UBS is looking at country risk based on an aggregate of economic indicators.
The data includes credit/GDP ratios, loan/deposit ratios, current account balances, export exposure, public and external debt and FX reserves. If you put all the indicators together according to the bank’s methodology, you get the chart below — UBS’s total risk index.
Click to enlarge.
Eastern and Central Europe are quite heavily represented at the upper end. Western Europe also strays towards the higher end, while the US and Japan are relatively middling. Interestingly, China figures as UBS’s least risky country in this index, by a considerable margin.
Indeed, this seems to be a feature in these types of indices.
Recall for instance, Merrill Lynch ranking Nigeria as the least risky country in the world back in November. Places like Nigeria tend to perform quite well in these types of indices in part because their external accounts and foreign exchange reserves have been buffered by the run-up in commodity prices prior to late 2008 (those have since dropped off a cliff) and low leverage. So the index is clearly not a perfect arbiter of risk.
The weakness of the approach aside, the really interesting thing here is the comparison with the chart below.
That is the UBS total risk index based on data from July 1997 — just at the start of the Asian financial crisis. Unsurprisingly Thailand, the first economy to experience major currency-related turbulence in that crisis, tops the list. Malaysia, the Philippines, Indonesia, Singapore and Hong Kong are also at the upper end.
Does this mean that Eastern Europe is doomed to a similar fate? Not necessarily, says UBS, though the situation is far from optimal.
As we stated at the outset these indices are useful in informing a debate but they should not be used in isolation. The potential of various economies and regions to recover in the months ahead will be a function of other factors, including the respective policy response. We will be returning to this again in our future work.
For now we note that the stance of fiscal and monetary policy in Western Europe and Eastern Europe appears to be much less expansionary relative to many other major regions of the world, as evidenced in the chart below. Along with the assessment of financial and external risk above, which places Western and Eastern Europe in a relatively poor light as well, we believe these regions will be slow to recover in the period ahead. Risk premiums on European financial assets, including the euro, are also likely to remain relatively high in the period immediately ahead.
Related links:
Risky territory – FT Alphaville
Panic: The story of modern financial insanity - Michael Lewis
UBS: No Eastern European meltdown – FT Alphaville