Financial Crises

1
Financial Crises

• East Asia 1997, Russia 1998, Brazil ?

2
Background to 1997 East Asian crisis

• Fundamentalist view
• Contagion view
• Three factors
• Macro policy in OECD
• Domestic mismanagement
• Investor panic

3
Exchange Rates
Goldstein 1998
4
Stock Markets
Goldstein 1998
5
IMF Growth Forecasts for 1998
Goldstein 1998
6
External Causes

• Credit boom in the 1990s
• Low interest rates in the U.S. and Japan
• Expansion of portfolio funds
• 420 billion net flows to Asian emerging markets
• Deteriorating current account
• Overvalued real exchange rates
• Slowing exports and increasing competition

7
External Sector
Goldstein 1998
8
Financial Market Vulnerabilities

• Capital inflows concentrated
• Real estate (30-40 of bank lending)
• Equities
• Borrowing in foreign currencies w/ short
  maturities

Why?
9
Financial Market Supervision

• Weak banking sectorshigh ratios of nonperforming
  loans
• Lack of transparency, sound accounting procedures
• Inadequate loan-loss reserves
• Corrupt lending
• Banks as quasi-fiscal agents

10
Precipitating event

• ThailandCB reserves depleted, rolling over
  government debt
• S. Korearolling over foreign-currency
  denominated bank liabilities
• Indonesiacorporations attempt to hedge their
  currency positions

11
Contagion

• Trade linkages?
• Hard to explain contagion from small countries to
  large ones
• Competitive devaluation?
• Same objection
• Goldsteins wake-up call hypothesis
• Do capital markets sleep?
• Rational buffalo

12
Russia 1998

• Fixed exchange rate, overvalued in real terms
• Incentive to run a fiscal deficit
• Election of 1996
• Collapse of tax revenues
• Nominal debt
• High interest rates
• Central Banking dilemmas
• Bail-out of 1998

13
Why not Brazil in 2002?

• Public debt to GDP 60
• Of which, linked to the dollar 40
• Spread over U.S. treasuries 18
• Devaluation gt40 in 2002
• 30 billion IMF program in August
• Luiz Inacio Lula da Silva (Lula) elected in
  October

14
First Steps

• Reaffirm primary surplus goal of 3.75 of GDP, an
  IMF condition
• Propose legislation to strengthen Central Banks
  independence
• Conservative appointments
• Postponing populist agenda

15
Discussion

• Do IMF rescue packages help countries that face
  financial crises?