The Global Crisis and LAC Views from Washington

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The Global Crisis and LACViews from Washington

• Guillermo Calvo
• Columbia University

Inter-American Development Bank, Vice Presidency
for Sectors and Knowledge Research Department and
the Regional Policy Dialogue, Washington, DC,
April 24, 2009
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Main Policy Innovations

• G20 re-funding and re-founding of the Fund.
• Pro-active monetary and financial policy in the
  G7.
• G7 Stimulus packages.

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I. G20 Re-funding and Re-founding the Fund

• The G20 decision to substantially increase IMF
  funding, and the new IMF Flexible Credit Line,
  represent major strategic changes in
  international financial cooperation.
• The FCL offers an alternative to international
  reserve accumulation, a costly self-insurance
  scheme.
• The FCL could be instrumental in recycling
  Flight-to-Quality capital, and preventing BOP
  crises.

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• Remarkably, a US47 billion FCL for Mexico was
  approved, even though Mexico is not suffering
  from a balance-of-payments, BOP, crisis.
• In contrast, in 1995 Mexico got a US50 billion
  package many weeks after BOP crisis erupted too
  late for preventing major output collapse.
• Thus, the Fund is beginning to act as a regular
  central bank (at a global level).

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II. Pro-active Monetary and Financial Policy in
the G7

• Lowering of policy interest rates and the many
  other operational innovations at the Fed and
  other G7 central banks may have contributed to
• Protecting EMs from contagion through the capital
  market (as during the 1998 Russian crisis).
• Surge of capital flows to EMs until mid 2008
• Low yields of EM bonds.

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External Financial Conditions for EMs(daily
data, EMBI, bps, last value 04/07/09)
ENRON Effect
Greenspans conundrum testimony
Lehman Brothers files for bankruptcy
Fears of FED tightening
Basis points
Yields
Pre-Asian Crisis Yield
?-12
Spreads
?54
Pre-Asian Crisis Spread
Beginning of improvement in international
financial conditions
Source Bloomberg.
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US Junk EM Bonds (yields in , last value
04/07/09)
US Junk
EM Sovereign
EM Corporate
Note (1) EM Corporate Credit Suisse Corporate
Bond. (2) EM Sovereign JP Morgan EMBI
Sovereign. (3) US Junk MSCI High Yield
Bonds. Source Bloomberg.
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III. G7 Stimulus Packages

• Several experts and commentators expect that
  effects on EM output will be modest.
• Moreover, these packages could contribute to
  further crowding out of capital flows from EM,
  especially if global output takes time to react
  to stimulus packages.

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Inflation Risks in LAC
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• Global inflation may surge as credit starts to
  flow to the private sector.
• Commodity prices are likely to be the first in
  line to rise
• which, as experienced in 2008 Q-I, will result in
  higher EMs inflation.
• G7 central banks are unlikely to tighten monetary
  policy before they see output firmly recuperating
  and inflation reflected in their CPIs.

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• Therefore, as inflation flares up, LACs are
  likely to be on their own
• And may face a serious tradeoff between
• stopping inflation
• and
• stopping outputs rebound.

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Commodity Prices(daily data, Index 3-Sep-07
100, last value 4/7/09)
Source Bloomberg.
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The Global Crisis and LACViews from Washington

• Guillermo Calvo
• Columbia University

Inter-American Development Bank, Vice Presidency
for Sectors and Knowledge Research Department and
the Regional Policy Dialogue, Washington, DC,
April 24, 2009