Download Ankara, Turkey, September 12, 2006

Panel on Financial
Stability and Debt
Management
Guillermo A. Calvo
Ankara, Turkey, September 12, 2006
Bonds: Recent Evidence


All recent currency crises involved runs on bonds,
i.e., serious difficulty in rolling over significant
amounts of bonds as they mature or come due.
Thus, especially dangerous are:
 bunching
of maturities.
 foreign-exchange denominated bonds


also bonds indexed to a domestic price level, although these
are easier to finance with money creation.
However, even short-maturity nominal bonds are
dangerous because they could
 result
in high and sustained inflation (Brazil, Turkey)
 or be turned to dollar bonds (1994 Mexico)
2
Run on Bonds: Why?

Insolvency of some kind
 gov’t
that for political reasons cannot raise enough
taxes to repay debt after negative terms-of-trade
shock.
 self-fulfilling insolvency crisis under distorting
taxation. Crisis takes place as expectations are
coordinated on a “bad” equilibrium.

Lenders’ financial difficulties,
 e.g.,
a liquidity crunch that hits specialists in those
bonds (Russian 1998 crisis). There is room for
self-fulfilling crises here too.

Expectation of strategic default (a rare event).
3
A Bond-Run Crisis (Sudden Stop)
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

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
Central bank (C-bank) sterilizes capital inflows by issuing
short-term C-bank obligations.
Private banks (P-banks) borrow short run in dollars and
lend to private sector in dollars.
There is a Sudden Stop and P-banks cannot roll over
their dollar debts. Hence, P-banks try to roll back their
loans to private sector.
Private sector cannot repay, partly because of the real
currency depreciation caused by the Sudden Stop.
Thus, C-bank bails out P-banks by using its international
reserves.
However, SS implies that C-bank’s debt cannot be rolled
over either.
Call the Fund!
4
Policy Options




Spread out bond maturities to avoid significant
maturity bunching.
De-dollarization.
However, the above policies are costly if not
outright impossible to implement.
Thus, in the short run the best available options
are likely to be:
 Decrease
the supply of bonds, e.g., lowering the
fiscal deficit.
 Stop non-budget deficit, e.g., prevent bank crises!
 Get international credit lines, accumulate international
reserves. (This could be costly!)
5
Effect of Debt Management
Debt over GDP ratio Distribution
0.7
Debt-GDP ratio
0.6
0.5
0.4
0.3
0.2
2000
2001
2002
Foreign Currency
2003
2004
2005
Foreign Currency - Local Currency
2006
2007
2008
2009
2010
Foreign Currency - Local Currency - GDP linked
6
Latin America: Debt growth due to non-budget items
(balance-sheet effects, skeletons, etc.)
18
16
14
Percent of GDP
12
10
8
6
4
2
0
-2
1995
1996
1997
1998
1999
2000
2001
Simple average for: Argentina, Brazil, Chile, Colombia, Mexico, Peru, Venezuela
2002
2003
2004
2005
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Controls on Capital Inflows
The objective is to control the inflow of shortterm capital flows (“hot capital”) by taxing
those flows.
 Empirical studies show that K-controls do not
change much total K-flows, but succeed in
lengthening the maturity of K-inflows.
 However, K-controls do not prevent Sudden
Stops (Chile 1998/9)

 and
tend to discriminate against the “small guy.”
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International Cooperation
Necessary because it is still very costly for
EMs to unilaterally protect themselves from
deep crisis.
 Options:

 Contingent
Credit Lines, CCL
 Emerging Market Fund to stabilize EMBI
 Improving information about new financial
instruments, their risks, etc.
 Helping to develop local-currency debt
instruments.
9
Panel on Financial
Stability and Debt
Management
Guillermo A. Calvo
Ankara, Turkey, September 12, 2006