real sector, PMIs and ultimately industrial production may start to recover later on. Although still weak, Euro Area (and high-income) PMIs have stopped declining in August. High-income industrial production Euro Area USA Japan Other high income -4 Jan-1 May-1 Sep-1 Jan-11 May-11 Sep-11 Jan-12 May-12 Sep-12 Diffusion Index Manufacturing purchasing managers index (PMI) Euro Area USA Japan Germany Italy 5-line 4 Jan-1Apr-1 Jul-1 Oct-1 Jan-11Apr-11 Jul-11 Oct-11 Jan-12Apr-12 Jul-12 Source: World Bank Prospects Group and Markit Last updated: Sep. 18, 212 3

4 High income (2) G3 stocks have rallied in September, paring most of losses from April-may sell-off. The cost of insuring highbeta European government debt has eased considerably, but the uncertainly related to resolving the region s ongoing debt crisis remain high. The government bond yields for Spain and Italy have fallen since early- September, responding strongly to the announcement of the European Central Bank s bond buying plan. G3 equity markets have rallied in September, mostly recovering from April-May sell-off; U.S. and German government bonds have performed poorly in September amid growing risk-appetite. Benchmark G-3 bourses have advanced sharply since the start of September, reacting strongly to further monetary easing policy by the ECB and the Fed. S&P 5 have gained 5.3% to reach new post- Lehman crisis highs, TOPIX have climbed 3.9%, and DAX have outperformed its G3 counterparts with a gain of 5.7%. Both U.S. Treasuries and Bunds have performed poorly September to date, with their yields rising by 32 basis points (bps) and 33 bps, respectively. Credit default swap spreads for high-beta European economies have tightened considerably in September. CDS spreads for Spain are currently at 355 basis points, down 268 basis points from record high levels reached in June. The latest announcements of monetary easing policy by the European and the U.S. central banks were positive developments, but uncertainty remain as Spanish banks continue to hemorrhage deposits. Perceived risk of government bonds for Ireland, Italy, Portugal and Belgium have also eased between 154 and 537 basis points since mid-june. Index, January 1 21= Jan-1 Jul-1 Jan-11 Jul-11 Jan-12 Jul-12 Daily CDS Sov ereign rates since Jan Basis points 2, 1,6 1,2 8 4 Portugal Ireland Spain Italy Belgium G-3 equity markets S&P-5 (USA) DAX (Germany) Topix (Japan) Source: World Bank Prospects Group and Datastream Last updated: Sep. 7, 212 Jan-1Apr-1 Jul-1 Oct-1Jan-11Apr-11 Jul-11 Oct-11Jan-12Apr-12 Jul-12 Borrowing costs for Spain and Italy have fallen since the announcement of the ECB s bond buying program in early September, but concerns over their financing remain. Spanish benchmark 1-year bond yields have tightened about 17basis points (bps) since the start of September, but lingering concerns over when, or whether to seek a bailout pushed the yield a little higher to near 6% recently. The yield on Italian 1-year bond have declined as well, falling 75 bps to current level of 5.2% in mid-september. Furthermore, bickering among European government over plans needed to resolve the region s debt crisis raised the specter of lingering instability. Daily yields on 1-year government bonds since Jan Yields (percent) Italy Spain 4. Jan-11 May-11 Sep-11 Jan-12 May-12 Sep-12 Source: World Bank Group and Bloomberg. 4

5 Industrial Activity Industrial activity appears to have bottomed out in July, in particular in developing countries and the Euro area, but August business sentiment surveys point to a weak performance in Q3. High global inventory levels and weak final demand suggest that growth in the third quarter will be tepid at best, especially in the Euro Area and China. IP continues to moderate in the U.S. and disappoint in Japan. However inventory dynamics will be more favorable for growth in the coming months in the G3 and the East Asian tech exporters if final demand hold. Industrial production in high-income countries continued to contract in the three-months to July, even as output shows signs of stabilization in Euro area IP contracted at a 3% seasonally adjusted annualized pace in the three months to July, a slight improvement over the performance in Q2. Euro area IP surprised on the upside in July, up.6% m/m, with a positive outturn in Germany as both domestic and export orders rose. US IP August data point to continued deterioration in momentum, which has turned negative in the three months to August, down from 5.6% in Q2. IP contracted 14.7% Japan in the threemonth to July, on lower domestic demand for autos and weak exports to Euro area and China. Meanwhile the pace of contraction in other highincome countries eased modestly to 4%. Industrial production momentum improved in most developing regions. China s IP growth improved only moderately, expanding at a 6.3% annualized pace in the three months to July up from a dismal 3.2% pace in Q2. High inventory levels could weigh on growth in coming months, but front-loading of spending on infrastructure should support growth going forward. Meanwhile IP in East Asia excluding China and Thailand contracted at an accelerated rate (8.7% ar) in the three month to July. In Latin America, performance in Mexico s IP continues to surprised to the upside, supported by domestic demand, growing at a 3.3% annualized pace in the three month to July and suggesting a possible decoupling from the US IP. There are also signs of stabilization in Brazil, where IP expanded for a second consecutive month in July Jan-1 Jul-1 Jan-11 Jul-11 Jan-12 Jul High-income industrial production Euro Area USA Japan Other high income Source: World Bank Prospects Group and Datastream EAP, ECA & LAC industrial production China -1 EAP excl. China & Thailand Europe & Central Asia Mexico LAC excl. Mexico -2 Jan-1 Jul-1 Jan-11 Jul-11 Jan-12 Jul-12 Source: World Bank Prospects Group and Datastream MENA, SAS & SSA industrial production 4...including in Europe and Central Asia and South Asia In Europe and Central Asia IP performance also improved in July, with output stabilizing (-.2% ar) in the three moths to July. The rate of contraction in South Asia s IP eased to 3.1% in July (3mma, saar) reflecting a more moderate contraction rate of 2.4% in India s IP. Data for Sub-Saharan Africa and the Middle East has a considerable lag. South Africa which reports more recent data continues to show contraction in IP of about 4% annualized pace in the three months to July Middle East & North Africa India South Asia excl. India -3 South Africa SSA excl. South Africa -4 Jan-1 Jul-1 Jan-11 Jul-11 Jan-12 Jul-12 Source: World Bank Prospects Group and Datastream 5

6 Business Sentiment Business sentiment continued to deteriorate across most of the countries in August on tensions in the Euro Area and slowdown of growth in China. Despite the disconnect between the PMIs and real activity data in recent months the low PMI readings in August suggest that any improvement in IP performance this quarter will be very modest. Business sentiment has faltered in most developing regions, including in China, but has improved slightly in the Euro Area. Manufacturing Purchasing Manager s survey indices (PMI) continue to point to weak performance in the manufacturing sector. The global manufacturing PMI declined for a fourth month in August to 48.1, and the decline in new orders index in addition to signs that inventories continue to rise at global level suggest the performance will remain weak in Q3. Inventory levels declined in G3 countries but continue to rise in China and other important manufacturers. PMI rose in the Euro Area for the first time since February, up 1.1 points to 45.1 in August. Germany s PMI rose 1.7 points but remains at depressed levels (44.7). PMI improved marginally in the U.S. to 51.5 although the US ISM index moved in the opposite direction falling.2 points to Diffusion Index Manufacturing PMIs remain depressed in August Euro Area USA Japan Germany Italy 5-line 4 Jan-1 Jul-1 Jan-11 Jul-11 Jan-12 Jul-12 Source: World Bank Prospects Group and Markit Manufacturing purchasing managers index (PMI) PMI declines in East Asia and Pacific, dragged down by a marked decline in China. PMI indices remained below 5 in East Asia and Pacific since November 211 over concerns about weaker-than-expected economic performance. China s Markit PMI dropped 1.7 points to 47.6 by August and the increase in the finished good inventories to an all-time high does not bode well for production in the months ahead. Diffusion Index East Asia & Pacific Europe & Central Asia Latin America & Caribbean South Asia Sub-Saharan Africa 5-line Jan-1 Jul-1 Jan-11 Jul-11 Jan-12 Jul-12 Source: World Bank Prospects Group and Markit Manufacturing purchasing managers index (PMI) Business sentiment remain well below its year-ago level in other regions. In LAC, PMI improved marginally. Brazil s PMI rose.6 points to 49.3, while Mexico s PMI was the highest among the countries included in the survey. In South Africa the PMI declined.8 points but remained above the no-growth mark of 5. Diffusion Index Brazil China India South Africa Turkey 5-line 44 Jan-1 Jul-1 Jan-11 Jul-11 Jan-12 Jul-12 Source: World Bank Prospects Group and Markit 6

7 International Trade (1) With financial market tensions escalating in May, spending by consumers in high-income countries and investments by firms have been held back, thus leading to a slump in global trade. This is particularly the case for the world s largest trading bloc European Union where unemployment is on the rise. Nonetheless, in an increasingly interlinked global economy, developing country trade has also fallen. The decline in developing country trade is due not only to spillovers from Europe but also due to weaker domestic economic activity. The slowdown in the global economy has deepened the contraction in global trade. Buffeted by headwinds related to the Euro Area crisis and a slowdown in economic activity in some of the larger developing countries, the contraction in global trade that began in May (-.3%, 3m/3m saar) deepened in June (-5.4%) and continued into July (-4.5%). The slowdown in global trade is occurring in both high-income and developing countries. Among high-income countries import demand is weakest in the Euro Area, which continues to face rising and record levels of unemployment. However, reflecting a stronger domestic economy relative to the Euro Area, import demand in both the US and Japan continued expanding. Global Import v olumes World High income Developing Developing excl. China -3 Jan-1 May-1 Sep-1 Jan-11 May-11 Sep-11 Jan-12 May-12 The deepening of the contraction in developing country trade was broad-based. Available data suggest that no developing region was spared of the fall in import demand in the months of May and June. Import demand was weakest in developing Europe and Central Asia and South Asia, with both regions recording double digit pace of contraction in contrast to East Asia and Latin America which contracted at a single digit pace, in part because they are less integrated with Europe. Indeed, by July 212, import demand in East Asia is observed to have rebounded to positive territory, whereas in South Asia the contractionary trend continued, albeit at a weaker pace. Regional Import v olumes East Asia & Pacific EAP excl. China Europe & Central Asia Latin America & Caribbean -2 Middle East & North Africa South Asia Sub-Saharan Africa -3 Jan-1 May-1 Sep-1 Jan-11 May-11 Sep-11 Jan-12 Developments among the larger developing countries is mixed. The slowdown in import demand among developing countries reflects not only spillovers from the Euro Area crisis but also weakness in their domestic demand. Indeed, imports contracted at a minus 11% in the BRIC economies in June. While import demand contracted in most large developing countries in May and June, in a few countries activity strengthened due to domestic idiosyncratic factors (e.g in South Africa mining output increased as striking workers returned) Recent loosening of interest rates along with the announced fiscal stimulus measures (Brazil, China) should help provide support to domestic economic activity in these economies and that of thier trading partners. Selected country import v olumes Brazil China Egypt India South Africa -6 Jan-1 May-1 Sep-1 Jan-11 May-11 Sep-11 Jan-12 May-12 7

8 International Trade (2) Export momentum growth in the Euro Area remains at its weakest since the great recession. Not only has weak demand in the Euro Area dampened growth there but slowing economic activity elsewhere in the global economy has accentuated the downturn. Export growth in developing countries remains positive but well below its historical average. Strong import demand from Japan helped sustain export growth in East Asia through June., whereas weakness in the Euro Area led to a contraction of exports from Eastern Europe. is broad- The deceleration in global exports based. With high-income Europe trading predominantly among each other (thanks to the existence of a Customs Union) and with the ongoing debt crisis impacting real side activity via rising unemployment, and weak consumer and business sentiment export activity in the Euro Area is contracting at it s weakest pace since March 29. The weak intra-european Union trade is also being reinforced by slower growth elsewhere in the global economy. Though decelerating, export growth for the aggregate of developing countries still remains positive. Global export v olumes World High income Developing Developing excl. China -2 Jan-1 May-1 Sep-1 Jan-11 May-11 Sep-11 Jan-12 May-12 Unlike imports, export growth momentum among developing regions has been mixed. Consistent with the general slowdown in the global economy export growth contracted for atleast one month in May and June for the Latin America and South Asia region. In contrast, positive export growth in East Asia through June was supported by an acceleration of import demand in Japan (post-tsunami reconstruction spending and government stimulus on buying cars). However, with manufacturing activity contracting in China through August East Asia exports are likely to decelerate. Exports in Europe and Central Asia expanded, however, in Eastern Europe exports actually contracted due to weak demand in the Euro Area. Developments among the major developing countries diverge. While exports for China, Turkey and Russia continued expanding briskly through July, exports in India, South Africa, and Brazil contracted atleast through June. China and Russia (natural gas) benefitted from increased exports to Japan, and Turkey from exports to the Middle East. India s exports after contracting in May and June rebounded strongly in July. And even though exports continued contracting in Brazil in July, it did so at a weaker pace. This may portend a pick-up in trade activity in coming months, although this is not guaranteed and will depend on the effectiveness of ongoing stimulus measures and policy interventions by European policy makers. Regional export v olumes East Asia & Pacific EAP excl. China & Thailand Europe & Central Asia Latin America & Caribbean Middle East & North Africa South Asia Sub-Saharan Africa -4 Jan-1 May-1 Sep-1 Jan-11 May-11 Sep-11 Jan-12 May Selected country export v olumes Brazil China Egypt India South Africa -4 Jan-1 May-1 Sep-1 Jan-11 May-11 Sep-11 Jan-12 May-12 8

9 Commodities (1) Despite weakening global economic environment, oil prices gained 9% in August on supply concerns, including low US crude stocks and geopolitical tensions in the Middle East. Metals prices reversed their 6-month long decline while precious metals gained 2.8% in August with gold reaching $1,77/toz in mid-september. Most prices found further support after ECB s bond buying and Fed s QE3 announcements. Oil prices strengthen on supply concerns. Crude oil prices (World Bank average) gained 9% in August to average $15/bbl, $12bbl shy of their March high. Oil Prices have been supported by numerous supply constraints, including seasonally declining North sea output and lower US crude stocks. Heightened tensions in the Middle East of a likely Israeli action on Iran and more recently the assassination of the US ambassador in Libya have added fears of further supply disruptions. These concerns come on the top of limited OPEC spare production capacity, currently estimated at 2.5 million b/d. Oil prices found further support by policy measures, initially by the European Central Bank s bond buying program and more recently by the Fed s QE3 announcement. USD per barrel Oil prices Brent West-Texas Intermediate Jan-12 Feb-12 Mar-12 Apr-12 May-12 Jun-12 Jul-12 Aug-12 Sep-12 Although the metals and mineral index declined 4.4% in August, prices picked up considerably in mid- August on some early signs of demand strengthening and policy support. Following 6 consecutive monthly declines on a demand concerns, especially by China, prices of key metals reversed the trend. Since mid-august aluminum and tin prices have gained 15% and 17% respectively while copper and nickel prices are up more than 1% each. Metal prices (as was the case with most industrial commodities) found support in early September following ECB s bond buying program and Fed s QE3 announcement. On the physical side, registered stocks at the London Metal Exchange have been declining, with aluminum and copper down 8% each in August, and tin down more than 6%. Precious rise sharply on investment demand, and supply concerns, and liquidity expectations. The precious metals index gained almost 3% in August; gold prices reached $1,77 in mid September, matching the all time high of September 211. Silver and platinum prices have been increasing sharply as well. Demand for precious metals by institutional investors has been rising recently, especially in view of likely inflationary pressures due to the Fed s QE3 action. Additionally, the platinum industry has been plagued by labor disputes in several South African mines. The disputes began a month ago, pushing platinum prices to 6-month highs. It appears that they escalated again in early September, especially at Anglo American Platinum, world s largest platinum company. Index, January 212= Metal and Mineral prices Tin Copper Nickel Aluminium Jan-12 Feb-12 Mar-12 Apr-12 May-12 Jun-12 Jul-12 Aug-12 Sep-12 US$/troy ounce 1,9 1,8 1,7 1,6 1,5 1,4 1,3 Precious Metal Prices Gold Platinum Silver (right axis) US cents/troy ounce J an-12 Feb-12 Mar-12 Apr-12 May -12 J un-12 J ul-12 Aug-12 Sep-12 Source: World Bank Prospects Group and Handy&Harman Last updated: Sep. 18, 212 3,8 3,6 3,4 3,2 3, 2,8 2,6 9

10 Commodities (2) The tightness in maize and wheat markets persists as the US Department of Agriculture (USDA) left largely unchanged the 212/13 global grain outlook in its September update; in contrast, the rice market is wellsupplied. Edible oil prices continue to strengthen with the respective index increasing 2.3% in August. Prices of raw materials, especially natural rubber, declined considerably in view of weakening demand. Following the drought-induced rally earlier in the summer, maize and wheat prices stabilized, albeit at much higher levels. Maize and wheat prices have been remarkably stable during the past two months, following the 4% jump earlier in the summer due to hot weather in the US and (less so) in Europe and Central Asia. In its September update, the USDA left its 212/13 global crop outlook largely unchanged implying that supply conditions for maize and wheat will be tight. End-of-season stocks for these commodities are expected to be 1% lower than last season, with maize reaching its lowest level since Rice prices have been relatively stable, with most of the price risks on the downside. The rice market appears to be well-supplied. US$ per metric tonne Wheat Maize Grain prices Jan-12 Feb-12 Mar-12 Apr-12 May-12 Jun-12 Jul-12 Aug-12 Sep-12 Source: World Bank Prospects Group and CME Last updated: Sep. 18, 212 Edible oil and oilseed prices gained further ground in August with the index up 2.3% since July, on supply concerns. Soybean prices gained 3.2% in August to average more than $68/ton, the highest nominal level in recent history. The tightness in the soybean market began earlier in the year following weatherrelated crop failures in many South America. The tightness intensified during the summer when the USDA downgraded the US crop more sharply than expected earlier due to massive crop losses. While prices eased in early September, there are upside risks if the effects of El Nino intensify. On the policy front, the EU is contemplating easing biodiesel mandates as it is becoming increasingly apparent that the environmental benefits of biofuels are less than originally thought. Raw material prices weakened on demand concerns. The raw material index was down 3% in August and 14% since its recent high in February (22% down when excluding timber), a reflection of slowing demand due to weakening in global economic conditions. Natural rubber prices declined 9.3% in August down 55% since their highs of early 211 as demand for tires in Europe, and most importantly in China, has been weakening. Yet, prices found support in September on more positive news from Europe. The weakness in the cotton market persists with prices 63% lower than March 211. With record high stocks, price risks are on the downside. US$ per metric ton Edible oil and oilseed prices Soybeans [Left] Soybean oil [Right] US$ per metric ton 1,4 1,3 1,2 1,1 1, 9 Jan-12 Feb-12 Mar-12 Apr-12 May-12 Jun-12 Jul-12 Aug-12 Sep-12 Source: World Bank Prospects Group and CME Last updated: Sep. 18, 212 US$ per kilogram Raw material prices Cotton [Left] Rubber [Right] US$ per kilogram Jan-12 Feb-12 Mar-12 Apr-12 May-12 Jun-12 Jul-12 Aug-12 Sep-12 Source: World Bank Prospects Group, ICE and SGX Last updated: Sep. 18,

11 International Finance (1) Global financial markets were a more upbeat in September following the announcements of the European Central Bank (ECB) s new bond-purchasing program and the Federal Reserve s third round of quantitative easing. Risk-aversion among investors eased considerably in September with developing countries CDS spreads tightening sharply and the global stock markets rallying. Developing country CDS spreads have tightened further in September as risk-aversion eased considerably. CDS spreads for developing countries have tightened by about 5 basis points on average since the beginning of September in the wake of further monetary easing announcements from the European and the U.S. central banks. Emerging Europe and high-beta Latin America countries (such as Argentina and Venezuela) have posted the largest tightening in their CDS spreads thus far this month. Daily CDS Sov ereign rates since Jan Basis points East Asia & Pacific Europe & Central Asia Latin America & Caribbean Middle-East & North Africa Jan-11 Apr-11 Jul-11 Oct-11 Jan-12 Apr-12 Jul-12 Global equities rallied in September following the announcements of further monetary easing from the European and the U.S. central banks. The global stock markets rallied in September as the ECB s new bond-purchasing program and the Fed s a third round of quantitative easing boosted investor sentiment. Mature market stocks rose to this year s high on September 14th, pushing year-to-month s gain to 4%, while developing country shares have gained 4.6% thus far this month. Stock markets are likely to remain volatile in coming months amid the uncertainty related to difficulties implementing Euro Area consolidation; dealing with the American fiscal cliff, and a deepening concern over slowing China growth. Index (Jan 1, 211 = 1) Emerging Markets Developed Markets MSCI Equity Indices 7 Jan-11 Apr-11 Jul-11 Oct-11 Jan-12 Apr-12 Jul-12 Stock markets across all developing regions have posted gains that erased fully the losses of April- May selloff. Stock markets in all developing regions have rallied in September-to-date, posting 6.1%, 5.1% and 4.7% advances in Emerging Europe, Latin America, and Emerging Asia, respectively. Emerging Europe equities significantly outperformed other regions since May/June bottom, with the region s benchmark index gaining by 22.7% led by Turkish and Russian shares. MSCI Regional Equity Indices Index (Jan 1, 211 = 1) MSCI Asia MSCI EE MSCI LAC 7 Jan-11 Apr-11 Jul-11 Oct-11 Jan-12 Apr-12 Jul-12 11

12 International Finance (2) Several developing countries cut policy rates between late-july and mid-september, reacting to a weak economic growth. Developing-country sovereign bond spreads eased to their long-term average amid further monetary easing from the European and the U.S. central banks. Capital flows weakened in August mainly reflecting seasonal factors. Taking July and August together flows are 9% above their levels in August/July 211. Further policy easing in several developing, while Russia unexpectedly raised its policy rate. Policy rates for several developing countries, including Brazil, Colombia, Hungary, and Philippines, were cut over between late-july and mid- September, reacting to weak economic growth. Brazil continued to cut the policy rates to a record low of 7.5% in late-august, but this could mark the end of 5 basis points (bps) easing cycle as the government concerns shift from growth to inflation. Russia s central bank raised its refinancing rate by 25 bps to 5.5%, the first increase in 16 months, after inflation breached its target level. Developing-country borrowing costs fell to this year low in mid-september amid supportive external environment. Developing-country sovereign bond spreads eased from the early-june peak of 441 basis points (bps) to this year s low 286 bps of mid- September amid supportive G-3 policy backdrop. Spreads remain about 8 bps above the average posted during the 18-month period ending June 27; but they are currently below their longterm average of 31 bps. Flows to developing-country bond mutual fund picked up as well in September, attracting $1.2 billion since the being of the month. Central bank policy rates Percent 14 Brazil Romania South Africa 12 Philippines China India Jan-1 May-1 Sep-1 Jan-11 May-11 Sep-11 Jan-12 May-12 Sep-12 Source: Bloomberg and the World Bank staff Capital flows were strong in July and seasonally weak in August, and July-August flows were 9% above their levels for the same period in Gross capital flows to developing countries which fell by about 3 and 4 percent in May-June, recovered in July to their April levels and in July- August were 9% above their levels for the same period in 211. Developing countries issued international bonds at all time record level at $29 billion. Nevertheless, total capital flows during the first eight months of 212 stand 16.8% below yearearlier levels, though bond flows were up 7%. By region, the contraction was most notable in Sub-Saharan Africa and Middle East and North Africa regions, where year-to-date flows are down about 5% and 41%, respectively. Gross Capital Flow s to Dev eloping Regions $ billion, 3-mon. m.a Bond Issuance Equity Issuance Syndicated Bank Loans Jan-11 Apr-11 Jul-11 Oct-11 Jan-12 Apr-12 Jul-12 12

13 International Finance (3) Equity flows fell sharply in August reflecting the subdued activity in the East Asia and Pacific region, and year-to -date flows were down 32% compared to the same period of 211. Bond flows were low as well following the record level of issuance in July, as investors took a summer break. But preliminary September figures suggest a strong rebound. Meanwhile, syndicated bank lending rose in August, mainly to the East Asia and Pacific region. August equity flows were down sharply on account of East Asia. Equity placements (a combination of IPOs and follow-on issuance) tumbled to $2 billion in August because of a sharp drop in flows to East Asia region, with China posting a 79% decline. Meanwhile, year-to-date equity flows were down about 32% compared to the like period of 211, with a 79% fall in Europe & Central Asia. There was a total of 59 IPO deals (raising $8.2 billion) so far this year, compared with 14 deals ($21.4 billion) in the like period of 211. $ billion (3-mon. m.a.) International Equity Issuance East Asia & Pacific Europe & Central Asia Latin America & Caribbean Middle East & North Africa South Asia Sub-Saharan Africa Jan-11 Apr-11 Jul-11 Oct-11 Jan-12 Apr-12 Jul-12 After a record issuance in July, bond issuance activity was low in August mainly on seasonal factors. Bond flows tumbled to $6.1 billion in August from the record high level of $29.2 billion in July, as investors took a summer break-august is historically the slowest month of the year. Developing-country borrowers raised $149 billion thus far this year, up 6% from last year. Corporate borrowers dominated the issuance activity accounting for 72% of bonds sold year-to-date. Preliminary figures suggest bonds rebounded strongly in September. Brazilian government sold the first new dollar benchmark in more than two years, which posted record low borrowing costs from Latin American sovereign. $ billion (3-mon. m.a.) International Bond Issuance East Asia & Pacific Europe & Central Asia Latin America & Caribbean Middle East & North Africa South Asia Sub-Saharan Africa Jan-11 Apr-11 Jul-11 Oct-11 Jan-12 Apr-12 Jul-12 Syndicated bank lending rose in August, mainly to the East Asia region. Syndicated bank loans to developing countries rebounded to $15.6 billion in August from $5.6 billion in July, as lending activity increased to the East Asia region. EAP accounted for 56% of August syndicated loans to developing countries, with Thailand and China dominating the regional market. Nevertheless, year-to-date flows remain subdued so far this year, down 33% from last year s level, with some BRIC countries posting multi-year lows. Bank loans to India and Brazil this year was at their lowest year-to-date level since 28 and since 25, respectively. $ billion (3-mon. m.a.) Bank Lending East Asia & Pacific Europe & Central Asia Latin America & Caribbean Middle East & North Africa South Asia Sub-Saharan Africa Jan-11 Apr-11 Jul-11 Oct-11 Jan-12 Apr-12 Jul-12 Source: Deallogic, DEC Prospects Group Last updated: Sep. 18,

14 Exchange Rates The euro strengthened in the weeks leading up to, and especially after, the announcement of policy actions in the first half of September to contain the Euro Area debt crisis. After a rally in early 212, currencies of several large developing countries depreciated in real trade-weighted terms over the summer. The stabilization of global financial markets, upturn in crude oil and industrial commodity prices, and US dollar weakness (if sustained) could cause appreciation pressures in developing countries, especially for commodity exporters. After weakening during early summer, the euro gained sharply on ECB monetary policy action The euro strengthened sharply against the US dollar and yen in the weeks leading up to and especially in the weeks after the ECB s announcement of the OMT bond purchase program on September 6 and the German Constitutional Court backing of the European Stability Mechanism (ESM) bailout fund on September 11. The US Fed s decision on quantitative easing (QE3) on Sept. 13 and falling global risk perceptions caused further downward pressure on the US dollar. Notwithstanding the recent euro gains, Euro Area fiscal risks and a possible delay in translation of financial market stabilization to the real side could restrict further appreciation of the euro. The currencies of several large developing countries depreciated in real trade weighted terms (REER) during March-July Weak global demand for exports and downturn in prices of industrial commodities during summer and of crude oil (until June) caused a deterioration in current account positions of developing countries, raising depreciation pressures. Among developing oil and commodity exporters, the Russian ruble depreciated 4.5%; Brazilian real by 6.1% (aided by capital controls); South African rand by 3.5%; and Mexican peso by 1.3%. The Indian rupee depreciated 6.9% as the current account deficit rose and capital flows weakened. Easing of market tensions, resumption of financial flows and upturn in industrial commodity prices is likely to appreciate developing currencies. Some currencies bucked the downward trend rising more or less steadily (REER terms) in March -July despite global economic weakness In Turkey, monetary policy support for the exchange rate and a reduction in the current account deficit (as rising exports to the Middle East and North Africa outweighed a slump in exports to Europe) caused the lira to appreciate 8.1%. A high inflation differential with trading partners resulted in a smaller 4% NEER appreciation. The Chinese yuan continued to appreciate in real trade weighted terms by 1.7% (+1.6% NEER). Better growth outturns relative to key trade partners and widening of the yuan s trading band against the US dollar to 1% since April contributed to the trade-weighted nominal and real appreciation. High income nominal exchange rates Index, Jan 211 = USD/Euro USD/Yen 88 Jan-11 Apr-11 Jul-11 Oct-11 Jan-12 Apr-12 Jul Dev eloping real effectiv e exchange rate Index, Jan 211 = 1 Brazil 95 China India Indonesia 9 Mexico Russia Turkey South Africa 85 Jan-11 Apr-11 Jul-11 Oct-11 Jan-12 Apr-12 Jul Dev eloping nominal effectiv e exchange rate Index, Jan 211 = 1 95 Brazil China 9 India Indonesia Mexico 85 Russia Turkey South Africa 8 Jan-11 Apr-11 Jul-11 Oct-11 Jan-12 Apr-12 Jul-12 14

15 Inflation Inflation picked up in high income countries in August led by Euro area. Inflation momentum moderated in MENA, SA and SSA, but y/y inflation remains high. High grain and commodity prices started to generate price pressures globally. For many countries, with the exception of EAP, room to stimulate growth in Q4 without undermining inflation targets will be challenging as high food and commodity prices and expected stronger aggregate demand are likely to fuel inflation in the last quarter of the year. August marked a marginal reversal in the declining inflation trends in high income countries as well as in EAP, led by China. Inflation levels in China, which converged with the inflation levels in high income countries in mid-212, inched up to 1.9% (y/y) in August from July s 1.78%. EAP inflation increased to 2.24% (y/y) in August from 2.8% in July with Indonesia on the high side (4.55%) and Malaysia low (1.4% in July). Relatively low levels of inflation and low dependence on wheat and maize, which have seen major price increase, provide the policy makers in EAP region with room to support growth in Q4. Inflation momentum in ECA and to some extent in LAC accelerated in August and the y/y inflation reached and in some cased surpassed the upper limits of targeted inflation range in many countries narrowing the room for supporting growth in Q4. In ECA, inflation momentum accelerated in July reflecting increase in administered prices and food price hikes across the region. Russia raised interest rates in September as inflation reached the 6% inflation target. In Turkey, inflation momentum declined due to tight monetary policy, but inflation level remains high at 9% y/y in August above the 5% central bank inflation target. LAC inflation momentum accelerated in July due to food price hike in Brazil and Mexico and exchange rate depreciation in Brazil. Inflation levels remain around 6 percent but are close to the upper limits of the targeted bands. Inflation momentum eased in MENA, South Asia and Sub Saharan Africa over the summer although headline inflation remain high; prices are sensitive to commodity shocks and supply disruptions undermining gains in containing inflation momentum. Inflation momentum declined in South Asia from 18.5% in May to 12.5% in July due to monsoon season, weak demand and tight monetary policy, however the headline inflation remains high across the region and price pressures persist. In Sub-Saharan Africa, inflation momentum declined steeply to 5% in July from above 1% in April due to weak demand, but also tight monetary policy, however and price pressures prevail. Headline inflation remains high across a number of MENA countries due to political turmoil and supply side shortages; inflation momentum declined in Egypt, due to administrative measures. Dev eloping and high income inflation Developing CPI inflation High-income CPI inflation Jan-1 Apr-1 Jul-1 Oct-1 Jan-11 Apr-11 Jul-11 Oct-11 Jan-12 Apr-12 Jul-12 Source: World Bank Prospects Group Last updated: Sep. 18, 212 EAP, ECA & LAC inflation Jan-1 Apr-1 Jul-1 Oct-1 Jan-11 Apr-11 Jul-11 Oct-11 Jan-12 Apr-12 Jul-12 MENA, SAS & SSA inflation Middle East & North Africa South Asia South Africa SSA excl. South Africa China EAP excl. China Europe & Central Asia Latin America & Caribbean Jan-1 Apr-1 Jul-1 Oct-1 Jan-11 Apr-11 Jul-11 Oct-11 Jan-12 Apr-12 Jul-12 15

16 Table A.1 Global industrial production growth (constant prices; percent; seasonally adjusted annual rates except monthly figures which are in percent change over previous month a/) Average Q3 Q4 Q1 Q2 Apr May Jun Jul World High - in come cou n tries Industrial countries United States Japan Euro Area United Kingdom Other high income Hong Kong (China) Singapore Taiwan (China) Dev elopin g cou n tries East Asia and Pacific China Indonesia Thailand Malaysia Europe and Central Asia Russian Federation Turkey Poland Czech Republic Latin America and Caribbean Brazil Mexico Argentina Colombia Middle East and North Africa Saudi Arabia Iran Egypt Algeria South Asia India Pakistan Sri Lanka Sub-Saharan Africa South Africa Nigeria Memo: OECD Developing excl. China Developing oil exporters Dev. non-oil exporters a In general, series refer to industrial production excluding construction (e.g. manufacturing, mining and utilitites). Where this is not available the closest proxy is used, often manufacturing output or oil output, if the country is a major oil producer. 16

17 Table A.2 Demand conditions in high-income countries (US dollar values unless otherwise indicated; percent change; seasonally adjusted annual rates except monthly figures, which are m/m change) Weight Average Q3 Q4 Q1 Q2 Apr May Jun Jul Real GDP High -in come cou n tries Industrial countries United States Japan Euro Area United Kingdom Real merch an dis e imports High -in come cou n tries Industrial countries United States Japan Euro Area United Kindgom Other high income Hong Kong (China) Singapore Taiwan (China) I mport Prices High -in come cou n tries Industrial countries United States Japan Euro Area United Kindgom Other high income Hong Kong (China) Singapore Taiwan (China) Real effectiv e ex ch an ge rates a Euro Area United States Japan United Kindgom Canada Hong Kong (China) Korea, Rep Singapore Taiwan (China) Switzerland a/ JP Morgan Trade Weighted Indices (Real, Broad basis). Data are averages of monthly data for the period in question. 17