Transcript Document 7152171

Impact of the Global Crisis
on Emerging Economies
Lorenzo Giorgianni
Chief of the Emerging Markets Division
Strategy, Policy and Review Department
International Monetary Fund
Yerevan, Armenia
July 7, 2009
Outline
I.
Origin of the global crisis
II.
Impact of crisis on Emerging Economies
III. Global crisis response
IV. Emerging Economies’ crisis policy response
V.
Conclusions
I. Origin of the Global Crisis
Global warming (output)
2006
Heating economy—above trend growth
Cooling economy—below trend growth
Global cooling (output)
2009
Heating economy—above trend growth
Cooling economy—below trend growth
Root of crisis
The period of high growth and low interest rates
masked market as well as policy failures:

Financial regulation: perimeter, procyclicality

Macroeconomic policies: asset prices, capital inflows

Global architecture: coordination, warnings, insurance
Propagation of crisis
1. Financial centers


Complexity of assets led to mispricing of risks (subprime lending)
Realization of risks with fall in U.S. house prices
2. Advanced countries


Globalization spread risks across assets, institutions, and countries
Counterparty risks led to further tightening of banking standards
and cross-border flows
3. Emerging market countries


Increase in EM spreads and sudden stop turned the financial crisis
in advanced countries into a full-fledged global economic crisis
Feedback loops from EMs to advanced country banking systems
Feedback loops:
Eastern Europe to Western banks
Losses from 20 percent loss on loan
portfolio in CEE (in percent of GDP)
First Round
(from East to
West)
High ( 5%-14%)
Reduction in claims of international banks
(in percent of recipient country GDP)
Second Round
(from Belgium
and Austria)
High ( 5%-24%)
Medium (1% -5%)
Medium (1% -5%)
Low (0-1%)
Low (0-1%)
II. Impact of Crisis on
Emerging Economies
EMs hit by multiple shocks
1.
Sudden stop in capital flows
2.
External demand shock
3.
Terms of trade shock for commodity
exporters
4.
Drop in remittances
1. Deleveraging in advanced countries…
Private Sector Credit Growth
20
15
(q/q, seas. adj. annualized, 4 quarter moving average,
percent)
United Kingdom
United States
10
5
Euro Area
0
-5
1989
1994
1999
2004
2009
…led to a sudden stop in capital flows to
EMs, notably Emerging Europe…
Private capital inflows
6
(percent of PPP GDP)
5
CEE
4
3
2
Middle
East
1
0
Asia
Latin
America
-1
-2
-3
2000
2001
2002
2003
2004
Source: IMF, World Economic Outlook
2005
2006
2007
2008
2009
…where stronger financial linkages
amplified the shock transmission.
1800
1600
Europe, America, and Asia: Cross Border Claims
on Emerging Economies, 2008:Q3
(Billions of U.S. dollars)
1800
1600
1400
1400
1200
1200
1000
1000
Emerging Europe
Emerging Asia
Emerging America
800
800
600
600
400
400
200
200
0
0
Europe
Asia
America
Deleveraging
means not only
less availability
financing,
but also higher
borrowing
costs.
2. An external demand shock worse than
in past crises…
Volume of Imports by G3
160
G3 imports (2008 = 100)
140
G3 imports during past crises
(100 = start of crisis)
Index
120
100
80
60
40
1999
2001
2003
2005
2007
2009
2011
2013
…is leading to severe output contractions..
Industrial Production, monthly, 2006-2010
(weighted by PPP-GDP, 2006)
115
Index (Jun-08 = 100)
110
105
100
95
90
85
80
75
G3
EM non-crisis
EM crisis
Past crises
70
Jan-2006
Jan-2007
Jan-2008
Jan-2009
Jan-2010
…which tend to be amplified by
strong trade linkages…
30
30
Intraregional Trade, 1997–2007
(Percent of GDP)
25
25
20
20
Africa
Middle East
Western Hemisphere
Asia
Europe
EU
15
10
15
10
2007
2006
2005
2004
2003
2002
2001
2000
0
1999
0
1998
5
1997
5
…as in Armenia’s case
Armenia: Exports by Recipient Country, 2008
(in percent of total exports)
Other, 19.7
Russia, 20.2
UK, 3.8
USA, 4.9
Germany, 17.2
Bulgaria, 5.7
Georgia, 7.7
Belgium, 8.5
Source: DTS.
Netherlands, 12.2
3. Fall in commodity prices hitting
commodity exporters very hard
Annual Percentage Changes in Exports and TOT, 2008-09
0
Commodity Exporters
Change in Exports
-5
Manufacturers
-10
-15
COL
-20
EGY
-25
PER
CHL ECU
-30
DOM
ISL
JAM
ARM
-35
ALG
-40
VEN
SER
KAZ
RUS
-45
-50
-40
-30
-20
-10
0
Change in Terms of Trade
10
20
30
4. Lower incomes in advanced countries also
means lower remittances to some EMs
Top 10: Projected decline in private current transfers
(in percent of GDP)
0
-1
-2
-2.3
-2.2
JOR
VNM
-1.6
-1.5
-1.4
ELS
GTM
ARM
-1.2
-1.2
-1.1
MOR
BIH
EGY
-3
-4
-3.8
-5
-6
-7
-7.0
-8
MDA
LBN
Emerging Europe and CIS hit worst
Real GDP Growth Projections
15
Armenia
10
5
CIS
CEE
Emerging Markets
Advanced Economies
0
-5
-10
2006
2007
Source: IMF, World Economic Outlook
2008
2009
2010
Increase in CDS (bps, 2007-2009, median)
But, are EMs innocent by-standers?
Vulnerabilities explaining market spreads…
EM Credit Default Swaps
1000
LVA
900
800
LIT
EST
700
ROM
600
BGR
EGY
IDN
500
SAF
400
SER
VNM
CRO
HUN
PER KOR
POL
PAM
COL
PHL
BRA THA TUR
300
200
100
0
0
20
40
60
80
100
External debt (end-2007, % of GDP)
120
140
…and cross-country differentiation in recessions
Real Effective Exchange Rate
(Since Sep 2008, percent)
GDP decline, 2009 proj.
(Proj., percent)
LVA
Peg
LIT
Peg
EST
Peg
External and Public Debt
(Percent of GDP, 2008)
UKR
Public Debt
ARM
External Debt
MDA
ROM
Peg
BGR
HUN
RUS
CZE
BLR
BIH
Peg
KAZ
GEO
POL
-20
-15
-10
-5
0 -30
-20
-10
0
10
0
50
100
150
II. Global crisis response
Global crisis requires global response
A.
Coordinated G-20 policy response
B.
IMF reforms: resources and lending framework
C.
IMF lending
A. G-20 fiscal response
Source: IMF Fiscal Affairs Department
Note: Discretionary stimulus (average, 2009-10, based on measures announced through early March) plus
automatic stabilizers (average, 2008-10)
A. G-20 Monetary policy easing
A. Liquidity injections/asset
purchases since January 2008
Liquidity Injections/Asset Purchases (percent of GDP)
0 to 5
5 to 10
10 to 15
> 15
No data
A. Banking recap since January 2008
Recapitalization (percent of GDP)
0 to 2
2 to 5
5 to 10
> 10
No data
B. IMF Reforms—Increase in resources
Size of war chest in relation to potential needs
 Triple lending resources to $750 billion

 Raise
$500 billion in bi-/multi-lateral agreements
 Commitments so far over $400 billion

General SDR allocation of $250 billion
 Boosts
country reserves by 75% of quota
 Some $100 billion of liquidity to EMs and LICs

Later, quota increase
B. IMF Reforms—More effective lending



IMF as first port of call for EMs in stormy weather
More flexible lending: large, frontloaded,
contingent access to deal with all financing needs
Conditionality better tailored to countries’
circumstances to reduce stigma
Flexible Credit Line (FCL)
 High Access Stand-By Arrangements (HAPAs)

C. Increase in IMF lending
160
152
US dollar billions
140
120
100
88
86
FCLs
80
60
Traditional
programs
40
14
20
0
1998
2002
2006
May 2009
C. Fund financing can play useful role



Reduces need for adjusting to liquidity shock
Allows orderly adjustment to solvency shock
It does so by
increasing reserves and catalyzing private lending
 bailing-in the private sector (Vienna initiative)
 creating room for spending reserves to (i) ease
private sector’s FX liquidity constraints, (ii) recap
banks, and (iii) ease budget financing constraints


Caveat: to safeguard Fund resources, policies
need to be consistent with capacity to repay
IV. Emerging Economies’ Policy Response
(as seen through the lens of the recent
Fund-supported programs)
EMs policy response often constrained







Exchange rate regime
Degree of dollarization
Fiscal sustainability and credibility
Bank solvency
Institutional weaknesses
Social considerations
Political, electoral cycles
Focus: fiscal policy in crisis


Much emphasis has been placed on fiscal stimulus to
counter effects of global financial crisis
But many EMs face stricter constraints on their fiscal
space than advanced economies:





Financing constraints
Debt levels (for some)
Credibility issues
Accommodating bank recapitalization costs (for some)
Strictures of Euro entry criteria (for some)
Reflecting these constraints, fiscal deficits
were allowed to widen, but not fully…
Fiscal Adjustment in program cases
average fiscal balance, % of GDP
(excl.Latvia, Mongolia and Seychelles)
0
-1
latest program
projections
-2
-3
-4
-5
fiscal adjustment in
programs
implied overall fiscal
balance w /o adjustment
-6
-7
2003-07
2008
2009
…given the stock of public debt and
other initial conditions
Public Debt (2008) and Primary Balance (2009)
% of GDP
2
Belarus
1
Hungary
Primary Balance (2009)
Pakistan
0
-1
Guatemala
-2
Costa El
Rica
Salvador
Serbia
y = 0.07x - 4.17
R2 = 0.58
Armenia
Ukraine
-3
Georgia
Romania
Latvia
-4
Mongolia
-5
0
10
20
30
40
Public Debt (2008)
50
60
70
80
Even so, fiscal programs are being flexibly
adapted to evolving macro conditions
2009 Overall Fiscal Balance (% GDP)
0.0
0.0
-1.0
-2.0
-1.8
-2.5
-3.0
-2.8
-3.0
-4.0
-3.8
-3.9
-4.0
-4.0
-4.2
-5.0
Program
-5.6
-6.0
Latest Rvw
-6.5
U
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-7.0
Conclusions

Global crisis spreading from advanced countries to EMs


Required a coordinated global response



fiscal and monetary stimulus where feasible
emergency measures to support financial sectors
The Fund has played a central role



hit Armenia and other CIS/CEE countries particularly hard
endowed with more resources; overhauled lending framework
launched substantial lending programs across the world
New programs have had to adapt to the new crisis



Exchange and monetary policies according to country circumstances
Accommodative fiscal stance as possible given
financing/sustainability issues; attention to social safety nets
Focus on maintaining financial sector health
Thank you
Back-Up Slides
Crises are costly, come in waves; and
require strong, comprehensive response
Fiscal and Output Costs of Banking Crises in Advanced and EM Countries
(Size of bubble represents gross fiscal cost as percent of GDP)
Output cost: Minimum real GDP growth
during crisis (percent of GDP)
25
ERM
crisis
Debt crisis
20
Tequila
crisis
Current
crisis
Asian
crisis
15
10
Israel 1977
(fiscal cost: 30%)
Norway 1991
(fiscal cost: 3%)
Sweden 1991
(fiscal cost: 4%)
5
Japan 1997
(fiscal cost: 14%)
US 2008
(fiscal cost:
51%)
0
-5
US 1988
(fiscal
cost: 4%)
-10
-15
Spain
1977
(fiscal
-20
1975
Finland 1991
(fiscal cost: 13%)
1980
1985
1990
1995
Starting date of crisis
Korea 1997
(fiscal cost: 31%)
2000
Source: Laeven and Valencia (2008); FAD-MCM: Public Interventions in the Financial Systems.
2005
2010
When will markets normalize?
Expected duration of market pressures in EM universe
≤1 year, 5 countries
1-2 years, 28 countries
>2 years, 16 countries
Measured as number of quarters in which probability of exiting from the crisis reaches 0.5.
Duration model is estimated in Mecagni et al "Duration of Capital Crises-An Empirical Analysis,
" IMF Working Paper 07/258.
Recent IMF lending in context
Change in Output for Program Cases
15
10
ARG ARG
TUR
RUS
Percent change in real GDP 1/
5
0
-5
TUR
COL
IDN
BRA
BRA MEX
PAK
BRA
PHL
UKR
ARG
COL
IRQ
HUN
COL
KOR
BLR
ARM MEX
ROM
UKR
URY
TUR
-10
THA
IDN
ISL
IDN
-15
Size of bubble = access in
percent of quota
ARG
LVA
-20
-25
Dec-96
Dec-98
Dec-00
Dec-02
1/ Maximum cumulutive decline in three years from program inception
Dec-04
Dec-06
POL
Dec-08
Large Access, Short Duration
Access in Percent of Quota (size of bubble) and Program Duration
50
Turkey
40
Korea
Uruguay
Latvia
Duration (in months)
Brazil Argentina
Brazil
Armenia
Argentina
30
Serbia
Turkey
Pakistan
Iceland
20
Mongolia
Guatemala
Belarus
Hungary
Brazil
10
Colombia
El Salvador
Mexico
Indonesia
Argentina
Poland
0
Jan-93
Oct-95
Jul-98
Apr-01
Jan-04
Program approval
Oct-06
Jul-09
Apr-12
Access is large and front-loaded
Access, in percent of quota
Access, in percent of 2009 GDP
1200
16
1000
14
12
800
10
600
8
400
6
4
200
2
0
0
Average
200
Armenia
Georgia
Romania
Ukraine
Access, in percent of 2009 short-term debt at
remaining maturity
Armenia, 1257 percent before
augmentation and 1823 percent
total
150
100
50
0
Average
Armenia
Georgia
Romania
Ukraine
Average
Armenia
Georgia
Romania
Ukraine
First purchase in percent of total access
45
40
35
30
25
20
15
10
5
0
Average
Armenia
Georgia
Romania
Ukraine
Structural Conditionality
Number of structural conditions in initial
programs
20
Non-core
15
Core
10
5
0
Asian crisis
Argentina, Brazil,
Turkey 2001-03
Current programs
Core measures: financial/monetary, exchange rate and fiscal policy
Issues in crisis management







Early diagnosis is key (liquidity vs. solvency)
Deal with uncertainty (size of output gap?): adapt
plans; develop contingencies (abandon peg?)
Secure legal authority to act
Ensure good interagency coordination
Premium on coherent communications
Ensure adequate safety nets for disadvantaged
Plan exit strategy
Evolving circumstances:
downgrade in growth projections
GDP growth in 2009, percent
Sep 2008 WEO
projections
8
6
4
2
0
-2
-4
-6
-8
EM average
AM average
Ukraine
Armenia
Moldova
Romania
Bulgaria
Croatia
Macedonia
Bosnia
Israel
Cyprus
-12
Georgia
-10
Montenegro
Jul 2009 WEO
projections
Exchange rate policy

Should pegs be abandoned in crisis?






Keeping pegs can lead to severe loss of competitiveness with
respect to floaters
Regaining competitiveness (or correcting overvaluation)
under peg imposes harsh deflationary adjustment—plus it
seldom happens in crisis (only Hong Kong and Panama)
However, negative balance-sheet effects of depegging could
be large when liability dollarization pervasive (although
deflation in the context of peg also leads to insolvencies)
Regional contagion is another risk of depegging
Presence of a credible exit strategy from peg, including plans
to join monetary union, is another important consideration
Role of capital controls?
Exchange Rate Policy (continued)

To what extent should a country with flexible ER
intervene in the FX market?



Appropriate to offset disorderly conditions, counter currency
overshooting, and provide FX liquidity to banks
However, to be effective, needs to be accompanied by rate
hikes/active mopping up of domestic currency liquidity and
be part of credible policy response
Trade off use of reserves today with potential demand for
reserve use tomorrow
Exchange rate developments in programs
Step changes
Pegs/tightly managed
10
10
0
5
-10
0
-20
-5
-30
-10
-15
-20
Jul-08
BIH
COS
ELS
GTM
LVA
approval dates
Sep-08
-40
-50
Nov-08
Jan-09
Mar-09
May-09
-60
Jul-08
ARM
BLR
GEO
SYC
approval dates
Sep-08
Nov-08
Gradual depreciations
0
-10
-20
-30
-40
-50
Jul-08
HUN
ISL
PAK
ROM
SER
UKR
approval dates
Sep-08
Nov-08
Jan-09
Mar-09
May-09
Jan-09
Mar-09
May-09
Monetary Policy in Crisis

Considerations for appropriate monetary policy
stance (flexible exchange rate regimes):
Inflation pressures
 Inflation-fighting credentials of monetary authority
 Trade-off between (i) growth benefits from lower
interest rates and weaker currency and (ii) costs of
currency depreciation on unhedged balance sheets
 Trade-off between (i) LOLR function in face of
deposit runs and (ii) avoidance of exchange rate
overshooting/loss of monetary control

Monetary Policy Instruments


Policy interest rates: The reduction in interest
rates in advanced markets has provided space
for reduction in nominal interest rates in EMs,
although country risk premiums have risen.
Quantitative measures: Especially useful when
the transmission mechanism from policy rates to
the rest of the economy may be impaired by
non-functioning credit markets.
Inflation pressures to persist,
especially for floating currencies
Inflation Projections vs Maastricht
16
14
Czech Republic
Hungary
12
Romania
Poland
Bulgaria
10
Estonia
Latvia
8
Lithuania
Imputed Maastricht Criterion
6
4
2
0
2005
2006
2007
2008
Source: IMF, World Economic Outlook
2009
2010
2011
2012
Fiscal policy: automatic stabilizers
operating in Western Europe…
Change in fiscal balance 2009 over 2008
1
0
-1
-2
-3
-4
Advanced
Europe
-5
-6
y = 0.8361x - 0.5989
R2 = 0.7149
-7
-8
-12
-10
-8
-6
-4
GDP growth in 2009
Source: IMF, World Economic Outlook
-2
0
2
…but less evident in Emerging Europe…
Change in fiscal balance 2009 over 2008
1
0
Emerging
Europe
-1
-2
-3
-4
-5
y = 0.0858x - 1.4215
R2 = 0.0497
-6
-7
-8
-12
-10
-8
-6
-4
GDP growth in 2009
Source: IMF, World Economic Outlook
-2
0
2
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…despite fiscal easing in 2009...
Change in Primary Balance from 2009 to 2008
% of GDP
4
Tightening
2
0
-2
-4
-6
Loosening
-8
-10
Further Fiscal Policy Considerations

Automatic stabilizers are preferable over discretionary
measures to achieve fiscal easing


Need to make room for stabilizing financial sector



More timely, better targeted (e.g. unemployment benefits),
and more credibly reversed than discretionary measures
Government support for recapitalization with safeguards
Investment expenditures and transfers targeting the
unemployed or poorer households (which have higher
propensity to spend) are effective stimulus measures
Subsidies to specific industries and hard-to-reverse
expenditures are not recommended
debt and deficit limits more respected
in emerging Europe, despite worse growth
Performance against Maastricht criteria
unweighted averages, percent of GDP
0
"Excessive" debt
-1
2008
Fiscal balance
-2
2008
Emerging
Europe
-3
-4
2009
Advanced
Europe
2010
2009
-5
"Excessive"
deficit
-6
2010
-7
20
30
40
50
Public debt
60
Source: IMF, World Economic Outlook
70
80
Financial sector policies in crisis
Preserving soundness of financial systems key for:
domestic financial stability and economic growth
 stability of interconnected countries
 effectiveness of monetary policy transmission

Financial sector policies in crisis—
lessons from previous crises
1.
2.
3.
4.
5.
6.
Avoid piecemeal approach
Secure confidence of creditors/depositors
Ensure upfront loss recognition
Facilitate recapitalization
Remove nonviable institutions
Do not delay debt restructuring
Coordination issues from diversified
financial links through parent banks
Concentration of Emerging Europe Exposure to Western
Europe, H1 2008
(Percent)
100%
80%
60%
40%
20%
0%
BA
BY
AL
Austria
SK
Italy
HR
RO
Germany
MD
CZ
France
UA
HU
Sweden
BU
RU
Switzerland
PL
MK
LV
Netherlands
LT
EE
Other
Source: Bank for International Settlements, Quarterly Review, June 2008.
Note: Country names are abbreviated according to the ISO standard codes.
1/ Emerging Europe exposure to western European banks is defined as the share of the reporting banks in each western European country in the total
outstanding claims on a given emerging European country (both bank and nonbank sectors). For example, about 42 percent of Croatia's exposures to Western
European reporting banks is owed to Austrian banks, 38 percent to Italian banks, 13 percent to French banks, etc. For the Baltic countries, 85 percent or more of
exposures to the reporting banks is owed to Swedish banks.
Phase 1 – Contain Crisis
 Establish credible macroeconomic policies
 Provide needed liquidity



All countries have done this
Short maturity, collateral, penalty rates but need for flexibility
Open market operations successful in sterilizing injections
 Protect depositors


Most countries have done this
Blanket guarantees successful but may be costly


Depends on size of financial hole and restructuring alternatives
Cover all liabilities except subordinated debt and equity
 Announce medium-term restructuring program
Phase 2 – Restructure Banks
 Diagnosis, focus on medium-term viability
 Recognize losses upfront
 Preserve viable, undercapitalized banks:
 request time-bound recap/restructuring plans
 close oversight and prompt corrective actions
 Resolve insolvent, unviable banks:
 not all institutions to be rescued
 close/merge and liquidate assets
Use of Public Money for Recap
 Rationale: To encourage private sector contributions (investor
of last resort)
 Principles and safeguards:







All losses recognized/absorbed by existing shareholders
Match private injections with government funds
Government shares could have preferred status
Government representation in Board
Require operational restructuring/asset workouts
Sweeteners (option to buy back government shares)
Allow convertibility of state contribution to Tier 2 capital into Tier 1
capital if CAR falls below given ratio
Phase 3 – Manage Impaired Assets
 Resolution of debt overhang needed to restart supply
and demand of credit
 Corporate debt restructuring often neglected
 Issues in institutional framework




speed versus value
centralized versus decentralized
legal reforms (bankruptcy/foreclosure)
out-of-court debt restructuring (London approach)
Phase 4 – Exit from Crisis Mode

Exit from blanket guarantee if applied

Exit from government ownership of banks

Sale of assets taken over

Overhaul of regulations to not repeat mistakes

Continue corporate restructuring to avoid “secondwave crisis”
Flexible Credit Line (FCL)








Flexibility to draw or treat as precautionary
Qualification: Very strong fundamentals/policies
No conditions after approval
Access upfront, no cap
expected not to exceed 1000 percent of quota
Renewable arrangements, 6 months or 1 year (with
mid-term review), repurchases same as SBA
Safeguards: Board scrutiny, transparency, PPM
3 users so far: Colombia, Mexico, and Poland
FCL – Qualification Criteria



Very strong fundamentals, policies, and policy
track records
Positive assessment from recent Article IV
Qualification criteria (Annex 1 SM/09/69)
Strength of external position, market access, sound
fiscal position, low/stable inflation, absence of
systemic bank problems, effective bank supervision,
data transparency/integrity
 Not all criteria need to be met, but offsetting reasons
needed

High Access Precautionary SBAs







HAPAs for members not eligible/do not request FCL
All BOP needs—credit tranche terms
No hard caps, but exceptional access policy applies
Phasing: can move to 2 instead of 4 purchases a year, in
relation to members’ strength/need
Review frequency: at least two a year
Length: flexible (up to 3 years)
Need to solve “blackout” problem
Access

Normal access limits doubled


200 percent annually, 600 percent cumulative
Exceptional access procedures modified
Both precautionary/nonprecautionary use
 Same treatment in current/capital account crises
 Eliminate ambiguities (debt sustainability criterion

Simplifying Surchages and Maturities
Figure B: New Surcharge Schedule
Figure A: Old Surcharge Schedule
(in basis points)
600
500
500
400
400
SRF
300
(in basis points)
600
300
> 300% of quota
SBA/SLF/EFF, > 300% of quota
200
200
SBA/SLF/EFF, 200-300% of quota
100
100
0
0
t




t+12
t+24
t+36
t+48
Time (in months)
t+60
t
t+12
t+24
t+36
t+48
Time (in months)
t+60
Eliminate time-based repurchase expectations (effective immediately)
Remove 100 bps surcharge for credit of 200-300% of quota
Keep 200 bps surcharge for credit above 300% of quota
Introduce a 100 bps surcharge when outstanding credit is above 300% of quota for
more than 3 years
Issues in crisis management







Early diagnosis is key (liquidity vs. solvency)
Deal with uncertainty (size of output gap?): adapt
plans; develop contingencies (abandon peg?)
Secure legal authority to act
Ensure good interagency coordination
Premium on coherent communications
Ensure adequate safety nets for disadvantaged
Plan exit strategy
Exchange rate policy

Should pegs be abandoned in crisis?






Keeping pegs can lead to severe loss of competitiveness with
respect to floaters
Regaining competitiveness (or correcting overvaluation)
under peg imposes harsh deflationary adjustment—plus it
seldom happens in crisis (only Hong Kong and Panama)
However, negative balance-sheet effects of depegging could
be large when liability dollarization pervasive (although
deflation in the context of peg also leads to insolvencies)
Regional contagion is another risk of depegging
Presence of a credible exit strategy from peg, including plans
to join monetary union, is another important consideration
Role of capital controls?
Monetary Policy in Crisis

Considerations for appropriate monetary policy
stance (flexible exchange rate regimes):
Inflation pressures
 Inflation-fighting credentials of monetary authority
 Trade-off between (i) growth benefits from lower
interest rates and weaker currency and (ii) costs of
currency depreciation on unhedged balance sheets
 Trade-off between (i) LOLR function in face of
deposit runs and (ii) avoidance of exchange rate
overshooting/loss of monetary control

Financial sector policies in crisis
Preserving soundness of financial systems key for:
domestic financial stability and economic growth
 stability of interconnected countries
 effectiveness of monetary policy transmission

Financial sector policies in crisis—
lessons from previous crises
1.
2.
3.
4.
5.
6.
Avoid piecemeal approach
Secure confidence of creditors/depositors
Ensure upfront loss recognition
Facilitate recapitalization
Remove nonviable institutions
Do not delay debt restructuring