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Iceland’s slowdown underlines the need to fix structural issues

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Sound macroeconomic policies and favourable external conditions have enabled Iceland’s economy to emerge stronger from a decade of post-crisis management. Yet the impact on growth from a drop in tourist arrivals and seafood exports underlines the need for reforms to open up and diversify the economy and improve its resiliency to sectoral shocks, according to the latest OECD Economic Survey of Iceland.

The Survey, presented in Reykjavik by OECD Secretary-General Angel Gurría alongside Finance Minister Bjarni Benediktsson and Minister of Education, Science and Culture Lilja Dogg Alfredsdottir, takes stock of Iceland’s progress on improving fiscal and monetary policy, reducing debt and building up financial buffers. Today Iceland enjoys sustainable public finances, high employment and one of the lowest levels of income inequality of OECD countries.

A lack of structural reform has left Iceland heavily dependent on volatile sectors however. Tourism ballooned over the past decade, overtaking aluminium and fishing to account for 40% of export income and 10% of GDP, but has stalled since the insolvency of a low-cost Icelandic airline. Seafood exports are also down. After several years above 3%, the OECD projects Iceland’s GDP growth will drop to 0.2% in 2019 before rebounding to 2.2% in 2020.

“Iceland’s resurgence since the financial crisis to reach some of the highest living standards of OECD countries has been remarkable. It is a beautiful example of how a robust economy can co-exist with an egalitarian society,” said Mr Gurría. “However this slowdown shows that now is the time to go structural and to further open up the economy. Iceland should focus on reducing regulatory red tape and restrictions on foreign investment.”

Among Iceland’s structural challenges, competitiveness is declining as wages rise faster than productivity. The competitive edge gained after the 2008 crisis has vanished. Foreign direct investment is low, due in part to a high regulatory burden.

The Survey recommends reducing over-regulation, especially in services and for foreign investment, where restrictions are among the highest in the OECD, and lightening the administrative burden for start-ups. Iceland is already working with the OECD to improve its competition policy. Wage settlements across the economy should be in line with productivity growth, and fiscal prudence should be exercised through the current slowdown in order to further reduce the public debt.

In the tourism sector, the Survey suggests considering measures to improve sustainability given that – whether the downturn proves to be temporary or longer lasting – Iceland is already at six foreign tourists a year for each resident and may already have reached a point where the negative social and environmental impacts exceed the economic benefits.

On public finances, the Survey notes that the contribution of public spending to growth has declined since the 2008 crisis. It recommends extending spending reviews to core policy areas like education and health care, and applying more rigorous cost-benefit analysis to spending plans as two ways to improve the effectiveness of public investment.

The Survey also discusses the need to address a decline in high-school student performance and better match adult skills to the labour market. Iceland has a highly equitable education system and a large share of its workforce educated to tertiary level, but it could increase vocational training and make the education system more responsive to the labour market to avoid having people overqualified or possessing the wrong skills for jobs.

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Post-Brexit UK will continue to offer significant opportunities

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PwC’s new report, Brexit and beyond: Assessing the impact on Europe’s asset and wealth managers, outlines the chief findings from qualitative interviews with senior executives at more than 20 global asset and wealth managers (AWMs) covering both the preparations for Brexit made by AWMs so far and their views of what the future holds for their businesses and the industry as a whole.

As the political and economic climate around Brexit continues to provide uncertainty across the globe, many AWMs feel confident that they are prepared for Day One following the UK’s departure from the EU – deal or no deal. But for them, this is only the beginning of the story. AWMs are now beginning to think hard about what comes next – above all, about how to best position their businesses for future growth and profitability.

“We received a clear message that the UK will remain a very important part of Europe’s finance ecosystem beyond Brexit. To this end, and to prevent further fracture, uncertainty and costs for business and investors, there is a strong desire among our clients for close alignment based on regulatory equivalence between the UK and the EU27,” said Andy O’Callaghan, Global Asset and Wealth Management Advisory Leader.

The report details the position of AWMs on Day One after Brexit, how they anticipate their operating models changing further in the months and years that follow, and how they see the long-term outlook for the industry as a whole.

Five key takeaways from the report:

More than three years after the referendum, there is still little clarity about the future relationship between the UK and the EU. While the EU’s equivalence regime offers a potentially powerful insurance policy against future uncertainty, AWMs may suffer collateral damage if trade negotiations become politicised.

Most AWMs we interviewed say they are ready for Brexit, helped by the interventions of Europe’s supervisory authorities, and should be able to continue operating largely seamlessly, even in the case of no deal. However, market and economic volatility is a concern.

The future for the UK’s AWM sector is now unclear. Policymakers and the AWM sector will need to focus on cementing the UK’s status as a centre of excellence for portfolio management while deciding the extent of tax and/or regulatory alignment is a viable option for driving funds growth.

EU27 centres such as Ireland and Luxembourg now have an opportunity to consolidate and grow their substantial funds industries, but fragmentation and domestic competition pose a potential risk to the industry.

EU27 AWMs are still unclear about the best way to access the lucrative UK market.

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Emerging East Asia Bond Market Growth Steady Amid Global Slowdown

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Emerging East Asia’s local currency bond market posted steady growth during the third quarter of 2019 despite persistent trade uncertainties and a global economic downturn, according to the latest issue of the Asian Development Bank’s (ADB) Asia Bond Monitor.

“The ongoing trade dispute between the People’s Republic of China (PRC) and the United States and a sharper-than-expected economic slowdown in advanced economies and the PRC continue to pose the biggest downside risks to the region’s financial stability,” said ADB Chief Economist Mr. Yasuyuki Sawada. “However, monetary policy easing in several advanced economies is helping to keep financial conditions stable.”

Emerging East Asia comprises the PRC; Hong Kong, China; Indonesia; the Republic of Korea; Malaysia; the Philippines; Singapore; Thailand; and Viet Nam.

Local currency bonds outstanding in emerging East Asia reached $15.2 trillion at the end of September. This was 3.1% higher than at the end of June. Local currency government bonds outstanding totaled $9.4 trillion, accounting for 61.8% of the total, while the stock of corporate bonds was $5.8 trillion. A total of $1.5 trillion in local currency bonds were issued in the third quarter, up 0.9% versus the previous three months.

The PRC remained emerging East Asia’s largest bond market at $11.5 trillion, accounting for 75.4% of emerging East Asia’s outstanding bonds. Indonesia had the fastest-growing local currency bond market in the region during the third quarter, boosted by large issuance of treasury bills and bonds.

A special theme chapter examines the relationship between bond market development and the risk-taking behavior of banks. The analysis finds that well-developed bond markets reduce the overall risk of banks and improve their liquidity positions. This suggests bond market development can contribute to the soundness of the banking system.

An annual liquidity survey in the report shows increased liquidity and trading volumes in most regional local currency bond markets in 2019 versus 2018. It also highlights the need for a well-functioning hedging mechanism and diversified investor base for both government and corporate bonds.

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Job Quality in Cambodia is Improving, but New Policies Are Needed to Benefit from Global Markets

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The diversity and quality of jobs available in Cambodia is improving, yet new policies are needed for Cambodia to benefit from the opportunities available in future global markets, according to a World Bank report, Cambodia’s Future Jobs: Linking to the Economy of Tomorrow, released today.

Of the 8 million jobs in Cambodia, 37 percent are wage jobs, many of which offer higher earnings and more protections to workers. However, the other 63 percent of jobs remain more traditional. Such jobs on family farms or in household enterprises are weakly integrated in the modern economy and offer workers lower earnings.

“The diversity and quality of jobs in Cambodia has gradually improved,” said Inguna Dobraja, World Bank Country Manager for Cambodia. “But global trends, such as the growing Asian middle class, shifting trade patterns, and automation require that Cambodia re-think its jobs strategy as it advances to the next stage of export-led development.”

Foreign-owned firms have been significant contributors of higher quality jobs in Cambodia. By 2015, one-third of all wage jobs in Cambodia were in foreign-owned firms. During the period 2010-2015, the garments industry was the fastest-growing occupation sector, increasing its share of employment by 1.1 percent per year.

Domestic firms are more numerous than foreign-owned firms, but they do not contribute as many jobs. Domestic firms employ an average 8 workers, compared to 124 in foreign-owned firms. A key concern is ensuring Cambodian workers are equipped with the skills to compete with workers from other countries for jobs in foreign-owned firms. In 2016, 37.6 of exporters cited an inadequately educated workforce as a top business obstacle.

The report recommends a four-pronged strategy to securing more and better jobs in the future: diversify exports into higher value-added production; create a domestic business environment that supports local firms growth; strengthen linkages between the domestic and export sectors of the economy; and invest in workers’ skills and education. The report further details seven policy recommendations that would advance these strategic goals:

Diversify exports and foreign direct investment (FDI) into higher value-added value chains. Most current jobs are in low-value segments of global value chains. Simplifying processes, providing incentives to foreign investors, and creating quality assurance facilities will encourage diversification of exports and FDI into higher value-added value chains or segments of value chains.

Streamline procedures and reduce the costs of establishing and expanding small- and medium-size enterprises (SMEs), which have considerable potential to create jobs. Such policies would include reducing the cost of doing business for local firms, increasing firm contributions to worker skills development, increasing access to financing through grant programs and fiscal incentives, and providing support to firms to hire more workers.

Help household enterprises enhance their productivity and create better jobs. Household enterprises account for one out of every five jobs in Cambodia and this will grow with increased urbanization. Information technology, for example, can help household enterprises improve their basic business practices and access broader markets.

Support the development of links between exporting FDI firms and domestic input-supplying firms, by, for example, providing incentives to foreign firms to source their inputs from local SMEs, creating a directory of local suppliers with the capacity to partner with foreign firms, and establishing local supplier development programs.

Build a skills development system that will attract higher-value FDI and increase productivity across the economy. Cambodia’s workforce is getting by with only 6.3 years of education on average. Policymakers should focus on reforming today’s education system to help the tomorrow’s workers acquire the broad range of skills needed to work in a knowledge-intensive economy andengage enterprises in the design, financing, and support of a technical and vocational training system to serve today’s workers.

Promote efficient labor mobility and job matching by opening formal international migration channels and supporting programs that encourage circular migration, and by disseminating information about job opportunities inside and outside of the country to students, jobseekers, education and training institutes, and employers so that skills development choices are aligned with the changing labor market demand.

Regain macroeconomic independence and exchange-rate flexibility. US dollar fluctuations have a significant impact on Cambodia’s trade and commodities sectors, which are responsible for most of the country’s jobs. As Cambodia begins to export to a broader range of countries, macroeconomic and fiscal stability will help shield existing jobs from factors related to the US dollar.

“The success of Cambodia’s job strategy will depend on the participation and cooperation of stakeholders across the economy, not only policy makers and government leaders, but also entrepreneurs, investors, development partners, and, of course, workers themselves,” said Wendy Cunningham, Lead Economist and a lead author of the report.

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