Capital flows to developing countries on rise

Net private capital flows to developing countries reached a record high of US $491 billion in 2005, driven by privatisation's, mergers and acquisitions, external debt refinancing, as well as strong investor interest in local-currency bond markets in Asia and Latin America.
This was disclosed by the World Bank's annual 2006 Global Development Finance report, which was made public on Tuesday. It further states that the surging flows, including record bank lending and bond issuance, among others, coincided with 6.4-percent economic growth in the developing world last year, more than double the 2.8-percent growth in developed countries.
According to the report, sharp rise in private flows to developing countries came despite uncertainties caused by high oil prices, rising global interest rates and growing global payments imbalances. Private debt flows to developing countries rose to an estimated US $192 billion, up from US $85 billion in 2003, driven by abundant global liquidity, steady improvement in developing country credit quality, lower yields in rich countries, and expansion of investor interest in emerging market assets.
Many developing countries have received credit-rating upgrades to accompany record-low spreads on their bonds, enabling them to raise a record US $131 billion in bond issues in 2005, up from US $102 billion in 2004.
"These gains reflect estimated GDP growth of 6.4-percent in low and middle income countries in 2005, buoyed by China and India, whose output grew, respectively, by 9.9 and 8-percent. Excluding these two countries, growth in other oil-importing developing countries was 4.3-percent, down from 5.7-percent in 2004. Growth is expected to exceed five percent through 2008 in Africa, Asia and Eastern Europe, and close to four percent in Latin America," it observed.
The report revealed that the surge in capital flows also reflects rising trade flows and financial integration among developing countries.
South-South trade rose to US $562 billion in 2004, up from US $222 billion in 1995, and in 2004 accounted for 26-percent of developing countries' total trade. South-South foreign direct investment (FDI) also rose, reaching US $47 billion in 2003, up from US $14 billion in 1995, and in 2003, accounted for 37-percent of developing countries' total FDI, it added.
According to it, while these South-South flows are a relatively small share of total private flows, they have the potential to change the face of development finance, particularly if growth in developing countries continues to outpace that in the developed countries.
Much South-South FDI originates with middle income country firms, and is invested in the same region, for example, Russian and Hungarian firms investing in Eastern Europe and Central Asia, and South African companies investing elsewhere in southern Africa. About half of China's FDI, however, went to natural resources projects in Latin America.
The report pointed out that amid the encouraging trend of increased capital flows to developing countries, a gap in access to international credit persists among these countries. One group has issued bonds regularly since 2002. It includes "stars" such as China, Chile, Hungary, Malaysia, Mexico, Poland, Russia and Thailand, which are rated investment-grade, and enjoy lower bond spreads than the overall developing-country bond issuers' average.
A second group has access to bank lending because of well-defined revenue streams such as exports, remittances or extractive industries, but lacks access to bond markets. A third group of low income countries has no access to private capital except short-term trade finance or FDI, and depend mainly on official financing for their long-term capital needs.
"This last group benefited from gains in development aid and debt relief. Donors increased official development assistance (ODA) to 0.33-percent of their gross national income (GNI) in 2005, up from 0.22-percent in 2001, and just below the early-1990s high of 0.34-percent. Most of the record US $27-billion increase is due to debt relief provided to just two countries, Iraq and Nigeria. Still, the trend indicates that donors are enhancing their aid effort.
ODA likely would decline in 2006-7 from its record level of US $106.5 billion in 2005, as debt relief falls, but rise again gradually to reach 0.36-percent of GNI in 2010. Donors plan to allocate at least half of the US $50 billion increase in ODA by 2010 to Sub-Saharan Africa, doubling aid to the region. In addition, debt relief provided under the Heavily-Indebted Poor Countries (HIPC) Initiative and the Multilateral Debt Reduction Initiative (MDRI) would significantly reduce the debt service of poor countries that qualify, providing additional finances needed to support progress on the Millennium Development Goals," the report analysed.