COURSE NAME:GLOBAL ECONOMY INSTRUCTOR NAME: PROFESSOR A HAWKINS

TAFADZWA GWENA STD# R910455T

ASSIGNMENT 2

In what respect is a BRIC stat different from other emerging market economies?. In your view for investment purposes, do the Brics really constitute a separate asset class Due Date: 12 May 2013

Introduction

Emerging markets are broadly dened as nations in the process of rapid growth and industrialization. Often times, these nations are transitioning to an open market economy with a growing working age population. The term itself was coined in the 1980s, by Antoine van Agtmael, as a more positive alternative to the then-popular term less economically developed country, or LEDC. In 2001, Goldman Sachs coined the term BRICs,Wilson, Kelston A, and Ahmed (2010) to describe the four large developing countries of Brazil, Russia, India, and China that Goldman Sachs predict will overtake the G6 (US, Japan, UK, Germany, France, and Italy) in terms of GDP (in US$) by 2050, Wilson and Purushothaman (2003). It goes without saying the BRIC countries individually always had strong economic potential. As a matter of fact, the four countries collectively have 40% of the worlds population, 25% of the worlds landmass and 43% of the foreign exchange. Although the potential of these countries has always been transparent, it could however, not be converted because of the political cum economical circumstances prevailing in those countries, most notably in the period prior to the 1990s. In particular Brazil was still suffering the bouts of hyperiniation, Russia was still behind the Iron Curtain, China was still held behind the Cultural Revolution while India was muddled up in corruption and bureaucracy. During these economic dark periods these countries had no viable economic policies, their stock markets were largely bureaucratic and volatile. By and large these economies could not participate at all, on the global econmony despite all the potential. As a demonstration of this previoulsy latent potential, today these economies together command a GDP of $14 trillion, nearly that of the US. Of course after being cutterpulted out of these circumstances by some life threatening experience within the economies.In the short-term future these four countries will most likely continue to experience growth higher than that of most emerging countries albeit to a lesser extend than the last ve years. What is disputable in the Goldman Sachs proposal of the BRICs is whether the four countries necessary qualify for a common BRAND, are they cohesive together as an economic grouping as suggested? As noted by Antoine van Agtmael, the author of Emerging Markets Big is not the same as cohesive. The fact that the four countries are simultaneously realizing their potential must not be misinterpreted to mean that the four countries adhere to one another until they can form a viable economic grouping such as G-20. What makes this BRICs concept more mysterious is the recent inclusion of South Africa into this economic criterea. This development brings bad light to the original intention behind these branding in a number of ways. Most notably the South-African economy, although big by African standards, but it is no were near that of the original four members by any measure. This development brings about the suspicion that this grouping may been an investment gimmic more that its a true reection of the economic trends especially given the fact that the story is coming from in interested party, Goldman Sachs an Investment Bank. This suspicion is also echoed by Bell (2011), While the BRIC countries

were indicating growth prior to the Goldman Sachs report, the primary motivation for the report appears to be to sell securities in these emerging markets. The question that follows is whether the economic growth in the four countries can be entirely attributed to economic fundamentals or its a result of the marketing effort by Goldman Sachs. If the later is true, then it could be that the idea of bringing in South-Africa to the BRICS is to sell assets in South-Africa rather than that South Africa qualies as Bric which is obviously not true. This discussion will examine some of the fundamental factors that distinguish the BRIC economies from the rest of the emerging markets and whether these BRIC economies standout as a different asset class.

Emerging Markets and Brics

The original four BRIC countries are distinguished from the rest of other promising emerging markets economies by their demographic and economic potential to rank among the worlds largest and most inuential economies in the 21st century (and by having a reasonable chance of realizing that potential). Collectively, the four original BRIC countries comprise more than 2.8 billion people or 40 percent of the worlds population, cover more than a quarter of the worlds land area over three continents, and account for more than 25 percent of global GDP. According to the original report by Wilson and Purushothaman (2003), the factors that were considered in coming up with this grouping includes macro stability, institutions, openess and education. According to Goldman Sachs these are the key factors necessary to sustain the growth. In support of his these ndingsBell (2011) examined these parameters in comparison to G6 countries. The conclusion that we draw from Bells ndings is that there is reasonable evidence that the BRIC countries competiveness is indeed converging towards those of the G6 countries despite the fact that there were still some inhibiting factors regarding doing business in these Countries. The factors that were identied are listed listed in the table below:

Table 1:
Brazil Tax Regulations Tax rates Inadequate supply of infrastructure Restrictive Labor regulatio Inefcient Government bureaucracy Source World Bank China Access to Finance Policy Instability Corruption Inefcient Government bureaucracy Ination India Inadequate supply of infrastructure Corruption Inefcient Government bureaucracy Restrictive Labor regulations Access to Finance Russia Corruption Access to Finance Tax regulations Crime and Theft Ination

The table below extracted from the IMF shows the actual measured statistics of the original four BRIC countries together with the recently added South Africa.

Table 2:
Indicator Population(2009) GDP GDP per capita (PPP .Current intl.$2009) GDP Avg. Growth Rate (1990-2009) GDP Projected Avg.Growth Rate (2011-14,as of April,2011) Merchandise Exports (US$,2009) HDI % Change (1990-2010. for Brazil only 2000-2010 Source IMF data Brazil 194 mil. 1.573 bil. $10,499 2.5% 4.2% 153 bil. 7.6% Russia 142 mil. 1.232 bil. $14,913 0.3% 4.5% 303 bil. 3.8% India 1.15bil 1.310 bil. $3,015 6.3% 8.1% 162 bil. 33.3% China 1.33 bil. 4.985 bil. $6,778 10.1% 9.5% 1,201 bil. 44.2% South-Africa 51.9 mil 0.408 $11.200 2.6% 3.2% 101.2 bil 0.7%

As can be observed in Table 2 extracted from the World Bank, there still remains a number of signicant problems in doing business in the BRICs. However despite these inhibiting problems BRIC economies, there seem to be strong evidence to suggest that these countries were poised to sustain superior growth at least for the near future. Other factors contributing to the BRIC growth rate include factors such resource ubundance, low debt commitment, and home to young and increasingly educated populations. These economies were naturally predicted to enjoy boom years that could deliver favourable returns for investors. What could have been debatable at that time is the linear extrapolation into the future.This information was more of an moment in time snapshot, hence additional analysis across time would have been necessary before suggesting any long term trend especially if time frame you exceed 20 years. The very fact that these economies are dependant on natural resources for their growth will make them susceptible to high income actuations. Therefore to assume that this growth patterns could be sustained through 2030 all the way 2050 is some what misplaced and too methamatical. Too go on further to suggest an economic grouping based on this mathematical assumption is not only misguided but dangerous especially given the dynamic economic environment that exists today, predicting 20 years into the future is too risky. Indeed as a measure of economic performance going to the decade 2003 the BRIC concept was very strong, although other arguements may suggest that this growth was also identied by Antoine van Agtmael in his 1980 proposition of the Emerging Markets. 10 years after the BRIC concept there is now clear evidence that these four economies will not continue to hold the lead. It is now evidently clear that the Emerging Market blocking is a more reliable grouping than this idea of isolating the 4 fastest growing at a particular time and hoping the 4 will remain the fastest for the next 30 years. In line with An4

toine van Agtmaels arguements, outside of China, the growth of the so called BRIC members has slowed down and are now being overtaken by other Emerging economies such as Mexico Thailand and South Korea. This downturn of the BRICs is also noted by CNBC article of 5June 2012 and summarized in the following statement As BRIC countries downshift to lower growth plains, stars of the past decade may loose their shine to smaller emerging markets including the Philippines, Indonesia and Thailand, Harjan (2012). Although this development is an embarassment in the face of the BRIC concept, the damage could have been lessened had it not been for the recent misplaced decision to include South Africa in the grouping as well. The BRIC has its natural extension of the Next 11 the explanation of why BRICs are being overtaken could have been simply explained by the Next 11 grouping but what complicates that now is how South-Africa skipped all the these countries and to land right in the BRIC changing the whole acrynym to BRICs. From the Table above it is quite apparent that South is a mist amongst other BRIC countries,Media Eghbal (2008).

Erosion of the BRIC Advantages

The most important differentiating factor of the BRIC economies is the high growth rate in these economies ahead of all the other emerging economies. Understanding the underlying growth factors will be important in order to understand whether how sustainable this growth is. The growth of the BRICs is largely accountable to 4 components which are labour, physical capital, human capital and total factor productivity (TFP). These growth factors may not necessarily apply to Russia which is more dependent on extracting natural resources rather than value add production factors. However looking closely at these factors we realize that there are potential problems that may arise with regards to sustaining the growth rates. For example the cheap labour aspect has been very key for the growth of the Chinese economy but unfortunately the sources of this labour is dwindling corporate are currently moving further inland in order to nd cheap labour. As the Chinese economy is growing, the labour market is also increasingly becoming complex and more demanding. At the beginning of the decade, the Chinese labour was generally 30% cheaper than that of Mexican labour but by 2012 the Chinese labour cost had gone up to nearly 80% of Mexican labour. This comparison is obviously also considering that Mexico shares the border with America were the market is, whereas China is 1000 of miles way from the same american market. The implications of this is that the cheap labour advantage is fading away slowly hence the chance that the high growth rate of these BRIC economies may be unsustainable. As a matter of a fact the Growth of the BRIC economies including that of China has started slowing down. Another important aspect also regarding cheap labour is the issue of technology being used for the production instead of human labour. This development will also mean that a number of American investors that had invested in the BRIC countries, especially China, in pursuit of 5

cheap labour may reconsider reshoring their investments further negatively impacting on the growth of these economies. With regards to oil and gas which are the key drivers particulary for the Russia Economy its will be important to consider the sustainability of the growth depedent on this aspect with respect to developments in other parts of the world most natably the discovery of Shale gas and oil in the United States,Dan (2012). The cost of extracting shale gas and oil in the United States is predicted to be so much cheaper that of extracting fossil oil and this developments may have an adverse effect on the competiveness of the oil from countries such as Russia.

Table 3:

Without necessarily concluding whether the BRIC economies will grow or not, it is clear that these four economies will not experience the same market forces going forward. The data available today indicates that the BRIC economies are all generally beginning to slow down not because of common causes but because of varied reasons mostly to do with the policy make up of each individual economy. Given this background it is apparent that the sustainability of the BRIC economies as the high growth economies is far from being guaranteed especially in the long term.

New Meaning of BRIC

In the original presentation by Goldman Sachs in 2001, the BRICs concept appeared to be as a result of complicated economic analysis of the emerging market economies. It sounded like there was a thorough analysis taking in to account the Growth factors, demographic factors and availability of raw materials and other meaningfull economic measures. However, the recent inclusion of South-Africa into the BRICs seems to reveal a new political twist in the selection of BRIC members.If the inclusion of South-Africa was also based on the rigorous methamatical 6

computations similar to those used to compute the the original four BRICS. It would then be natural to see how the original projections would be changed by the entrance of South Africa. We would expect the initial 2030 and 2050 projection to retard to earlier dates after the inclusion of South-Africa in to this Club. But because there is no such reconsiderations it is most likely that South-Africa has brought it in to present African continent more, than for any meaningiful economic factors. Beit growth, demographics South Africa just does not qualify. As a matter of fact, it would have been more meaningful to consider economies such as South-Korea or Mexico before South-Africa. According to the The Economist (n.d.), South Africa was included into the BRICs as a way to satisfy a political gap in that no African countries were included the BRICs. This was a little embarrassing. Overlooking Africa had negative connotations on Africa suggesting that the continent was an economic irrelevance, only good for providing raw materials to the rest of the world. It also cast doubt on the groups claim to speak for the emerging world. It is basically on this background that South-Africa was included in the BRICS. If this is true then it is clear that the BRIC economies are now based on a completely different criterion.

Bric Asset Class

Before proceeding into the discussion as to whether BRICs form an asset class, it is important to dene an asset class. According to investopedia an investment class can be dened as follows A group of securities that exhibit similar characteristics, behave similarly in the marketplace, and are subject to the same laws and regulations. The three main asset classes are equities (stocks), xed-income (bonds) and cash equivalents (money market instruments). In the case of Brics as an asset class this denition will need to be modied slightly to match economies instead of basic securities but otherwise the denition brings about the necessary factors. From the above denitition of an asset class we realize that there is a challenge in classifying the Brics as a common asset class given the Divergence of the four economies before we even consider the more radical South-Africa. The four founding member economies do not have a common means of earning and naturally these would mean different risk exposures. For example the Russian economy is dependent natural resources such as oil and gas while the Chinese Economy is dependent on labour based Manufacturing. The growth rate of growth of these economies are far too divergent the Chinese economy was at growing at 10.1% while that of the Brazil is growing at only 2.5%. The populations range from 132 million in Russia to 1.33 Billion in China. The country risk exposures are also quite divergent through out the four countries. Russia is associated with crime and theft while China is synonymous with unstable policies. Apart from being the best on the growth rate front, China is the only BRICS country with a huge current account surplus and has accumulated a massive amount of foreign exchange reserves. It is also important to note that these four economies also conict in their polical and 7

economic views for example China and India compete for the software Market in America. China complains that other Brics countries increasingly target it in anti-dumping suits. Brazil objects to Moscows restrictions on Brazilian agricultural imports. Russia is trying to turn itself into a major farm exporter, which is bound to heighten competition with Brazil. Slower growth in China and India pushes down commodity prices, which hurts South Africa and Russia, Davis (2013). These are some of the few conicting views between the Bric Countries. There just too many differences in the so called Brics which would make it very difculty to classify the four countries as a common investment asset. However if one insist on labelling these economies as a common asset class its performance has not doing that fantastically. This developement was well captured in the online news paper the CNBC published on the 5 June 2012 which had this to say The whole BRIC asset class had this amazing run. Its time in the sun was the last decade because what was going on in the U.S. was just miserable, and now I think there are perfectly good alternatives to the BRICs in other places,. This article clearly captures the performance of BRIC as an asset class. Outside of the extra marketing effort by Goldman Sachs and the fact that the four Bric economies emerged at about the same time it is very difcult to identify any other feature that would be common to these economies such that they can function as an asset class together.

Conclusion

The identication of the Four BRIC economies out of the myriad Emerging economies, as economies that were poised for high growth economies by Goldman Sachs was largely very accurate and Intuitive. However this concept should have been limited as short term instrument rather than a long term tool. In attempting to use the BRIC concept as along term tool exposes a number of aws and even suscpicion regarding the genuiness of the concept. The nal analysis could be that it is Antoine van Agtmaels Emerging markets concept that has lasted the mile rather the recent BRICs and Next 11 stories. This was also echoed by (Jim Kubak 2013) in the following statement. I dont think this is the time to throw out the emerging-market baby with the BRICS bathwater. These suspicions and aws in the BRICs concept were made even more real after the inclusions of South Africa as Bric Member when all indicators show that it does not qualify. The questions that one begins to ask is whether BRIC concepts was a just an experiment meant to test possibility of manupulating growth rates in given economies through labelling. Having passed the initial test with the original four countries the experiment was further extended to include a clearly undeserving South-Africa and unfortunately the experiments has started fail. The Idea of the BRICs being an asset class is perhaps taking the BRICs concept too far. Not only are there glaring gaps between the member economies, but there are also serious conicting views between these economies. Nevertheless even if one were to insist on a BRICs asset Class 8

its measurable performance today is very bad. This was well captured in the following by the CNBC news line Who needs an asset class that under-performs and that is thought to come with greater risk than developed markets too statement

References
Bell, H. A. (2011). Status of the brics an analysis of the growth factors. International Research Journal of Finance and economics, 69(1), 20-25. Dan, D. (2012, June). Oil shale reserves. (http://www.dailyreckoning.com/oil-shale-reserves) Davis, B. (2013). BRICS Fade is Engine of Growth. The Wall Street Journal(1). (http://online.wjs.com,) Harjan, A. (2012). BRICs Slowdown Spells Trouble for Global Growth. CNBC Asia(1). (http://www.cnbc.com,) Media Eghbal. (2008, February). The next 11 emerging economies. (http://www.euromonitor.com) The Economist. (n.d., March). The Economist(1). Wilson, D., Kelston A, L., & Ahmed, S. (2010). Is this the BRICS decade. Brics Monthly, 10(1). Wilson, D., & Purushothaman, R. (2003). Dreaming with the BRICs: path to 2050. Global Economics paper no., 99(1).

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