| By: |
Francisco Ramon-Ballester (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.);
Torsten Wezel (Deutsche Bundesbank, Wilhelm-Epstein-Str. 14, 60431 Frankfurt am Main, Germany.) |
| Abstract: |
This paper empirically investigates the extent to which the financial linkages
of Latin American banks with the exterior are influenced by political risk and
deposit dollarisation. We find that the sum of banks’ foreign assets and
liabilities is a function of risk-return considerations and excess domestic
credit demand. An increase in political risk is shown to be associated with a
build-up of foreign positions by the banking sector, but this adverse effect
on the banking system is mitigated in economies with a high share of
dollarised deposits. These relationships largely hold when the determinants of
foreign assets and liabilities are estimated separately, with risk-induced
capital flight being moderated by a high degree of deposit dollarisation.
While changes in overall country risk including the risk of macro collapse
drive official capital outflows, for a wider measure of capital flight
including informal flows only changes in political risk matter. In each case,
deposit dollarisation is shown to possess a risk-mitigating property. The
results suggest caution with active dedollarisation strategies in highly
dollarised economies where political instability remains an issue. JEL
Classification: E42, F36, G21. |
| Keywords: |
Dollarisation, political risk, banking systems, financial integration, Latin America. |
| Date: |
2007–03 |
| URL: |
http://d.repec.org/n?u=RePEc:ecb:ecbwps:20070744&r=lam |