Mezin

1
Mezinárodní konference "Ceská a svetová
ekonomika po globální financní krizi"

• International reserves and the financial crisis
  monetary policy matters
• Sona Benecka, VŠFS, CNB
• 25 Nov 2011

2
International reserves literature

• Buffer stock - to fluctuations in external
  transaction (Heller, 1966)
• Combined with inventory theoretic approach
• (Frenkel and Jovanovic,1981)
• Currency crisis first and second generation
  models (Krugman, 1979 Obstfeld, 1986)
• IMF and international vulnerability
• (Bussiere and Mulder, 1999)
• Mercantilist motives export promoting (Aizenman
  and Lee, 2007)
• Financial globalization protection of domestic
  credit markets (Obstefeld, Shambaugh and Taylor,
  2008)

3
Relevance fear of floating or fear of losing
IR

• Crisis 2008 2009 IR served as a warchest?
  (Obstfeld, 2008 Aizenman, 2010) implications
  for economic policy

Inflation targeting countries highlighted
4
Inflation targeting countries and the crises

• de Carvalho Filho (2011) inflation targeting
  countries lowered nominal and real interest rates
  more sharply than other countries were less
  likely to face deflation scares and had sharp
  real depreciations without a relative
  deterioration in their risk assessment by
  markets

5
Monetary policy and IR Trilemma vs. Quadrilemma

• Mundell-Flemings impossible trinity

New dimension Accumulation of international
reserves improves financial stability and
allows for independent monetary policy
(Aizenman, 2011)
Policy choice Closed financial markets
Policy goal Exchange rate stability
Policy goal Monetary independence
Policy choice Give up monetary independence
Policy choice Floating exchange rate
Policy goal Financial integration
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The role of monetary policy and ER regime

• Comparable to Obstfeld et alt. (2008)
• Panel data analysis
• Sample 123 countries
• Time period 1999 2009 (if data available)
• Data source Worldbank, IMF, EIU
• Extended with MP/ER arrangements and financial
  stability
• Dummy variable for exchange rate regime (from
  currency union to free float, 2 classifications)
• Dummy variable for monetary policy arrangement
• Monetary independence
• Financial stability measured by M2/GDP and
  banking crisis dummy

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Trends in explanatory variables

• Globalization in trade and capital
• Strong impact of financial crisis
• No clear trend of growing ER flexibility
• More countries with ER anchor and IT regime

8
Summary of main results I

• Openness to trade and the development of the
  current account is still a crucial for the
  determination of the reserves. So country with
  export-oriented growth may be sensitive to
  exchange rate, especially if not allowing for
  free capital movement.
• Opening capital account was a very dynamic
  process in 1990s, while after 2000 it slowed
  down. If we account for the effect of wealth,
  this improves the estimate.
• Oil exporters have substantially higher reserves
  the income from oil export may well be
  transferred to reserves or CB react more on ER
  movements to stabilize oil revenues.

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Summary of main results II

• As for exchange rate arrangements, we find
  inverted-U relationship, with free floating and
  fixed arrangements holding most reserves.
• As for monetary policy regimes, the results are
  rather weak. The sign for inflation targeting
  countries is negative, but insignificant.
• Finally, the financial stability plays an
  important role. When the banking crises starts,
  the reserves are eventually used. But the
  measurement of the financial system vulnerability
  is difficult.

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A proposal for the new framework

• The current framework is still not able to
  describe fully underlying forces behind huge
  accumulation of reserves.
• One possible explanation failing monetary
  policy, non availability of other policy
  instruments/channels.
• The choice of monetary policy mix may be driven
  by specific conditions of emerging economies like
• 1) Relationship to fiscal policy and CB
  independence.
• 2) Stage of development of the financial system
• 3) Limited functioning of the standard
  transmission channels

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Some evidence

• First hint Central bank credibility index from
  Meade and Crowe (2008)
• Still more work to be done on-going reserach -gt
  countries holding more reserves use them as the
  fist MP instrument

12
Economic policy implications

• Accumulation of reserves as a war chest against
  the crisis does not have to be the most effective
  way..
• Optimal level of reserves to be doubted
  (dominance of non linear relationship between
  variables, country specific structural weaknesses
  and peculiarities of the individual financial
  markets) -gt
• develop stress testing for balance of payment
• (in 2012)

13
Thank you for your attention

• www.cnb.cz
• Sona Benecka
• sona.benecka_at_cnb.cz

14
Summary statistics
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Explanatory variables

• General cross-country differences population,
  GDP per capita, advanced countries dummy, share
  on net oil export
• Trade openness exportimport/gdp
• Financial openness Chinn-Ito capital market
  openness index
• Monetary policy arrangements de facto
  classification by IMF inflation targeting (1),
  monetary aggregate targeting (2), IMF support
  (3), other (4), ER anchor (5), monetary union (6)
• Exchange rate regime see below
• Monetary independence - Heritage monetary freedom
  index
• Financial stability M2/GDP and banking crisis
  dummy

16
Traditional model and its extensions
Note standard errors in parentheses, dependent
variable ln(IR/GDP) , , and denote
significance at the 10, 5, and 1 levels,
respectively
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Exchange rate regime matters
Note standard errors in parentheses, dependent
variable ln(IR/GDP) , , and denote
significance at the 10, 5, and 1 levels,
respectively
18
more than monetary policy arrangement..
Note standard errors in parentheses, , , and
denote significance at the 10, 5, and 1
levels, respectively
19
while financial stability is difficult to
measure.
Note standard errors in parentheses, , , and
denote significance at the 10, 5, and 1
levels, respectively
20
AppendixIR/GDP ranking
21
Ranking IR in bill. USD
22
GDP per capita vs Advanced countries dummy
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IT is a way out?

• Missing empirical evidence
• Optimal vs. Real behaviour

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Capital account openess (KAOPEN)
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Exchange rate regimes

• De facto classification for IR (Choi, Baek)
• IMF (from 1997) Reinhart and Rogoff
  (2004)

Data available 1960 - 2007
Data available 1997-2008
1 No separate legal tender Pre announced peg or currency board arrangement Pre announced horizontal band that is narrower than or equal to /-2 De facto peg
2 Pre announced crawling peg and crawling band, that is narrower than or equal to /-2 De facto crawling peg and band that is narrower than or equal to /-2
3 Pre announced crawling band that is wider than or equal to /-2 De facto crawling band that is narrower than or equal to /-5 Moving band that is narrower than or equal to /-2 Managed floating
4 Freely floating
5 Freely falling
6 Dual market in which parallel market data is missing.
1 Exchange arrangement with no separate legal tender
2 Currency board arrangement
3 Conventional pegged arrangement
4 Pegged exchange rate within horizontal bands
5 Crawling peg
6 Crawling band
7 Managed floating with no predetermined path for the exchange rate
8 Independently floating
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ER regimes (IMF)
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Monetary arrangements