nep-ifn New Economics Papers
on International Finance
Issue of 2010‒06‒26
ten papers chosen by
Ajay Shah
National Institute of Public Finance and Policy

  1. The illusive quest: do international capital controls contribute to currency stability? By Reuven Glick; Michael Hutchison
  2. The Exchange Rate Regime in Asia: From Crisis to Crisis By Ila Patnaik; Ajay Shah; Anmol Sethy; Vimal Balasubramaniam
  5. A Floating versus Managed Exchange Rate Regime in a DSGE Model of India By Nicoletta Batini; Vasco Gabriel; Paul Levine; Joseph Pearlman
  7. Restraints On Capital Flows: What Are They? By Ramkishen Rajan
  9. The Currency and Financial Crisis in Southeast Asia: A Case of 'Sudden Death' or Death Foretold'? By Ramkishen Rajan
  10. Banking Crises and Short and Medium Term Output Losses in Developing Countries: The Role of Structural and Policy Variables By Davide Furceri; Aleksandra Zdzienicka

  1. By: Reuven Glick; Michael Hutchison
    Abstract: We investigate the effectiveness of capital controls in insulating economies from currency crises, focusing in particular on both direct and indirect effects of capital controls and how these relationships may have changed over time in response to global financial liberalization and the greater mobility of international capital. We predict the likelihood of currency crises using standard macroeconomic variables and a probit equation estimation methodology with random effects. We employ a comprehensive panel data set comprised of 69 emerging market and developing economies over 1975–2004. Both standard and duration-adjusted measures of capital control intensity (allowing controls to "depreciate" over time) suggest that capital controls have not effectively insulated economies from currency crises at any time during our sample period. Maintaining real GDP growth and limiting real overvaluation are critical factors preventing currency crises, not capital controls. However, the presence of capital controls greatly increases the sensitivity of currency crises to changes in real GDP growth and real exchange rate overvaluation, making countries more vulnerable to changes in fundamentals. Our model suggests that emerging markets weathered the 2007-08 crisis relatively well because of strong output growth and exchange rate flexibility that limited overvaluation of their currencies.
    Keywords: Financial crises ; Capital market ; Emerging markets ; Econometric models ; Panel analysis
    Date: 2010
  2. By: Ila Patnaik; Ajay Shah; Anmol Sethy; Vimal Balasubramaniam
    Abstract: Prior to the Asian financial crisis, most Asian exchange rates were de facto pegged to the US Dollar. In the crisis, many economies experienced a brief period of extreme flexibility. A `fear of floating' gave reduced flexibility when the crisis subsided, but flexibility after the crisis was greater than that seen prior to the crisis. Contrary to the idea of a durable Bretton Woods II arrangement, Asia then went on to slowly raise flexibility and reduce the role for the US Dollar. When the period from April 2008 to December 2009 is compared against periods of high in flexibility, from January 1991 to November 1991 and October 1995 to March 1997, the increase in flexibility is economically and statistically significant. This paper proposes a new measure of dollar pegging, the \Bretton Woods II score". [NIPFP WP No. 69].
    Keywords: flexibility, korea, economically, Exchange rate regime, Asia, Bretton Woods II hypothesis, dollar, pegging, US, Asia, financial crisis, china, India, macroeconomic policy, monetary policy
    Date: 2010
  3. By: Ahmet Atil Asici (Istanbul Technical University)
    Abstract: This paper aims to fill the gap between exchange rate regime choice and currency crises literatures. Through explicitly taking into account the exchange rate regime choice of countries in explaining the occurrence of currency crisis, it is tempting to think that sources of vulnerabilities, eventually leading countries to crises, might be different according to the exchange rate regime adopted by a country. This paper contributes to the empirical literature by assessing whether currency crises have regime-specific features. We propose a way to transform the variables exhibiting regime-specific features to solve the problems encountered in the empirical literature. Our regression results suggest that the odds of a crisis increase significantly in countries where chosen regimes are inconsistent with their features. In addition to standard macroeconomic indicators, countries’ regime choice should also consider what is being imposed by the natural determinants of the regime choice. Our sample consists of 163 developed and developing countries and covers the period from 1990 to 2007.
    Date: 2009–08
  4. By: Fathi Abid (University of Sfax, Tunisia); Moncef Habibi
    Abstract: In a basket managed foreign exchange rate arrangement, the volatility of the domestic money should exhibit a particular pattern: (1) it is reduced due to the diversification effect by linking the domestic money to a portfolio of currencies and frequent interventions of policymakers, (2) it reflects the variability of each component in the basket. Consequently, if there exists a significant foreign exchange exposure to hedge, this will be a multidimensional exposure. In a basket arrangement, two main relevant questions arise: to hedge or not to hedge? And if hedging is a worthwhile decision, what type of financial instrument should be used to offset the currency risk? Different hedging strategies are proposed and compared to the unhedged strategy. Reconstituted data on basket option hedging as a direct policy implication of the basket foreign exchange arrangement is also included and compared to the overall hedging strategies. Given the nonlinear payoff structure of some hedging strategies we implement a performance comparison based extensively on non parametric distribution free approaches—the difference in the Sharpe Ratios with statistical inference based on the studentized circular block bootstrap method and Stochastic Dominance approach. Daily data on the Tunisian Dinar exchange rate against two major currencies, the EUR and the USD, and on currency call options written by the Central Bank of Tunisia spanning the period from January 1999 to December 2005 is the basis of our empirical evidence. It is shown that the choice of the hedging instrument depends on the currency of denomination and the hedging horizon, and that the basket option is frequently ranked (in 88% of the cases) as the adequate strategy.
    Date: 2010–05
  5. By: Nicoletta Batini (University of Surrey and IMF); Vasco Gabriel (University of Surrey); Paul Levine (University of Surrey); Joseph Pearlman (London Metropolitan University)
    Abstract: We first develop a two-bloc model of an emerging open economy interacting with the rest of the world calibrated using Indian and US data. The model features a financial accelerator and is suitable for examining the effects of financial stress on the real economy. Three variants of the model are highlighted with increasing degrees of financial frictions. The model is used to compare two monetary interest rate regimes: domestic Inflation targeting with a floating exchange rate (FLEX(D)) and a managed exchange rate (MEX). Both rules are characterized as a Taylor-type interest rate rules. MEX involves a nominal exchange rate target in the rule and a constraint on its volatility. We find that the imposition of a low exchange rate volatility is only achieved at a significant welfare loss if the policymaker is restricted to a simple domestic in- flation plus exchange rate targeting rule. If on the other hand the policymaker can implement a complex optimal rule then an almost fixed exchange rate can be achieved at a relatively small welfare cost. This finding suggests that future research should examine alternative simple rules that mimic the fully optimal rule more closely. JEL Classification: E52, E37, E58
    Keywords: DSGE model, Indian economy, monetary interest rate rules, floating versus managed exchange rate, financial frictions.
    JEL: E52 E37 E58
    Date: 2010–04
  6. By: Ridha Nouira; Patrick Plane; Khalid Sekkat (Université Libre de Bruxelles (U.L.B), Belgium)
    Abstract: Recent literature suggests that a proactive strategy consisting of deliberate real exchange rate depreciation can promote exports diversification and growth. This paper is built on these recent developments and investigates whether four developing countries have adopted such a strategy. Data from Egypt, Jordan, Morocco and Tunisia are used to construct and compare the macroeconomic real effective exchange rate (REER), similar exchange rates at the sector level (SREER) and the macroeconomic Equilibrium Real Effective exchange rate (EREER). It shows that there are instances where the objective of diversifying exports through depreciation of exchange rate comes at the expense of further misalignment (REER departs from the EREER) and, then, monetary authorities are doomed to choose. The results show that Morocco and Tunisia are choosing the proactive exchange rate strategy while Egypt and Jordan are not. This fits with the observation that the former are doing much better than the latter in terms of exports diversification.
    Date: 2010–03
  7. By: Ramkishen Rajan
    Abstract: Though there has been much general debate recently about the pros and cons of capital controls, there remains substantial confusion and uncertainty about what exactly is entailed by the term ‘restraining global capital flows’. Popular discussion around this has typically been long on rhetoric and loose generalisations and acutely short on specifics. The aim of this paper is therefore to help refine the debate somewhat by clarifying and systematically categorising the various concepts that have been discussed in policy circles and the popular media. Two specific country experiences with restraining capital flows, viz. Chile and Malaysia are highlighted and discussed, as are the recent and muchpublicised proposals for exchange controls (a la Paul Krugman) and a global currency transactions tax in the forms of a Tobin tax.[Working Paper No. 3]
    Keywords: debate, capital controls, substantial, global capital flows, generalisations, systematically categorising, Chile, Malaysia, Paul Krugman, Tobin tax
    Date: 2010
  8. By: Magda Kandil (International Monetary Fund); Mohamed Trabelsi
    Abstract: This paper tests the desirability and feasibility of establishing a monetary union in GCC countries using a multivariate structural Vector Autoregression Model (VAR) for the period 1980-2006. The paper builds on the earlier work, capitalizing on a methodology that captures supply and demand disturbances impinging on individual economies. Co-movement of shocks across countries is considered a crucial condition towards integration in a common currency area. Shocks are based on the estimation of a structural VAR model that comprises world real output, domestic output, real exchange rates and the price level. Based on correlations using demand and monetary shocks, the paper establishes the following results: (i) countries of the region are still far from the necessary conditions to ensure the success of joining a currency union. Nevertheless, for a subset of countries (Saudi Arabia, the United Arab Emirates and Qatar), conditions suggest higher potential to take the lead in endorsing and fostering a common currency zone, (ii) a higher degree of labor mobility, openness, and intra-regional mobility are still desired to accelerate regional integration and ensure a steady path towards the establishment of a currency union.
    Date: 2010–05
  9. By: Ramkishen Rajan
    Abstract: Almost all existing studies on the causes, consequences and policy implications of the economic and financial crisis faced by East Asia have provided only a cursory discussion of broad data at best, or have fallen into the trap of merely stating the weaknesses in the economies as a ‘matter of fact’ at worst. Ex-post facto analysis is of little value. In this paper, limiting our focus to the Southeast Asian economies (viz. Indonesia, Malaysia, Thailand and the Philippines), we carefully scrutinise the available economic data in a systematic manner, with a view to determining whether there were possible indications of discernible deterioration in economic ‘fundamentals’ that might have been indicative of an impending crisis. In other words, we aim to determine whether the crisis was a ‘death foretold’ (i.e. ‘an accident waiting to happen’) as most observers seem to assume, or a quick and ‘sudden death’ as Sachs et al. (1996b) have suggested of the Mexican crisis of 1994- 95. We take pains to focus solely on the policies/factors that seemed to have a direct impact on the crisis. To get a sense of proper prospective, both trends in the various indicators of the Southeast Asian economies from 1990 to 1996 (just prior to the onset of the crisis in mid-1997) is considered, as well as compare their performance to the Latin American economies of Argentina, Brazil and Mexico.[Working Paper No.1]
    Keywords: East Asia, implications, economic, financial, Indonesia, Malaysia, Thailand, Philippines,
    Date: 2010
  10. By: Davide Furceri (OECD and University of Palermo); Aleksandra Zdzienicka (Université de Lyon, Lyon, F-69003, France; CNRS, GATE Lyon St Etienne, UMR 5824, 93, chemin des Mouilles, Ecully, F-69130, France; ENS-LSH, Lyon, France)
    Abstract: The aim of this work is to assess the short and medium term impact of banking crises on developing economies. Using an unbalanced panel of 159 countries from 1970 to 2006, the paper shows that banking crises produce significant output losses, both in the short and in the medium term. The effect depends on structural and policy variables. Output losses are larger for relatively more wealthy economies, characterized by a higher level of financial deepening and larger current account imbalances. Flexible exchange rates, fiscal and monetary policy have been found to be efficient tools to attenuate the effect of the crises. Among banking intervention policies, liquidity support resulted to be the one associated with lower output losses.
    Keywords: Output Losses, Financial Crisis
    JEL: G1 E6
    Date: 2010

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