NEW FINANCIAL ARCHITECTURE
AND MACRO POLICY UNDER
GLOBALIZATION HAZARD
Guillermo A. Calvo
February 2002
MORAL OR GLOBALIZATION
HAZARDS?
The Moral Hazard View
Large bailouts starting with the Tequila
$50 billion package, induced greater
risk taking by governments and
investors,
which increased the incidence of
crises.
Moral Hazard: A Critique
Capital flows to EMs started to fall
a year after Tequila
The composition of flows shifted
in favor of Foreign Direct
Investment
Private Net Capital Flows
3
4
Financial globalization starts--->
3
2
2
1
1
0
0
-1
-1
Tequila-->
-2
-2
75
80
Western Hemisphere
Source: WEO, IMF, May 2001
85
90
95
Total Emerging Markets
00
Foreign Direct Investment
250
200
Financial globalization starts--->
150
100
50
0
-50
75
80
85
Private Flows
Source: WEO, IMF, May 2001
90
95
Private FDI
00
Globalization Hazard View
Since 1989 capital flows increased at a very
rapid rate, and also collapsed very sharply
starting in 1996.
Volatility was high, and capital flow reversals
reached record-high levels
Current account adjustments are much
bigger in EMs than in Advanced Economies.
Crises could reflect institutional and
informational features that apply
especially to EMs.
SUDDEN STOP: A Tornado
in Capital Markets
Capital Flows
6,000
8%
5,000
7%
millons of US dollars
6%
4,000
3,000
4%
2,000
3%
% GDP
1,000
2%
1%
0
0%
2001.I
2000.III
2000.I
1999.III
1999.I
1998.III
1998.I
1997.III
1997.I
-1%
1996.III
-1,000
% GDP
5%
1996.I
Millions of US dollars
(4 quarters, millions of US dollars and % of GDP)
Foreign Direct Investment
(Last 4 quarters, millon US$ and % of GDP)
4000
7.0%
3500
6.0%
5.0%
% of GDP
2500
4.0%
2000
3.0%
1500
2.0%
1000
I-01
III-00
I-00
III-99
I-99
III-98
I-98
0.0%
III-97
0
I-97
1.0%
III-96
500
% del PBI
millon US$
I-96
Millones de US$
3000
SUDDEN STOP
Country/Episode
Argentina 1982-83
Ecuador 1995-96
Mexico, 1981-83
Korea 1996-97
Thailand 1996-97
Turkey 1993-94
Reversal of K.
Inflows (% of GDP)
20
19
12
11
26
10
Current Account
Adjustment (as % of GDP)
Country
T-1
Group
EMs
-4.46
-3.97
-1.39
3.47
Advanced -2.84
-3.06
-2.10
0.74
Difference -1.62
-0.91
0.71
T
T+1
Change
crisis
Note: ** denotes significance at the five percent level.
Source: The World Bank and Calvo-Reinhart “Fixing for your Life,” April 2000.
2.73**
Globalization Hazard:
Key Factors
External Institutional Factors:
change in US regulations
launching of Brady Bonds and the
development of the EM Bond Market
Domestic Institutional Factors:
Fear of Floating
Poor Credibility
Informational Factors:
Liquidity shocks and lack of international
lender of last resort.
POLICY ISSUES
Public Sector Involvement
Rationale: Low Probability Events, LPEs,
and transaction costs.
Implication: ex post transfers if LPE may
be optimal
Problems:
some transfers are international in nature.
if government has high debt, it cannot be an
effective Lender of Last Resort. Weak
Governments, generate peso problems and
induce high interest rates.
INTERVENTION BY WEAK GOVERNMENTS
WORSENS THE CRISIS UNLESS IT IS
SUPPORTED BY IFIs.
A CLEAR EXAMPLE IS CENTRAL BANK
INTERVENTION, WHICH HAS LED TO
LARGE LOSSES OF INTERNATIONAL
RESERVES
Exchange Rates under
Weak Government
Macro balance-sheet shocks ought to be
avoided
Thus, monetary system must be in line
with the type of indexation that prevails in
financial transactions, e.g.,
fixed rates in highly dollarized systems
Inflation Targeting if interest is indexed to
CPI.
What If Crisis Hits?
Private Sector Involvement, PSI,
if creditors’ coordination is not possible, PSI
is not effective for solvency problems
however, PSI + IFIs guarantees, or other
credible guarantee, would be effective.
Emerging Market Fund, EMF
helps to prevent contagion
less likely to lead to Moral Hazard than CCL
and Meltzer’s proposal.