Global recession Threatens Macedonia

The world is sinking into one of the worst global recessions ever. How will this affect Macedonia?
 
In two major ways:
 
1. Less foreign direct investment (FDI)
 
Historically, in times of global recession, foreign direct investment (FDI) dries up. During the last global recession (2000-2002), FDI flows declined by more than 50%.
 
The government of Macedonia gambled everything it has on FDI - and ONLY on FDI. This government is obsessed with FDI as the only solution, the nostrum, the panacea to Macedonia's pressing economic problems. The government has no Plan B.
 
Even in good times, FDI has never been the solution to Macedonia's pressing problems (such as unemployment).
 
Now, with the world in crisis, FDI transactions already concluded will be cancelled and FDI, in general, will decline precipitously.
 
2. Life-threatening trade deficit
 
Until now, Macedonia's incredibly high trade deficit (c. 35% of GDP this year and 25% of GDP last year) was covered by remittances (transfers) from abroad. Macedonians working in other countries sent money back to their families. These money transfers fully financed the trade deficit.
 
With the onset of global recession, Macedonian workers abroad will be the first to be fired and sent back home.
 
Remittances will decline. The trade deficit will not be covered anymore. This could threaten the stability of the Macedonian denar and the Macedonian economy.
 
Macedonia can still shift its emphasis from FDI to domestic investment and job creation. It is not too late. It is not shameful to admit to a mistake in orientation.

 

From my correspondence:

 

VT:

FDI are supposed to fix the problem with aged and inadequate machinery and equipment by providing better ones right? Or are you talking about the privatisation of the old factories which were built and equipped 50 years ago (there are hardly any of those left in state ownership)?

FDI can gradually improve the work ethic as well. If a worker knows that he/she is going to get rewarded for being productive and the company is producing good financial results than the worker is going to try much harder (I would). I think a FDI with a bonus/incentive scheme for the workers would have great results.

Sam:

http://samvak.tripod.com/foreigndirectinvestment-fdi.html

VT:

I would also like to discuss the Russian worker vs German worker example. I cannot understand your conclusion that "he pays more – but, he definitely gets more". Are you saying that you would rather invest 50M and get 55M back instead of investing 20M and get 30M in return? To illustrate this with your example, if your target was to produce 80K euros worth of goods per month you would need 40 Russian workers or 10 German workers. This operation would cost you 12,400 euros in Russia or 25,000 euros in Germany.

Sam:

Many non-economists make this mistake. The workforce is not INFINITE. It is finite. The more Russians you try to hire, the higher their salaries will go, until they price themselves out of the competition.

VT:

Another thing that caught my attention was the GDP unit labour cost comparisons. Wouldn't a % of return on investment be a better be measure of this? For example if a worker costs 1000 and produces 5000 of GDP then the return on investment is 400%. Applying this to the numbers you provided we get 200% for Greece, 275% for Macedonia, 277% for Serbia and a fantastic 566% for the Czech Republic.

Sam:

That's not the way we, economists, look at it. We are interested in MARGINAL RETURN or MARGINAL UTILITY. If I invest 4000 USD in a Macedonian, I will get 15,000 in annual production. If I invest another 1300 in a Serb - I get another 5000 in production. The Serb's marginal utility is far higher than the Macedonian's. This is ONE reason why Serbia had 5 billion euros in FDI vs. 200 million in Macedonia (the FDI figures in Macedonia are also questionable, by the way).

Of course, this is NOT the Macedonian worker's fault! He has little to work with by way of capital goods (machinery), infrastructure, skills, education, and access to markets. Macedonian workers are every bit as good as the workers of any other nation, as I made very clear at the end of my article.

 

Foreign Direct Investments in Macedonia - The Facts

As usual, the government spins facts and doctors the evidence to "prove" that its utterly misguided economic policies are working. Well, they are not. The lot of the average Macedonian has never been worse since 1996.

 

Consider foreign direct investment (FDI). The government tells us that close to 240 million euros flowed into the country in the first 5 months of the year. This is the same as all of 2007. Are congratulations in order?

 

Not so fast. Close to 80% of this amount are in the form of acquisitions: foreign companies (mainly banks) buying Macedonian firms (mainly banks). This is meaningless FDI that has little effect on the domestic economy. Has anything changed after Societe Generale bought Ohridska Banka? No. Will anything change after Steyermark Savings Bank completes its purchase of Invest Banka? Not likely. Is unemployment still the same since 2006? Yes, it is. Did the trade deficit narrow? It tripled. Bad news piled on even worse tidings.

 

Moreover, economic studies demonstrate conclusively that foreign banks tend to do business with foreigners, not with local firms and that the profits they repatriate (the foreign exchange they take out of the country) exceeds their initial investment.

 

But, what about the remaining 20%? We are still talking about 50 million euros!

 

Most of this money is invested in construction of objects such as shopping malls. What do shopping malls contribute to the economy? Zilch. Shopping centers are non-productive. They don't increase exports. They barely increase employment. They do elevate the trade deficit (by importing goods) and inflation (by encouraging consumption). This is the wrong kind of investment.

 

How much new foreign money was invested in greenfield industry and manufacturing? A negligible amount. During the election campaign of 2008, the entire government embarked on a flying circus of sorts, signing up foreign companies and touting their achievements to a retinue of obsequious (and happy to travel free of charge) journalists.

 

What happened with these deals? Nothing. They were not real. Macedonia had signed numerous memoranda-of-understanding and memoranda-of-intent, but very few firm contracts. Bunardzik is still an empty lot.

 

Finally, how is FDI calculated?

 

There are four methods. The World Bank's, the cash method (actual flows of foreign exchange as monitored by the Central Bank), the accrual method (counting the entire value of the deal when it is signed), and the realization method (considering as part of FDI only the value of the various phases of the agreed projects, as they are realized).

 

Which method is the government using to calculate FDI? Who knows. They may be using all four, thus counting the same transaction multiple times and inflating the FDI figures in the process. It sure feels this way. Where are these alleged flows of foreign capital? Nowhere to be seen or felt.

 

Transparency and honesty are called for- and, preferably, some real foreign investors.

 

The Economics of Social Solidarity and National Identity

Declaring oneself a nation is the easy part. Any group of people can wake up one morning and decide that they have a common history, common language, and, especially, common enemies. Yet, do people treat each other decently, as compatriots? Social cohesion and social solidarity are the real and only litmus tests of nationhood.

 

The government of Macedonia was elected by an overwhelming majority of the electorate. It is, undoubtedly, the reification of the nation's will and mentality. It invests a lot of money in supernumerary churches, basketball halls, tennis courts, and public relations stunts. This money would have been far better used to improve the country's dismal hospitals, horrible prisons, and unspeakably atrocious mental health asylums.

 

A society that values entertainment more than it does the protection and treatment of its weakest members (prisoners, the physically sick, and the mentally ill) is doomed. Most poor countries spend much more than Macedonia on social services. Even the impoverished and besieged Hamas government in the Palestinian Territories doles out 3 times as much (per capita and adjusted to purchasing power) on schools, healthcare, public kitchens, and similar services.

 

This is why I welcome the Prime Minister's initiative to distribute free textbooks to students and pupils in primary and secondary education. This modest and inexpensive gesture goes a long way towards righting social wrongs and is the best conceivable investment in the country's economic future. Well-done, Nikola Gruevski!

Written August 30, 2008

How the Government of Macedonia Revolutionized the Economic Sciences

The 29th of August this year will be remembered as a crucial date in the annals of the science of economics: Zoran Stavreski, in his column in "Dnevnik", has proved conclusively that Macedonia's unprecedented trade deficit is actually a sign of its growing economic health. In his magnum opus, he relied on economic beliefs and theories which were proven wrong and became obsolete more than a decade ago.

The consensus among economists today (those who bother to read the latest economic literature) is that trade deficits of more than 4% of GDP and which are financed with borrowing or remittances are cancerous and should be reduced post haste. The IMF think the same, but Stavreski dismisses them and other experts, both domestic and foreign, whom he derisively calls "independent". It is well known, of course, that the only two truly independent economic experts in Macedonia are Stavreski and Trajko Slaveski, the Minister of Finance. All the others are automatically suspect and should be ignored.

In his presentation, Stavreski makes seven crucial mistakes, none of them intentionally, I am sure:

1. He says that the growth in Macedonia's imports in current dollar terms is owing to the increase in the prices of goods and commodities imported. Not true. Actually, the quantities of many imported items (such as passenger cars) rose considerably over the last 12 months.

2. He attributes the meteoric and vertiginous rise of the trade deficit to the increase in the prices of crude oil and other raw materials. But, the costs of oil, foodstuffs, and minerals have risen by an average of 30% this year - while the trade deficit has tripled during the same period.

3. He boasts that Macedonian exports have soared by 28%. Not exactly, The prices paid for Macedonian produce, mining extracts, and other goods have increased. Judging by various measures of GDP unit labor costs, Macedonia is no more competitive or productive than it has been a year ago.

4. He fallaciously reassures his trusting readers that foreign direct investments (FDI) pouring into Macedonia explain the sorry state of the country's current account and balance of payments. But, FDI has grown by a mere 130 million euros year on year, while the trade deficit is up one billion dollars and the deficit in the current account is 341 million euros. Hitherto, Macedonia was lucky to have received 1.2 billion euros annually in remittances from abroad. This money was used to defray the profligacy of its citizens, intoxicated as they are by the government's fantasies. The bonanza is at its end, however, as Macedonians working abroad are cutting back on their transfers. As remittances decline, Macedonia will be forced to borrow money externally or to dip into its foreign exchange reserves to cover its trade/current account/balance of payments deficits.

5. This government has constructed its entire macroeconomic policy around the twin pillars of FDI and remittances. This is the Macedonian version of playing Russian roulette. As the global economy enters one of the worst recessions on record, both FDI and remittances will decline precipitously. The government has no plan B.

6. This government is obsessed with foreigners and their money because it refuses to acknowledge the fact that there is a lot of money in the informal sector (the grey economy). Contrary to what Stavreski says, Macedonia has sufficient domestic resources to foster growth. The government needs only to legalize these resources and to level the playing field by granting domestic investors the same treatment, the same benefits, and the same red carpet that they extend to foreigners.

7. Finally, FDI in Macedonia is of the wrong sort: acquisitions (mainly of banks), construction of shopping malls, and consumption. Such FDI does not lead to economic growth. At 35% of GDP no sane economist - independent or not - will call the trade deficit a positive sign of economic health and growth. It takes a politician to make such an outlandish statement. Stavreski used to be a damn good monetary economist. Judging by his column, he is now merely a politician.

Written September 4, 2008

In their unwise statements (that Macedonia can survive and grow economically even without NATO and the EU), the Prime Minister and the Minister of Foreign Affairs are confusing cause and effect. The growth in Macedonia's FDI (foreign direct investment) and GDP (Gross Domestic Product) in 2007 and 2008 was and is a direct result of Macedonia's process of Euro-integration.

Without European prospects, Macedonia's economy will stagnate, the educated young will emigrate (brain drain) and the country will become hopelessly addicted to foreign aid and remittances from Macedonians working abroad.

In the last 5 years, foreign investors have flocked to Macedonia because they believed that it will join the EU shortly. Domestic consumers and domestic investors consumed and invested in Macedonia because they believed  that it will join NATO soon.

Macedonia is an anomaly:

While all other countries seek to join NATO in order to defend themselves against an EXTERNAL threat (Russia) - Macedonia needs to join NATO to fend off an INTERNAL threat (its restive minorities). A NATO membership guarantees peaceful and harmonious inter-ethnic relations and the kind of stability that attracts investors and fosters growth.

Moreover, Macedonia already has literally unfettered access to the EU through its CEFTA membership and other free trade agreements; its WTO membership; and its liberalized customs regime. While all other countries seek to join the EU to gain access to its enormous common market, Macedonia needs to join the EU so that the EU can force Macedonia's politicians to
implement painful but inevitable reforms.

Written October 4, 2008

Public Debt, Partial Truth

Having prepaid some of the country's foreign debt, the Ministry of Finance is boasting that Macedonia's public debt is down by well over 100 million euros. At the same time, the total public indebtedness is up by close to 300 million euros because the private sector has been borrowing furiously.

This is not a bad thing. Some of these new debts were surely accrued as businesses have invested in new machinery, tools, intellectual property, and marketing. This is "good" debt. Future profits from these investments will more than cover the interest payments and the repayment of the principal.

Still, private sector debt is more expensive than public sector debt because lenders charge businesses a higher interest rate than they charge the government. In other words: not only has the total debt of Macedonia gone up, but the cost of servicing this debt has grown.

The Ministry of Finance never lies: it merely presents a partial and distorted picture of reality by omitting crucial facts. This is called in America "spin doctoring". This case is no exception. The Ministry could have been completely honest and say: "Public debt is down, but you should know that private borrowing is up and the average cost of servicing the debt - the payments of interest and principal - is up". Instead, the Ministry only says: "Public debt is down, another great achievement of our infallible and farsighted policies."

Increase the Bank Deposit Insurance!

In the last few days, literally every country in the West has doubled or tripled its deposit insurance. This served to harness the panic that spread through the financial system and to prevent runs on vulnerable banks.

Deposit insurance is the guarantee that the state - or a special institution owned by the local banks - gives to depositors. It covers bank fixed-term deposits and, in some countries (for instance, in the United States) it also pertains to certain types of liquid accounts, known as money market funds.

If a bank collapses, the deposit insurance scheme kicks in and depositors get their money back up to a certain amount. If someone has several deposits in a few banks, all these deposits are covered.

Macedonian banks will not survive a systemic collapse of the European banking system. Many of them are owned by foreign banks. Their capital is invested with and deposited in European banks. They enjoy credit lines issued by Western banks.

If Greek, Bulgarian, Turkish, Swiss, German, French, and British banks begin crumbling one after the other, depositors in Macedonia will lose trust and try to withdraw their money all at once. Very few banks can outlive such an onslaught. Macedonian banks are not diversified. They depend exclusively on deposits for their business.

The government should increase the deposit insurance. It is the only way to counter a potential panic. With their deposits insured, people will sleep better at night and will be less likely to go back to stashing their money under the mattress.

Written October 6, 2008

Mexican Lessons for the Macedonian Economic Leadership

As opposed to Macedonia, Mexico is lucky to have oil. It generates the country's main flow of foreign exchange. Mexico's second largest source of US dollars is remittances: money sent back home by Mexican workers in the USA. It sounds familiar: Almost 20% of Macedonia's GDP is in the form of remittances. These transfers help pay for the country's insane trade deficit. Macedonians are living way beyond their means because they have family members abroad who keep bankrolling them, month in and month out.

In the last 12 months, remittances by Mexicans to their homeland dropped by 12% and are still declining fast. Experts predict an even sharper outcome: 20% less remittances by year's end. Remittances to Macedonia have also been ebbing since November 2007.

Macedonian decision-makers would do well to read what Luis Pena, a Mexican economist, had to tell the CNN:

"Temporary workers are always the first to lose their jobs in crises like this one. Since many Mexicans in the United States are there illegally, they are most vulnerable to unemployment."

With reduced remittances, the Macedonian government will be forced to borrow - or to dip into the country's foreign exchange reserves - in order to finance imports. Many families will be left without a source of income. Banks will do less business and the National Bank will have fewer resources at its disposal. This is not a hypothetical situation. It is happening now.

Written October 8, 2008

Too Much Politics - Or Not Enough?

Macedonians often complain that their country has "too much politics". Politicians and political parties are everywhere, as they make sure that their cronies get lucrative jobs, their supporters land sinecures, and their family members run the state. It is impossible to be employed in the public administration unless one joins a political party in power and displays a "party membership booklet" (knishka). It is outlandishly difficult to obtain needed licenses and permits without the right connections and without pledging future benefits to decision-makers.

Still, it is wrong to say that Macedonian public life and private business are too politicized. Macedonia's political parties are not political and they are definitely not parties in the Western sense of the word. Macedonia's political parties revolve around money, not around competing ideologies and platforms. They function as part business concern, part employment agency, part tour operator for their members.

Macedonia's political parties use the guise of politics and the bluster of perpetual campaigning to hide the fact that they care little about social issues and the country's future. They are concerned with one thing only: upward social mobility. The political organizations here - the parties and the NGOs they spawn and finance behind the scene - are out to maximize income for their members, personal wealth for their leadership, profits for their oligarch supporters, perks for everyone involved.

In Britain, the government pays the salary of the head of the main opposition party. There, the opposition is an integral and crucial part of governing the state. The government consults the opposition on issues of national interest and involves it in decision-making processes. In Macedonia, the opposition is merely the competition. Macedonia's resources are scarce and both coalition and opposition are rapacious business organizations, not political parties. They are both out to maximize their take and they prey on Macedonia's impoverished population.

Macedonia doesn't have too much politics - it doesn't have enough politics. It has no political parties, no true opposition, no politicians to speak of. The day this changes, Macedonia will have joined Europe. Until that time, though, it is merely an African country with European pretensions.

Irish Trash and Macedonian Plastic Bags

The Connecticut, Massachusetts, and Maine legislatures have recently rebuffed proposed legislation to ban the use of plastic bags. Americans dispose of more than 100 billion of them every year. Supermarket checkout counters, dry cleaning outfits, and other establishments all furnish their customers with plastic carrying bags which cannot be efficiently recycled and are taking up expensive and scarce space in trash landfills. Moreover, plastic bags are made of non-renewable energy resources, such as natural gas and petroleum. Thus, they contribute to global warming and, when they end up in the ocean, they endanger marine life.

So, why not ban them altogether?

Because there is a much better idea.

In 2002, Ireland imposed a tax on plastic bags. Within one year, their number dropped by 90 percent. The proceeds from the tax on the remaining ten percent of bags in circulation went to finance environmental causes.

Lessons? Tax, don't ban. Tax, don't recycle. It would also make Minister of Finance, Slaveski, happy, as the government's share of Macedonia's economy grows even further.

Written October 11, 2008

It is Europe's and Asia's Turn Now

The crisis in the United States has little to do with its real economy. Last quarter, GDP there grew by an impressive 3.3%. IBM's profits are up 22% year on year. American commercial banks, though in need of re-capitalization, are sound. Its investment banks - the sources of the current crisis - are gone. The Dow Jones is unlikely to drop below 7100. The end of the crisis is near. The Treasury will semi-nationalize some banks (take equity positions against an injection of capital), buy some toxic debts and that's it. Within 12 to 18 months, the USA will emerge from this crisis, strengthened and Wall Street will be back at 10,000.

Not so Europe.

Europe's real economy as well as its financial sector are a mess. France's GDP declined by 0.3% last quarter. In sliding officially into a recession, it has joined Spain, Ireland, and, now, the United Kingdom and Germany. Battered by a strong euro, expensive energy, and mighty competition from China, the US, and India, European exports have stagnated. As opposed to the USA (where exports constitute 18% of GDP), Europe is dependent on foreign carbon fuels and foreign markets for its goods and services. Exports constitute more than 40% of Eurozone GDP.

Moreover, Europe's commercial banks are in horrible shape - far worse than America's. This year alone, European banks must pay 1.41 trillion US dollars in principal and interest, mainly to bondholders. They don't have the money and they cannot borrow it from other banks because interbank lending has all but dried up. Many of them are already technically insolvent.

Europe's recession will be profound and protracted. Asia is likely to follow suit: Singapore is already technically in recession and china's growth rate is abating. It seems that yet again, the USA will be faced with the daunting task of dragging the rest of the world back to growth and profitability.

Written October 13, 2008

Who Needs the European Dis-Union?

The current global financial crisis should have been the European Union's finest hour. The countries comprising this much coveted club could have joined to battle the waves of bank failures, industrial closures, layoffs, and bankruptcies that are threatening to overwhelm their economies from Iceland to Italy.

The European Union finance ministers should have come with a coherent plan to introduce cross-border regulation, a Europe-wide bank bailout fund, clear, continent-wide guidelines as to state subsidies and export stimulation, and other joint policies. Instead, pompous declarations aside, each government rushed to implement unilateral steps, regardless of the needs of their allies and the risks to the Union. The EU was reduced to pathetic and disheartening caricature in the space of less than a week. Iceland was so disgusted by the spectacle that it asked Russia for a loan rather than approach the EU.

But the cracks in the Union were evident long ago. A much-trumpeted EU Constitution was soundly and multiply rejected by the French, the Dutch, and the Irish. Rows erupted over the dispatch of a contingent of soldiers to Afghanistan and 24 helicopters (!) to Darfur. An EU-brokered truce in Georgia was humiliatingly ignored by Russia. Members disagree on virtually every issue: from how to treat Kosovo to how to deal with terrorism.

Both passport-free travel (the Schengen Agreement) and the single currency, the euro, do not apply to the entire EU. The process of enlargement to the Balkans and to Turkey is contentious and may not come to pass. "What's the point of having an EU?" - wondered the Associated Press last week. The Financial Times called the current disarray "a suicidal position".

Moreover, the EU's new (formerly communist or socialist) members differ strongly from old members (Germany, France) on a host of topics, including the extent of collaboration with the United States and whether to nationalize crumbling financial institutions. "The politicians in Europe are crazy. We didn't live under communism for 40 years just to return to it on EU soil," said Czech Finance Minister Miroslav Kalousek.

Written October 18, 2008

Cash is King

Libya has recently emerged as the second-biggest shareholder in Unicredit, Italy's number one bank and Europe's sixth largest banking institution, with a massive presence in Central and Eastern Europe. Japanese, Chinese, and Arab investors and sovereign wealth funds are purchasing Western assets at bargain basement prices: banks, brokerage houses, factories, and real estate.

The last 5 years witnessed a massive transfer of wealth from the West to the developing world. As the international prices of oil and commodities soared, Western consumers had to pay double and triple in hard currency. Trying to cut costs in a competitive, globalized world, Western companies established facilities and back offices in countries with cheap labor and tax benefits (a process called "offshoring").

The US dollars and euros accumulated by the likes or Russia, China, Venezuela, South Korea, Vietnam, and Nigeria were invested in bonds issued by Western governments and institutions. China alone holds more than 1 trillion (!) US dollars in American debt. The West pays an average of 6% in interest on these obligations, thus enriching the bondholders further.

It is safe to say that close to 7 trillion US dollars have relocated from the USA and Europe to Asia, Africa, and Latin America. Add to these another 10 trillion US dollars in losses in the various stock exchanges of the West and we are faced with an unprecedented situation: an impoverished West, financed by rich and increasingly more self-assertive Third World countries. Colonialism in reverse.

Gambling with the Foreign Exchange Reserves

Macedonia's foreign exchange reserves, assures us the governor of the central bank of Macedonia (NBM), are safe. Why are they safe? Because they are invested in bonds issued by governments of rich nations, such as Germany and the USA. Only if these governments default on their obligations will these bonds become worthless. But, such an event - a default by the governments of the USA or Germany or Switzerland - is unlikely.

True, but highly misleading.

To start with, most of these bonds do not provide a protection against inflation. If the NBM owns a US treasury bond that pays 6% interest annually and inflation in the USA shoots up to 8%, the NBM will lose 2% annually (the difference between the interest coupon and inflation).

Secondly, the value of the bond is determined daily in bond markets around the world. Prices of bonds have been known to decline by up to 35% (!). If the NBM buys a bond and holds it to maturity then I agree with the governor, the investment is safe and guaranteed. But, if the NBM has to buy and sell the bonds prior to their maturity there is no way it can foretell their value.

Imagine that the NBM suddenly needs 500 million euros. It would have to sell the foreign bonds it owns in the open global markets. If the prices of the bonds declined in the weeks or days preceding the sale, the NBM would get less money than it has invested when it purchased the bonds in the first place!

How likely are bond prices to collapse? Very likely. Countries from China to Saudi Arabia are reluctant to purchase newly issued American bonds because of the low interest rates they are paying (the low coupons). The prices of European bonds will crumble as Europe enters a continent-wide recession and as government issue and sell to the public 2 trillion euros worth of new bonds to allow them to recapitalize the ailing banking system. The NBM better pay heed.

Written October 25, 2008

Why all the Stock Exchanges Collapsed

In the wake of the global credit crunch, stock exchanges throughout the world collapsed in tandem. Why?

1. All of them - from the mighty Wall Street to the puny Macedonian Stock Exchange - have come to depend on a regular and inexorable flow of foreign portfolio capital to sustain the bull market. When this influx of hot, speculative funds ceased and foreigners began to sell their holdings, the bubbles burst everywhere at once.

2. The sharp reversal from negative real interest rates (in 2000-2001) to high positive interest rates (in 2004-7) rendered equities unattractive. It was safer and often more profitable to simply park one's money in a fixed-term deposit, money market fund, or bonds. At first, this had no effect on the bull market. But, when sentiment turned, this yield spread favored risk-free instruments over risky ones. At the crucial moment, all markets dried up: it was difficult to sell stocks or real estate; to trade in collateralized debt obligations (CDOs) and other derivatives; and to obtain new loans. Banks refused to lend to each other or even to open letters of credit on behalf of perfectly solid customers. As the real economy soured (and, in Europe, devolved into a recession), corporate profit projections were slashed and stock prices reflected the gloom.

3. Over the last 3 years, market volatility has soared to record highs. Stock indices habitually went up and down 2-3% daily and, in the last 12 months, even 5-8% daily. This did not merely reflect investors' lack of certainty and fear. It was also the outcome of massive stock manipulation, a lack of education (as many small-time, uninitiated investors entered the fray), and the deleveraging of debt-financed investments.

4. Over the last 2 years, the number of new IPOs (Initial Public Offering) declined precipitously and companies began to go private, withdrawing their listed shares from the stock exchanges. This dearth on the supply side affected liquidity and hampered investors' ability to diversify their portfolios and thus reduce their risks.

5. Finally, as real economies were affected by the global financial crisis, macroeconomic indicators flashed alarm. Foreign direct investment is on the wane; remittances - which buttress numerous emerging economies - sharply declined; inflation shot up, together with the prices of commodities, foodstuffs, raw materials, minerals, and energy products, chiefly crude oil; current account and trade deficits ballooned. Emerging economies provide 75% of world economic growth. They are the true engine of globalization. Their decline is ominous. Their domestic stock exchanges are merely reflecting this potentially apocalyptic state of affairs.

Vox Populi, Vox Gruevski: Time for Plan B

Macedonian politicians and analysts often confuse populism with a true expression of the popular will. Populism, in the derogatory sense, is when a leader manipulates his supporters by fanning their base emotions, by making unrealistic, fantastic promises, and by doling out money. Popular will, on the other hand, is what we call "democracy".

By rejecting any meaningful compromise on the name issue, Gruevski is fully in accord with the will and sentiments of the vast majority of Macedonians. Only the (often self-designated) "elite" is unhappy with the course he is taking.

Of course, such intransigence has a price. Gruevski is acting as a populist when he refuses to reveal to the people the painful cost of his nationalist and popular policies. Macedonia can forget about the EU for the next few years. Anyhow, it is not welcome by this august club. I won't be surprised if it joins it after Serbia, or not at all (though NATO is a different story).

Consequently, Macedonia can also forget about becoming an attractive business destination. Foreign direct investment will become even more of a pipe dream. Access to international credit lines will be highly restricted. Exports will languish. Even tourism will be adversely affected. The Albanians in Macedonia are likely to be extremely unhappy with this glorious isolation. Who knows what form this dissatisfaction may take?

It is time for Plan B. Macedonia has to reorient its geopolitical and economic policies: to develop Asian export markets; to attract foreign direct investment from North America, Eastern Europe, Russia, Asia, the Middle East, and Latin America; to establish itself as a free zone, catering to banking, manufacturing, and transport; to offer back office IT services; to encourage domestic rather than foreign investment (perhaps by offering a conditional amnesty to tax evaders).

In the absence of such Plan B, Macedonia will find itself an isolated, backward, impoverished backwater an African enclave at the heart of Europe.

Written October 31, 2008

What not to Learn from the National Bank of the Republic of Macedonia

On October 30, 2008, Nova Makedonija published a harsh attack on me by the Investment Committee of the National Bank of the Republic of Macedonia. I will ignore the personal slights (without which no Macedonian can communicate, it seems) and get straight to the core: the worryingly amateurish and manifestly wrong claims made by the authors.

1. The authors refer me to the biannual reports published by NBRM and available on their Website. Alas, either by design or by omission these reports are meaningless, partial, and fail to contain the most critical information. The reader cannot learn from them how the Committee selects its investments,what specific financial instruments were chosen (except in the most vague terms), in which banks the reserves are deposited, etc.

2. The authors are correct in noting that as inflation rises, the prices of traded bonds drop. This is precisely my point: the prices of bonds already owned by NBRM will drop steeply if and when inflation in the issuing countries were to rise. In the near future, inflation will begin to climb, as the enormous injections of money (1 trillion USD in Europe alone!) will affect the money supply.

3. The authors' next claim that the investment portfolio of the NBRM can never lose more than 2.7% is utter nonsense. No one can predict the losses and profits on money invested in bonds and gold. No one can predict future prices of bonds and gold with certainty. No one can predict the future direction of interest rates (up or down) with certainty. If the geniuses of NBRM were truly able to limit their future losses to 2.7% they would be working in Wall Street, not in Skopje and making billions of dollars in salary.

4. To say that NBRM will never have to sell bonds at a loss is again an example of lack of experience, amateurism, and ignorance. No one can predict the future. It is possible that Macedonia will suddenly need a big sum in foreign exchange (for instance, if it has to bail out a big bank about to go insolvent). In that case, NBRM will have to sell bonds in the marketplace and may incur a loss.

5. Finally, the authors come to my help in order to teach me about the global bond market. It would have been comic had it not been tragic. I am the author of a bestselling book about modern portfolio management theory and have spent the last 32 years analyzing and writing about financial markets and instruments all over the world. I have traded bonds in Wall Street long before Macedonia became an independent state.

And what do the esteemed authors say? Because prices of bonds have climbed during this financial crisis, they will continue to climb.

Wrong. As governments issue trillions of USD in new bonds, the prices of bonds are bound to come under pressure. As interest rates drop below 1%, buyers will lose interest in bonds and move to other assets. As countries that hold trillions in bonds begin to feel the pinch of the global crisis, they will be forced to liquidate their bondholdings in order to finance their needs.

In other words, bond prices are poised to crash precipitously. In the last 50 years, bond prices have collapsed by more than 35% at least on three occasions. Should this happen, the NBRM will lose a fortune.

The NBRM Investment Committee should not behave as individual investors do. They should not predict prices and then act on their predictions. They should not gamble with money that belongs to the people. They should keep it safe. And they should hire professional money managers, and not rely on recent university graduates, oligarchs, professionally unqualified politicians, and failed bank managers to manage their investment portfolio.

Written November 1, 2008

Why Minister Trajko Slaveski Deserves the Nobel Prize for Economics

Professor-turned-Minister, Trajko Slaveski, goes around, gloating and bragging: "I told you so! You see, inflation was nothing to worry about after all!". But, he is ignoring the two main criticisms leveled at him: (1) That most of the high inflation during the first months of the year was not imported from the outside, but was the inevitable outcome of the government's profligate and populist spending plans and (2) That the government took no steps whatsoever to quell the inflation that it has wrought. Macedonian paid a high price for its unnecessary inflation.

Slaveski further says: "Our main problem now is deflation, not inflation." In years of working with and for governments in Macedonia, I have come to strongly distrust the official figures released by the pliant and heavily politicized Bureau of Statistics. I cannot understand how deflation is possible in Macedonia.

Deflation is a drop in the general price level. Such a drop occurs under these conditions: (1) That the prices of raw materials, energy, and foodstuffs are collapsing. Indeed, this is happening. Imported inflation may well have become imported deflation; (2) That bank lending and, consequently, the real economy is contracting. In Macedonia, the opposite is true: both bank lending and GDP (Gross Domestic Product) are growing strongly; (3) That the amount of money in circulation and the velocity of money (how many times money changes hands) have dropped precipitously (for instance, as a result of bursting asset bubbles or much higher interest rates). Again, this is not happening in Macedonia. On the contrary: money supply has been growing vigorously; (4) That government spending is drastically cut and the personal savings rate is meteorically up (and, thus, consumption equally down). In Macedonia, the reverse is true.

No question that inflation in Macedonia should drop from the dizzying heights of January-June 2008. But the science of economics teaches us that conditions for deflation do not exist in Macedonia. Even more suspicious is the fact that inflation in Macedonia mysteriously began to abate two months before the end of the uptrend in global commodity and energy prices. Macedonia, actually, was the only country in Europe whose inflation turned into deflation when it did. Slaveski deserves the Nobel prize for Economics as he was the only Minister of Finance and economist who correctly predicted the level of inflation in his country - down to the last decimal point.

Telling Macedonians What They Want to Hear

Macedonians love a certain type of foreigner: ambassadors, authors, columnists, and visitors who tell them how great and wonderful Macedonians are; how perfect their country is; how right Macedonians are to feel aggrieved ("the whole world is really against you, poor things!"); how impeccable and infallible their customs, traditions, and way of thinking are; and how it will all turn out well in the end. These fake friends, who tell them what they want to hear, Macedonians embrace and adore.

Macedonians hate a certain type of foreigner: ambassadors, authors, columnists, and visitors who tell them how flawed Macedonians are; how imperfect their country is; how counterproductive it is to nurture grudges that spawn xenophobic paranoia; how ill-suited to modern life are their customs, traditions, and way of thinking; and how, if they don't wake up and reform themselves and their dysfunctional institutions, the Macedonian experiment may well turn out badly and short-lived. These true friends, who confront them with the truth, Macedonians hate, despise and threaten. They suspect their motives and develop all kinds of inane conspiracy theories to account for their involvement in the country's affairs.

I am true friend of Macedonia and Macedonians. My wife is Macedonian. I have given years of my life to teach and write in this country. I never charge for my work here: my columns in Nova Makedonija, Fokus, and Kapital are free of charge; my lectures and seminars are free of charge; consultancy services that I provide are free of charge. At a grave risk to my personal safety, I have contributed to Nikola Gruevski's career in all its crucial stages. Judging by election results and opinion polls, most Macedonians seem to regard Gruevski as the only good thing to have happened to Macedonia since its independence.

In a sense, I am more of a Macedonian patriot than most Macedonians. But, I am a true friend, not a fake one. I will never tell Macedonians what they want to hear. I owe Macedonians the truth (as I see it), the whole truth, and nothing but the truth.

As we all know, though, the truth threatens the vested interests of many groups in Macedonia. The self-appointed "elites" who enrich themselves at the people's expense, don't want Macedonians to know the truth. People like me, who expose their lies, ignorance, and shenanigans constitute a threat. So, they fight back by spreading ugly rumors and deception, by labeling truth-sayers and truth-seekers "traitors".

And so, when I criticized its policies, the National bank of Macedonia called me "malicious" on the pages of Nova Makedonija (October 30) and said that my aim is to destabilize the trust in the country's institutions.

On October 17, Nova Makedonija published another long "pismo" (letter to the editor) in which the anonymous reader wrote that I am a "dokazen neprijatel" (proven enemy) of Macedonia and am here in order to damage it. In the name of "national interests" and "national unity", the reader called upon the editors not to publish my column any more.

Recently, a government official warned a visiting foreign analyst that I am "an enemy of Macedonia" and publicly berated the journalists present for associating with me.

A senior minister is spreading false rumors (knowing full well that they are false) that my Ph.D. is fake. Luckily for me, my Ph.D. thesis is listed in the online catalog of the Library of Congress and in the UMI repository of dissertations in Michigan.

"Don't worry, these are mere words" - my friends try to reassure me. But, if words were to fail the members of these "elites", the next stage in such a campaign may not be limited to verbiage. Look what happened in Croatia to the courageous editor-in-chief of "Nacional". Macedonians' freedom of speech is at stake and their ability to tell apart their true friends from those who only pretend to be their friends in order to further their diplomatic careers or enrich themselves.

Macedonia's Steel Industry: Too Big To Fail?

Steel prices are down 40-80% since July (depending on the product). Such a precipitous drop threatens the very existence of the steel processing sector in Macedonia. Should the government extend a helping hand? Should it provide the steel industry with handouts, or, as a minimum with -heavily subsidized loans?

The answer is: yes. Steel products make up a sizable part of Macedonia's exports at a time when its trade deficit is record-shattering and its current account deficit equals 8% of GDP. Thousands of families depend on income from that sector in a country where the official unemployment rate hasn't budged from 35% in years. In the United States, they call firms and sectors that are critical to the economy TBTF (Too Big To Fail).

Still, any assistance granted by this poor state to the rich shareholders of the steel industry must come with many strings attached:

To start with, the government should take shares in the companies it helps as collateral. It should charge a hefty interest rate for trade credit facilities and subsidize only the loans whose proceeds are to be invested in machinery and other capital goods and infrastructure. It should impose onerous conditions on the shareholders: as long as they enjoy the government's largesse, they should receive a minimum wage and no bonuses. The companies should not distribute dividends until they have paid back the state in full. And, most importantly, the government should impose a "windfall tax" on profits made by the shareholders in the past as a result of the steep rises in commodity prices. Justice must be done and be seen to be done.

Written November 3, 2008

 

Macedonia's Miraculous GDP

Remittances make up close to 20% of Macedonia's GDP. In the last 12 months, they have fallen by 20% (or c. 300 million USD). This alone has subtracted 4% from the country's GDP. This shortage was balanced by a spurt of growth in FDI (Foreign Direct Investment) of c. 300 million USD (if we believe the official figures). Yet, net exports have declined by 1 billion USD over the last 12 months (in other words, the trade deficit and the current account deficit have both shot up). Moreover, Macedonia's exports are in decline, owing to the global crisis, and so this gap is bound to widen and further depress GDP growth.

Professional economist-turned-amateur politician, Deputy Prime Minister Zoran Stavreski, promises us that GDP this year will grow by 5%, as predicted. This is possible only if consumption and government expenditures will shoot up. As consumption is likely to stagnate (at best), we are left with the state budget as the sole engine of growth. The government will simply tax more, spend more and make sure that GDP grows. It will raise wages, pay higher rents, employ more people, spend more on self-promotion, and build additional churches and tennis courts. That's what it did last year, when the budget ballooned into 42% of GDP - and GDP grew by 5.2%.

Written November 11, 2008

Borrowing Its Way into a Financial Crisis

At 2.7 billion euros, Macedonia's central budget equals c. 50% of its Gross Domestic Product (GDP). A year ago, I met the representatives of the IMF, then on one of their endless missions here, and warned them that Macedonia will have a budget deficit this year and next. They laughed me off: the Minister of Finance had assured them that tax receipts were high and climbing; a budget surplus was literally guaranteed.

Fast forward 12 months: Macedonia's 2009 budget contains an in-built deficit (the difference between taxes and expenditures) equal to 2.8% of GDP. Where will the government find the money to cover the deficit? It will borrow it. Public sector borrowing will increase.

And where will the government find the money to pay for the skyrocketing trade deficit (now at 2.2 billion US dollars and projected to total 3 billion US dollars by the end of the year)? You guessed right: It will borrow it. Public sector borrowing will increase.

Moreover, a deficit of 2.8% of GDP is by no means guaranteed. On the one hand, as economic activity contracts (consumption, employment, and exports are very likely to go down), in the wake of the global crisis, tax intake will stagnate or even decline. On the other hand, the government's profligate and irresponsible promises, wage increases, "projects", campaigns, and other ostentatious displays of populism will put pressure on the expenditure side. I wouldn't be surprised if the actual budget deficit ended up being 4-6% of GDP.

Can the government afford such a spiral of debt or will it become the spiral of death?

In the short-term, Macedonia can afford to borrow money from its citizens and abroad (for instance, in the form of Eurobonds). Macedonia's public debt is actually down this year (although the debts of the private sector are up sharply). This can go on for 2, maybe 3 years. After that, no one in his right mind will lend money to such a spendthrift state; capital will begin to flee the country ("capital flight"); interest rates will go up sharply; and the denar may have to be devalued. Macedonia appears to be borrowing itself straight into a financial crisis.

Written January 6, 2009

Gruevski's Macedonia, Greece, and Alexander the Great, History's Forgotten Madman

The government of Macedonia has recently changed the name of its puny airport to "Alexander the Great". This was only the latest symptom of a growing cult of personality. Modern-day Macedonians, desperately looking for their ancient roots in a region hostile to their nationhood, have latched onto their putative predecessor with a zeal that defies both historical research and the howls of protest from their neighbor, Greece.

In a typical Balkan tit-for-tat, Greece blocked Macedonia's long-sought entry into NATO, citing, among a litany of reasons, the "irredentist provocation" that was the renaming of the airport. Macedonia has designs on a part of Greece, Greek politicians claim with a straight face, and the denizens of this tiny polity have no right to the heritage of Greece of which Alexander the Great is an integral part.

Not to be outdone, Macedonian television is now awash with a lengthy ad depicting the precocious leader berating his pusillanimous and craven commanders ahead of a crucial battle. He speaks fluent Macedonian (the current day, Slav language) and ignores their wise counsel. This pathetic abuse of screen time is supposed to indoctrinate latter-day Macedonians to dare, be decisive, and to face challenges. Alexander the Great would have greatly disliked contemporary Macedonians: they are peace-loving, overly-cautious, consensual, and compromise-seeking. It seems that their own government finds these laudable qualities equally offensive.

It is beyond me why both Macedonia and Greece wish to make a deranged mass murderer their emblem and progenitor. There is little that is commendable in both Alexander's personality or his exploits. Having shed the blood of countless thousands to fulfill his grandiose fantasies of global conquest, he declared himself a god, suppressed other religions bloodily, massacred the bulk of his loyal staff, and betrayed his countrymen by hiring the former enemy, the Persians, to supplant his Macedonian infantry.

Alexander the Great was clearly insane, even by the cultural standards of his time. According to Diodorus, a month before he mercifully died (or, more likely, was assassinated) his own generals invited Babylonian priests to exorcise the demons that may have possessed him. Plutarch calls him "disturbed". He describes extreme mood swings that today would require medication to quell and control. The authoritative Encyclopedia Britannica attributes to him "megalomania and emotional instability". It says:

"He was swift in anger, and under the strain of his long campaigns this side of his character grew more pronounced. Ruthless and self-willed, he had increasing recourse to terror, showing no hesitation in eliminating men whom he had ceased to trust, either with or without the pretense of a fair trial. Years after his death, Cassander, son of Antipater, a regent of the Macedonian Empire under Alexander, could not pass his statue at Delphi without shuddering."

Alexander was paranoid and brooked no criticism, or disagreement. When Cleitus, his deputy, had a petty argument with him in 328 BC, Alexander simply ran a lance through his trusted general and had the army declare him a traitor and, thus, justify the slaying. The same fate befell Cleitus's unfortunate successors as second in command.

From his early youth, Alexander has been reckless (though fortunate) and unusually bloodthirsty. He used the fortuitous occasion of his father's murder to liquidate anyone who opposed him, even implicitly. He then went on a rampage that alienated and united all the Greeks against him. Even his famed campaign against the Persians owed its success to the latter's precipitous decline rather than merely to Alexander's military genius. Long before he came on the scene, other Greeks (the Ten Thousand, Agesilaus of Sparta) have defeated the Persians decisively. His bloodlust never abated: when his army mutinied in India and forced him to return to Babylon, once there, he executed scores of his satraps, military commanders, and other functionaries.

Alexander was known for his hubris and unmitigated narcissism. Using humiliating language, he twice rejected offers of peace from Darius the Great King of Persia, whose family he held captive. When Parmenio advised him to accept the second offer by saying: "I would accept, if I were Alexander", he retorted: "So would I, were I Parmenio". Parmenio paid for his independence of mind with his life: Alexander later ordered him assassinated and his son executed. He also murdered anyone who had anything to do with the two.

When he tried to impose on his free-spirited troupes the obligation to prostrate themselves in his presence, he was subjected to such ridicule that he reversed his decision. But, he kept on wearing the Persian royal garb and he did execute Calisthenes, an hitherto obsequious historian (and nephew of Aristotle) who wouldn't bow to him. The Spartans held Alexander in derision. They published a decree that read: "Since he (Alexander) wishes to be a god, let him be a god".

Wherever he went, Alexander was escorted by scribes whose job it was to embellish history and manufacture legends about their employer. Consequently, most of what is commonly "known" about Alexander is false. But, even so, numerous accounts of his drunken and violent reveries remain, in which he habitually murdered people and tore down cultural treasures (such as the palace of Xerxes). That Alexander was a prodigious imbiber of wine cannot be denied. Virtually all the eyewitnesses concur: Ptolemy, Alexander's bodyguard; Nearchus, his admiral; Eumenes the scribe, his secretary; Chares, his chamberlain; Aristobulus, his military engineer. So do historians who relied on such accounts: Diodorus, Plutarch, Arrian, and the anonymous author of "Historia Alexandri Magni" (History of Alexander the Great").

One could only fervently hope that the government of Macedonia fails in its campaign to transform its citizens into mini-versions of this monster.

 

Interview granted to "Kapital", April 6, 2009