Crises in the rear-view mirror

EKN started its operations 75 years ago as a temporary measure in a time of economic crisis. However, time has shown that state guarantees are not only needed in times of crisis but also in periods of economic growth. The present crisis shows how important EKN is when financial markets are unstable. Looking back at previous crises gives us a perspective and understanding of the present situation.

The dramatic chain of events which has been unfolding on the financial markets shows how dependent the real economy is on well functioning money and capital markets. Even in late summer 2008, no-one expected the US sub-prime mortgage crisis, which emerged in 2007, to spread globally as it has done. The fact that investment banks and commercial banks across the globe were exposed to this more or less sophisticated risk protection of mortgages triggered a chain reaction.

Long-term effects of crises

Many Swedish export companies have been affected in that their customers are having difficulties financing their purchases. Unwillingness on the part of financing banks to help with working capital loans, long-term loans and other credits has resulted in reduced business volumes. With banks and private credit insurance companies becoming less willing to take on risk in export transactions, the need for EKN has increased. Consequently, the financial crisis has clarified EKN’s mission to offer risk coverage in circumstances where market solutions are lacking or are inadequate.

It is difficult to ascertain the long-term consequences of an ongoing crisis. The situation often appears dramatic, with deep and possibly lasting negative effects on the economy and societal functions. In view of EKN’s many years as a risk taker and pioneer of Swedish export, it may be of interest to look back at previous revolutionary events in the world.

The market economy’s advantage

As the planned economies dissolved in the late 1980s and early 1990s, the market economy became the prevailing economic system in the world. This brought with it increased trade liberalisation, fewer restrictions on capital flows and an accelerated rate of production relocation to the new emerging markets. In a number of countries, particularly those in the former Soviet Union, the changes also involved a move to democracy.

These developments created an environment of increased economic growth and reduced poverty. However, rapid change leaves economic, financial and political imbalances in its wake more often than not. In the mid and late 1990s, these imbalances plunged many emerging countries into crisis.

Lower credit ratings for many countries

Momentous crises in that period include Mexico’s Tequila crisis and the Asian crisis, which coincided with the crisis in Russia. Turkey and certain Latin American countries were also affected. A common feature of the turbulence was that all these countries experienced rapid growth in imports without earning the hard currency required to finance them. This created massive current account deficits. In many cases, these deficits were temporarily financed by international banks. Fixed exchange rates made it impossible for market adjustments of the deficit via exchange rates. The crises were exacerbated by weak banking systems, corruption and a lack of transparency.

Countries, companies and banks found themselves experiencing payment difficulties and were forced to renegotiate agreements with their creditors. The crises left many borrowers and countries with increasingly lower credit ratings in the early 2000s. On EKN’s country scale, half of the 176 countries which were classified in summer 2000 were in the highest risk categories 6 and 7. The average classification was 4.6.

Rapid recovery

The general consensus at the time of the crises was that recovery would be protracted and painful. No-one can deny the crises were painful. Initially, GDP fell sharply, while unemployment soared. However, the relatively rapid recovery came as a surprise. In a matter of three years, respectable new growth had been established, with current account surpluses and a gradual improvement in state finances.

In many countries the recovery was triggered by a strong competitive situation for the export industry as a result of weaker currencies. This brought increased hard currency earnings, with imports taking a back seat. The foreign debt which existed before the crises, and which grew during them, could thereby be gradually reduced. Heavily indebted countries and companies were helped by globally falling interest rates and risk margins. However, the lower interest rates and risk margins were not entirely beneficial and compounded the present financial crisis.

The recovery was also aided by sharply rising commodity prices since the start of the new millennium. This generated substantial foreign currency revenue which countries were able to use to finance more imports and repay existing foreign debt. High commodity prices also benefited countries not affected by the crises in the late 1990s. This applies in particular to certain countries in Africa, Latin America and the Middle East.

This trend is reflected in EKN’s country classification, with EKN gradually upgrading countries’ risks in the years between 2000 and 2008. Forty-seven of the 176 countries which EKN assessed and classified at the end of 2008 were in risk category 7, compared with 70 countries 8 years ago. There were also more countries in the best risk categories, 0 and 1, than 20 years earlier. EKN’s country classification at the end of 2008 does not show any significant differences from the position at the beginning of the year. At the beginning of 2009, six countries were re-classified as more difficult risks.

Stronger emerging markets

As many countries are afflicted by crisis at present, it is worth looking at how previous crises have unfolded in order to identify similarities and learn from them.

Crises expose structural and institutional deficiencies. Although there has been some understanding of these problems in many countries, the ability to tackle them has often been lacking. History offers many examples of how a crisis can act as a catalyst to making long-needed decisions. One such example is the 1991 balance of payments crisis in India, which resulted in the implementation of market economy reforms and other measures. These reforms have helped boost economic growth. South-east Asian countries, Turkey and Russia are other examples of countries having made changes in their regulatory frameworks and institutions which have proved beneficial to economic development.

The causes of the present crisis exist outside the growth regions, particularly in some western countries. This probably means the economic downturn will be long-lasting, as will the recovery. On the other hand, reforms implemented during the last ten years in countries in Asia and Latin America, for example, leave many of these countries better equipped to cope with the current financial crisis. In addition, lower indebtedness levels than at the end of the 1990s and a strengthening pattern of trade between emerging markets reduce the risk of a return to the generally weak credit rating scenario we saw in 2000 outside the West.

We can see in the rear-view mirror that changes progress rapidly. Much has been changed in the space of a few years, and this may well happen now too. We can also see that even when the map showed much more red ink, there was business potential and EKN issued guarantees for projects in high-risk countries. The latest crises have not involved significant losses for EKN. We have the experience and financial strength to help us work in a long-term perspective.

At year 2000, the majority of countries were classified as high risk.

In year 2008 the map was dominated by lower country risk classification.