This essay analyses the article “Democracy dividend bolsters the positive economic momentum” (2016) by Credendo group. The group is a credit insurance company that assesses risks of trade around the globe and provides solutions on insurance, finance, investment, and international business. In this article, it provides a risk analysis of Myanmar by assessing the current economic and financial performance of the country.
The Republic of the Union of Myanmar, aka Burma, is in the south-east Asia, neighbouring China, India, Thailand, Bangladesh, and Laos. With a current population of 53.9 million and the Gross National Income (GNI) per capita of USD 1280 (about one-tenth of the global average), the Myanmar is among the low-income countries.
For more than 50 years, Myanmar has been ruled by the military. However, since 2011, serious reforms have been implemented in the country’s political and economic system. The military is incrementally transferring the power to the democratic system. The country is experiencing an impressive growth (7.9% in the 2012-15 period and projected to continue to 2020 with an average of 7.7%). These factors have persuaded creditor countries to further support the country by, for instance, writing off almost half of the country’s debt and rescheduling the rest. Considering all these facts, Credendo Group has lowered Myanmar’s risk ratings. The theoretical foundations and the methods by which the group has reached this decision are the topics of this essay.
The essay starts with the definitional approach that Credendo adapts towards country risk. Then, the essay turns to the theoretical approach of the article and by breaking it down into its components, demonstrates the multifaceted approach of the article. It follows with a section on “non-economic” factors, which include political, environmental, and demographic characteristics that can influence the prospect of profitability of economic activities.
2. Definitional Approach
There are two major views on what constitutes a country risk. The general view considers risk as a variance of the performance of a country. In other words, anything that can change the profitability expectations constitutes country risk (Bouchet, Clark & Groslambert 2003: 10).
The second view confines the definition to the probability of events that negatively affect the profitability prospect. In other words, the probability of events that reduce the rate of return or negatively constrain operations is country risk. These events do not include “commercial, technical, or management problems specific to the transaction” (Toksöz 2014: 48).
Credendo’s view on country risk is closer to the second category. While a significant portion of the article is devoted to the bright economic future, it never associates Myanmar’s prospect of economic growth and prosperity with risk. Instead, the article brings up the notion of risk with events that negatively affect investments’ rate of return.
3. Theoretical approach
The article’s view on uncertainty is a mix of Babylonian and Cartesian/Euclidean (Dow 2012: 60). That is why it employs an eclectic approach and combines a variety of theoretical and methodological approaches to assess Myanmar’s country risk. The article demonstrates a more pronounced emphasis on the balance of payments analysis (Bouchet, Clark & Groslambert 2003: 31; Schroeder 2008: 512) and leaves out banking crisis and the contagion approach. In this section, I evaluate the article on each approach separately.
3.1. Currency Crisis
Although not explicitly expressed, the notion of a currency crisis is present in the article. A currency crisis is
“a devaluation or abandonment of a currency peg. Recently, the definition has been broadened to include pressure on the currency, where ‘pressure’ is defined as some combination of devaluation, loss of international exchange reserves and/or rise in the interest rate.” (Schroeder 2008: 512)
There are several issues related to this risk that will test the new government. The country’s currency, the kyat, has lost more than 25% of its value compared to the US Dollar. The currency depreciation is accompanied by a high inflation rate, which has been around 10% since 2015. Together, these two aspects put significant pressure on the currency and constitute Myanmar’s currency crisis risk.
3.2. The Monetary Approach
The monetary approach is based on Irving Fisher’s equation (Bouchet, Clark & Groslambert 2003: 39), which states that a country’s nominal GNP or GDP is equal to the money supply times its circulation rate. The nominal GNP is equal to the flow of the real income times the average price level.
If the supply of money increases or decreases compared to the domestic demand for cash, the price level will also increase or decrease, respectively. In other words, the money supply can lead to inflation or deflation. Thus, to access a country’s risk based on the monetary approach, two ratios should be monitored: budget deficit/GDP and change in money supply/change in GDP (2003: 44).
Credendo’s article employs the monetary approach implicitly and incompletely. It only covers the budget deficit/GDP ratio. Due to the high public spending, Myanmar currently has a budget deficit of about 4% of its GDP. A significant increase in the money supply (Figure 1), especially since 2008, can indicate the government’s intention in financing the deficit by creating money.
3.3. The Elasticities Approach
The elasticities approach to country risk employs the theories of demand and supply elasticities of imports and exports. It presumes that imports and exports constitute a country’s access to foreign exchange and thus, determine its debt repayment capability. This approach is based on the following general assumptions:
- exports are the total supply of foreign exchange
- imports are the total demand for foreign exchange
- exports and imports are dependent on the price of exports and imports, respectively
- there is no direct capital flow between countries (Ardalan 2009: 50; Bouchet, Clark & Groslambert 2003: 32).
Joan Robinson (1947) proposed a simple version of the elasticities approach. This version consists of the trade between only two (home and foreign) countries without any capital flow. The balance of trade (BT) is equal to the total value of exports (X) minus the total value of imports (M):
To understand the effect of currency devaluation on the balance of trade, the above equation should be differentiated with respect to the exchange rate (R):
The first term on the right-hand side of the equation demonstrates the rate of change in the total exports relative to the change in the price of the currency and is the export elasticity. Similarly, the second RHS term presents the rate of change in the total amount of imports relative to the exchange rate, i.e., the elasticity of imports.
To analyse the effect of currency devaluation, equation (2) should be considered for both countries. Therefore, the effect of currency devaluation on the balance of trade depends on four elasticities:
- elasticity of demand for exports in the foreign country
- elasticity of supply of exports in the home country
- elasticity of supply of imports in the foreign country
- elasticity of demand for imports in the home country
To assess a country’s risk based on the elasticities approach, several parameters should be monitored. Most important parameters are the level and changes of import and export, commodity export, GDP (national and global), and official reserves.
Credendo’s article employs this approach but not thoroughly. It does not fully cover imports, an important factor that not only shapes the elasticity of demand but also determines the country’s external dependencies. The article only mentions an import ratio, which is the ratio of foreign exchange reserves over the level of imports. Myanmar’s official reserves cover 2.6 months of import, which is less than the 3-month threshold.
The article, however, considers exports in more details. Export is one of the key economic factors that may render Myanmar vulnerable to external events and exogenous shocks. The country is a net fuel exporter, with gas constituting 25.7% of its total exports. The volatility of the price of commodities and the current forecast of lower hydrocarbons prices for a foreseeable future are the important reasons against the dependency of the country on fuel export. It potentially renders the country vulnerable to future shocks and possibly incapable of meeting its debt repayment requirements.
Moreover, the export destination of Myanmar is not diverse. China is the main importer of Myanmar’s export. In 2014, export to China constituted 35% of the total export, most of which commodities. With the prospect of a lower Chinese growth rate and thus, lower demand for Myanmar’s exports, maintaining the balance by relying on the current export regime seems difficult.
Unfortunately, the document does not provide more details about the demand elasticities. It does not compare the change in the import or export to the changes of the GDP of the country or the global average. The article also ignores the ratio of import to GDP.
3.4. Financial Risk
The financial risk assessment analyses the ability of a country in repaying its foreign debt. The important factors are Total External Debt (EDT), including long-term, short-term, IMF credit, and Total Debt Service (TDS), including interest and principal repayment (Bouchet, Clark & Groslambert 2003: 45).
Credendo’s article discusses the financial risk more explicitly and more comprehensively than the other risks mentioned before. In 2011, Myanmar’s EDT was USD 15 bn. However, after the initiation of the political reform, thanks to the measures taken by the Paris Club, part of the debt was written off, and the rest was rescheduled. As a result of these measures as well as a Japanese bridge loan, by 2014, Myanmar’s EDT fell by more than 41% to USD 8.8 bn.
Currently, the country’s external debt is 53.7% of exports and 13.9% of GDP. The short-term debt and the debt service are 3.9% and 3.2% of exports, respectively. The ratio of the official reserves/total external debt (RES/EDT) is around 9. Based on these factors, and despite the public debt being 34.2% of GDP, Credendo assesses Myanmar’s financial risk as “weak”.
3.5. Political and non-economic factors
Based on the factors above, Credendo improved the risk ranking of Myanmar after 2014. However, “country risk depends on expectations, not current facts” (Roy & Roy 1994: 95). Myanmar has “non-economic” factors that obscure positive expectations and affect the riskiness of trade and investment.
Policy making and economic management are key factors in shaping the future of Myanmar’s economy. There have been serious reforms in the economic system through fiscal and monetary policies, e.g. adopting a managed floating exchange rate regime, liberalisation of trade, and a cohort of new economic regulations.
Despite the reforms, there are still several socio-political factors that add to the country’s risk. First, the economic development of the country has given rise to social protests and political unrest. The main reasons are an uneven distribution of the benefits of economic growth, “environmental degradation and land acquisition for industrial projects”.
Second, the competency of the government is an important component of Myanmar’s sovereign risk. Credendo considers the government inexperienced and potentially ineffective in steering the country’s economy.
Third, the unpredictability of the military’s future actions raises concern about the future of the country. While the military currently demonstrates significant cooperativeness with the political and democratic apparatus, it is unclear whether it will continue to do so. Countries with long histories of the military ruling are usually more prone to the army disrupting the democratic procedures.
Fourth, the country is in the process of emerging from a long-time isolation. It is incrementally reintegrating with the global economy and normalising relations with its creditors. Whether the country can successfully continue this path depends on the government’s capabilities.
Beside the economic and political factors, Myanmar is also exposed to various environmental vulnerabilities including “natural disasters (cyclones, floods and earthquakes).” These disasters, along with the environmental degradation due to fast growth, can affect the economy seriously because of the significant share of agriculture.
The influence of the demographic characteristics on the future of Myanmar’s economy is not negligible. Currently, Myanmar has a low dependency ratio (Lee 2008), i.e. a high working-age population relative to the population of children and elderly. In fact, Credendo’s article considers “cheap, young workforce” as one of the competitive factors of Myanmar’s economy. However, the population is projected to age fairly early, relative to other countries in the region (OECD 2013). Thus, it is also dependent on the competency of the government to make use of this positive advantage before it is too late.
Credendo Group’s article, “Democracy dividend bolsters the positive economic momentum”, is founded on the mainstream economics. There are no mentions of Keynesian or Marxian ideas and the references to the institutional weaknesses cannot be categorised under the institutional economics.
The article is a mix of various approaches and theories, including the balance of payments analysis, sovereign risk, currency crisis, and political risk. The presented numerical data are closer to the ratio analysis approach to the balance of payments. There is, however, a conspicuous absence of analyses such as the contagion effects.
Overall, while the current financial and economic data point to a positive expectation of Myanmar’s future, it is mainly the political aspects, including policy making and economic management, that cast doubt on that future.
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