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Impact of tightening on emerging markets

 Ben Bernanke’s testimony before the Congress shows how he is simply reflating a bubble that he created earlier. Unfortunately, the worst impact of tightening will not be in the US, but in emerging markets where the pain will be much greater

On 17th July, much of the world’s financial community were treated to another performance by the US Federal Reserve chairman, Ben Bernanke, when he made his semi-annual appearance before Congress. Dr Bernanke attempted to ‘clarify’ the Fed’s position regarding tightening of monetary policy. His testimony was so full of conditional phrases that it is doubtful whether he clarified anything. Apparently the Fed will end the quantitative easing (QE) bond buying program when and if the board feels the time is right.


I am not sure if the most recent pronouncement from on high was any more enlightening than the standard Delphic prophecy, but what did seem clear was that the easy money would end, sooner or later. If we take Dr Bernanke at his word, the stimulus will end when the US economy is stronger, which he forecasts to be soon. With a stronger economy, the end of QE is supposed to have a small impact in America. But there are other countries and other economies in the world where the effects might not be so benign.

It is estimated that about $4 trillion has washed around emerging markets since the stimulus programs started four years ago. The impact has significantly lowered Asian bond yields, boosted equity markets and pushed local currencies higher against the dollar. The impact has varied widely from country to country. In Singapore, for example, the inflation rate rose only 0.5%.while in Indonesia inflation increased by over 4%. Inflation increased in the US by 0.6% at most.


This impact no doubt will increase, if and when, the Fed’s policy moves to taper stimulus. In the past month alone 19 of the 24 emerging market currencies tracked by Bloomberg fell against the dollar. Cooling from central banks helped to stem the fall. But for all the rhetoric, US interest rates have risen 1% in the past three months and have not retreated.


Higher US interest rates will have the greatest impact on emerging market bonds. One of the most promising developments since the Asian crisis 15 years ago has been the rise of local bond markets. Higher credit ratings and often very large foreign reserves have benefitted local debt. With more companies and governments able to borrow in their own currencies, there is less of a chance for disaster when the currency tanks, as recently occurred. It does not mean that the problem has disappeared.


It is estimated that the developing world needs $1.5 trillion in external funding every 12 months.  If the markets dry up this could create a very large problem. The general belief has been that emerging markets are not large debtors like the US or southern Europe, but this depends on the country.  India, Turkey, South Africa, and Brazil all have large current account deficits and their currencies have suffered as a result. Lower commodities prices and less demand will make servicing the deficits more challenging. Higher interest rates will certainly magnify the problems.


These problems became more evident last month when money started to pour out of emerging market bond funds. Last year emerging market bond funds were the beneficiaries of the “search for yield” precipitated by the interest rate suppression of the Fed. They averaged inflows of 0.4% per week. With a potential Fed policy change, the flows recently reversed and the average outflow was 1.2% per week. Foreign investors who had piled into the local currency debt have started to flee.


It is not just the occasional pronouncements of central banks that have caused trouble. With so much money desperately looking for decent returns, some have gone to poor quality lenders. Three examples are Mexico’s three leading homebuilders—Desarrolladora Homex, Corp. Geo and Urbi Desarrollos Urbanos. All three companies are junk rated, but last year they had no problem with raising $2.75 billion dollars from fund managers. Interest rates as high as 9.75% for ten year notes was too much to resist.


The money managers now wish they had. These bonds have plunged by an average of 55% this year. The reason for the fall had nothing to do with tapering. Urbi, Geo and Homex, specialized in suburban developments of single family homes. The Mexican government decided to shift its subsidized housing program towards the construction of apartment buildings in city centre. The builders are stuck with a glut of unsold homes and undeveloped land. It appears that all of the companies will have to restructure their debt, and the bond holders will have to take significant haircuts.


It would be simplistic to believe that default issues are limited to the Mexican housing market. Yield deprived investors allowed companies all over the world to tap the bond market for the first time. For many it will be their last.


The tightening or tapering comes at a particularly bad time. The Chinese growth slowed to 7.5%. Markets sighed with relief. They expected a far lower number. Their expectations were probably more accurate. The real number though was probably much lower. The Chinese leadership is intent on restructuring the economy and has vowed not to provide additional stimulus. This will impact many emerging markets whose main trading partner is China and no longer the US.


It is not just that individual bonds or countries have issues. The bond market is also structurally weak. The size of global fixed income markets has grown from around $40 trillion to $100 trillion over the past 10 years. But as the size of the market increased so did the risks. Regulatory changes require banks to hold less inventory, so the market has become more illiquid. Poorly understood feedback loops make the situation more dangerous. According to Nobel Laureate Robert Merton “The post-crisis environment has a much greater intensity of connectedness in terms of credit sensitivities than before.” So what happens anywhere will have a greater impact on everyone else and it may happen very quickly.


Ben Bernanke has been desperately walking back the comments he made in May. He has been fairly successful at it. But he has simply reflated a bubble that he created. Sadly, the worst impact will not be in the US, but in emerging markets where the pain will be much greater.


(William Gamble is president of Emerging Market Strategies. An international lawyer and economist, he developed his theories beginning with his first hand experience and business dealings in the Russia starting in 1993. Mr Gamble holds two graduate law degrees. He was educated at Institute D'Etudes Politique, Trinity College, University of Miami School of Law, and University of Virginia Darden Graduate School of Business Administration. He was a member of the bar in three states, over four different federal courts and has spoken four languages.)


No warrant, no problem: How the government can get your digital data

From subpoenas to secret court orders, the US government has an arsenal of legal tools for sweeping up your personal data

Update, July 22, 2013:
This post has been updated to include the New Jersey Supreme Court’s recent ruling on location data. It was originally published on Dec. 4, 2012.

The government isn't allowed to wiretap American citizens without a warrant from a judge. But there are plenty of legal ways for law enforcement, from the local sheriff to the FBI to the Internal Revenue Service, to snoop on the digital trails you create every day. Authorities can often obtain your emails and texts by going to Google or AT&T with a simple subpoena that doesn’t require showing probable cause of a crime. And recent revelations about classified National Security Agency surveillance programs show that the government is regularly sweeping up data on Americans’ telephone calls and has the capability to access emails, files, online chats and other data — all under secret oversight by a special federal court.

The breadth of and justification for the surveillance are the subjects of ongoing debate in Washington. President Obama and others have defended the programs as necessary to identify terrorists and stop attacks before they happen, but privacy advocates and several U.S. lawmakers have questioned them.

Here's a look at what the government can get from you and the legal framework behind its power:

Stuff They Can Get

How They Get It

What the Law Says

Listening to your phone calls without a judge's warrant is illegal if you're a U.S. citizen. But police don't need a warrant — which requires showing "probable cause" of a crime — to get just the numbers for incoming and outgoing calls from phone carriers. Instead, police can get courts to sign off on a subpoena, which only requires that the data they're after is relevant to an investigation — a lesser standard of evidence. The FBI can also request a secret court order for phone records related to an international terrorism or spying investigation without showing probable cause. A recent order obtained by the Guardian newspaper shows that the FBI in April requested all phone records over a three-month period from Verizon Business Network Services. Director of National Intelligence James R. Clapper said in a statement that such orders are renewed by the court every 90 days. And similar ordersreportedly exist for other phone companies, including AT&T, Sprint and Bell South. The phone records being collected are for what’s called “metadata” — time, duration, numbers called — but not the content of calls, which President Obama, in defending the surveillance, said would require a judge’s consent.


Police can get phone records without a warrant thanks to a 1979 Supreme Court ruling, Smith v. Maryland, which found that the Constitution's Fourth Amendment protection against unreasonable search and seizure doesn't apply to a list of phone numbers. The New York Times reported last November that New York's police department "has quietly amassed a trove" of call records by routinely issuing subpoenas for them from phones that had been reported stolen. According to the Times, the records "could conceivably be used for any investigative purpose." The Foreign Intelligence Surveillance Act, which Congress expanded in 2001 when it passed the Patriot Act, also allows the FBI to apply for a FISA court order to get “any tangible things (including books, records, papers, documents, and other items).” The FISA court ruled on May 24, 2006, that this provision applied to a phone company’s entire call database, according to the Washington Post. (The phone companies had previously handed over the data voluntarily, the Post reported, but grew nervous after The New York Times published a story on the Bush administration’s warrantless wiretapping program in 2005.) The court order for Verizon obtained by the Guardian — which covers all records from April 25 to July 19 — is much more expansive than a typical warrant or subpoena, said Hanni Fakhoury, a staff attorney with the Electronic Frontier Foundation. It covers “telephone metadata … for communications (i) between the United States and abroad; or (ii) wholly within the United States, including local telephone calls.” In a statement, Clapper’s office said the government can’t query the metadata it has collected unless there is a “reasonable suspicion” it is associated with a specific foreign terror group. That happened fewer than 300 times last year, the statement said, adding that the data is destroyed after five years.


Many cell phone carriers provide authorities with a phone's location and may charge a fee for doing so. Cell towers track where your phone is at any moment; so can the GPS features in some smartphones. The major cell carriers, including Verizon and AT&T, responded to at least 1.3 million law enforcement requests for cell phone locations, text messages and other data in 2011. Internet service providers can also provide location data that tracks users via their computer's IP address — a unique number assigned to each computer. In addition, the NSA has the authority to collect location data from phone companies, along with other “metadata,” according to the statement from Clapper’s office, but the agency chooses not to do so.


Many courts have ruled that police don't need a warrant from a judge to get cell phone location data. They only have to show that, under the federal Electronic Communications Privacy Act (EPCA), the data contains "specific and articulable facts" related to an investigation — again, a lesser standard than probable cause. In July, Maine became the second state, after Montana, to require police to obtain a warrant for location data; Gov. Jerry Brown of California, a Democrat, vetoed a similar measure last year. Sens. Patrick Leahy, a Vermont Democrat, and Mike Lee, a Utah Republican, introduced a bill in March that would have updated the ECPA but would not change how location data is treated. Rep. Zoe Lofgren, a California Democrat, introduced a separate bill in the House that would require a warrant for location data as well as emails. The New Jersey Supreme Court also ruled in July that police needed a warrant for location data, and the United States Court of Appeals for the Fourth Circuit in Richmond, Va., is currently weighing a similar case.

Google, Yahoo, Microsoft and other webmail providers accumulate massive amounts of data about our digital wanderings. A warrant is needed for access to some emails (see below), but not for the IP addresses of the computers used to log into your mail account or surf the Web. According to the American Civil Liberties Union, those records are kept for at least a year. The NSA also runs a program called Marina designed to sweep up Internet “metadata,” or “digital network information,” according to the Washington Post. Whether that includes IP addresses is unclear.


Police can thank U.S. v. Forrester, a case involving two men trying to set up a drug lab in California, for the ease of access. In the 2007 case, the government successfully argued that tracking IP addresses was no different than installing a device to track every telephone number dialed by a given phone (which is legal). Police only need a court to sign off on a subpoena certifying that the data they're after is relevant to an investigation — the same standard as for cell phone records. FISA also allows the FBI to apply for a secret court order to get “any tangible things (including books, records, papers, documents, and other items)” relevant to an international terrorism or spying investigation.

There's a double standard when it comes to email, one of the most-requested types of data. A warrant generally is needed to get recent emails, but law enforcement can obtain older ones with only a subpoena. Google says it received 16,407 requests for data — including emails sent through its Gmail service — from U.S. law enforcement in 2012. And Microsoft, with its Outlook email service, disclosed in March that it had received 11,073 requests for data last year. Other email providers, such as Yahoo, have not made similar statistics available. In January, Google said that it would lobby in favor of greater protections for email. The National Security Agency also obtains emails from companies such as Microsoft, Google, Yahoo and AOL under a program called Prism, as revealed by The Washington Postand the Guardian. Clapper has said the program does not target U.S. citizens or anyone in the country.


This is another area where the ECPA comes into play. The law gives greater protection to recent messages than to older ones, based on a 180-day cutoff. Only a subpoena is required for emails older than that; otherwise, a warrant is necessary. This extends to authorities beyond the FBI and the police. I.R.S. documents released in April by the American Civil Liberties Union suggest that the I.R.S.’ Criminal Tax Division reads emails without obtaining a warrant. The ECPA update bills introduced by Leahy and Lee in the Senate and Lofgren in the House would require a warrant for the authorities to get all emails regardless of age. The Justice Department, which had objected to such a change, said in March that it doesn’t any longer. Clapper has said the Prism program is legal under Section 702 of the FISA Amendments Act of 2008, which lays out how intelligence agencies may spy on non-U.S. citizens abroad. Under “limitations,” the section says the surveillance “may not intentionally target a United States person reasonably believed to be located outside the United States” and “shall be conducted in a manner consistent” with the Fourth Amendment’s protections against unreasonable search and seizure.


Communicating through draft emails, à la David Petraeus and Paula Broadwell, seems sneaky. But drafts are actually easier for investigators to get than recently sent emails because the law treats them differently. Under the NSA’s Prism program, drafts presumably would be accessible along with other emails and files kept by companies such as Google, Microsoft, Yahoo and AOL.


The ECPA distinguishes between communications — emails, texts, etc. — and stored electronic data. Draft emails fall into the latter, which get less protection under the law. Authorities need only a subpoena for them. The bills introduced by Leahy and Lee in the Senate and Lofgren in the House would change that by requiring a warrant to obtain email drafts. In defending the Prism program, President Obama has said it does not target email accounts of U.S. citizens or permanent residents.


Investigators need only a subpoena, not a warrant, to get text messages more than 180 days old from a cell provider — the same standard as emails. Many carriers charge authorities a fee to provide texts and other information. For texts, Sprint charges $30, for example, while Verizon charges $50.


The ECPA also applies to text messages, according to the EFF’s Fakhoury, which is why the rules are similar to those governing emails. But the ECPA doesn't apply when it comes to actually reading texts on someone's phone rather than getting them from a carrier. State courts have split on that issue. Ohio's Supreme Court has ruled that police need a warrant to view the contents of cell phones of people who've been arrested, including texts. But the California Supreme Court has said no warrant is needed. The U.S. Supreme Court in 2010 declined to clear up the matter.


Authorities typically need only a subpoena to get data from Google Drive, Dropbox, SkyDrive and other services that allow users to store data on their servers, or "in the cloud," as it's known. The NSA is also gathering “stored data” from companies like Google, according to an NSA PowerPoint briefing obtained by the Washington Post and the Guardian. Clapper has said only non-U.S. citizens abroad are targeted.


The law treats cloud data the same as draft emails — authorities don't need a warrant to get it. But files that you've shared with others — say, a collaboration using Google Docs — might require a warrant under the ECPA if it's considered "communication" rather than stored data. "That's a very hard rule to apply," says Greg Nojeim, a senior counsel with the Center for Democracy& Technology. "It actually makes no sense for the way we communicate today." If cloud data is covered by FISA — which seems likely, as the law specifically states that “documents” are included — it would let the FBI request a secret court order for data deemed relevant to international terrorism or spying investigations.


When it comes to sites like Facebook, Twitter and LinkedIn, the social networks' privacy policies dictate how cooperative they are in handing over users' data. Facebook says it requires a warrant from a judge to disclose a user's "messages, photos, videos, wall posts, and location information." But it will supply basic information, such as a user's email address or the IP addresses of the computers from which someone recently accessed an account, under a subpoena. Twitter has reported that it received 1,494 requests for user information from U.S. authorities in 2012. The company says it received 60 percent of requests in the second half of 2012 through subpoenas, 11 percent through other court others, 19 percent through search warrants and 10 percent through other means. Twitter says that "non-public information about Twitter users is not released except as lawfully required by appropriate legal process such as a subpoena, court order, or other valid legal process." The NSA is also gathering data from social media from companies such as Facebook, YouTube and Paltalk as part of its Prism program, according to the NSA PowerPoint briefing. Clapper has said only non-U.S. citizens abroad are targeted.

Courts haven't issued a definitive ruling on social media. In September, a Manhattan Criminal Court judge upheld a prosecutor's subpoena for information from Twitter about an Occupy Wall Street protester arrested on the Brooklyn Bridge in 2011. It was the first time a judge had allowed prosecutors to use a subpoena to get information from Twitter rather than forcing them to get a warrant; the case is ongoing.




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