Foreign reserve strategies for emerging economies - before and after the crisis

The global financial crisis posed as much of a challenge for the foreign exchange reserve policies of emerging countries as it did for their economic policies and financial systems. This pushed many countries into rethinking their strategies about foreign exchange reserves. This study presents the main objectives behind reserve accumulation by central banks, and summarises the considerations generally taken into account when defining the targeted level of foreign reserves. We also review the motives that led the majority of emerging countries to accumulate large-scale reserves in the period preceding the crisis. Many lessons can be drawn from the crisis about the level and use of reserves, and the possibilities for increasing reserves in times of turmoil. The lessons deemed most important by us, together with the foreign reserve trends of the post-crisis period are presented in the second part of this study. Based on our conclusions, international reserves are likely to increase further. This increase may generate further tensions in the global financial system, despite the fact that higher reserve levels may, on the level of individual countries, be a rational choice. To avoid global imbalances, international coordination and alternative sources of FX liquidity, such as central bank swap lines, new IMF instruments and regional financial solutions - vital in times of crisis - should be reinforced.foreign reserves, international reserves, swap lines, financial safety net.

Bond Markets as Conduits for Capital Flows: How Does Asia Compare?

We use data on the extent to which residents of one country hold the bonds of issuers resident in another as a measure of financial integration or interrelatedness, asking how Asia compares with Europe and Latin America and with the base case in which the purchaser and issuer of the bonds reside in different regions. Not surprisingly, we find that Europe is head and shoulders above other regions in terms of financial integration. More interesting is that Asia already seems to have made some progress on this front compared to Latin America and other parts of the world. The contrast with Latin America is largely explained by stronger creditor and investor rights, more expeditious and less costly contract enforcement, and greater transparency that lead to larger and better developed financial systems in Asia, something that is conducive to foreign participation in local markets and to intra-regional cross holdings of Asian bonds generally. Further results based on a limited sample suggest that one factor holding back investment in foreign bonds in East Asia may be limited geographical diversification by mutual funds, in turn reflecting a dearth of appropriate assets. Asian Bond Fund 2, by creating a passively managed portfolio of local currency bonds potentially attractive to mutual fund managers and investors, may help to relax this constraint.

Argentina's Monetary and Exchange Rate Policies after the Convertibility Regime Collapse

This paper offers a comprehensive look at how Argentina managed a remarkable economic recovery from its collapse in 2001. The authors show how the Argentine government's policy of targeting a stable and competitive real exchange rate was crucial to the country's economic recovery. They also analyze the various sources of aggregate demand and government revenue in different phases of the expansion. In addition to the crucial role of the exchange rate, the authors look at other policies -- such as an export tax, capital controls, and the default on much of the country's sovereign debt -- which were met with disapproval by many economists and other commentators but played an important role in the recovery

CAPITAL FLOWS TO DEVELOPING COUNTRIES AND THE REFORM OF THE INTERNATIONAL FINANCIAL SYSTEM

Recent financial crises, whose effects have been particularly severe in developing countries, have led to a wide-ranging debate on international financial reform. This debate has had to confront the implications of the huge growth of international capital movements, one of whose consequences has been the increased “privatization” of external financing for developing countries. The paper begins with surveys of major features of the post-war evolution of the system of governance of the international financial system and of the principal trends in capital flows to developing countries during the past three decades. These set the stage for a selective review of appropriate policy responses to international financial instability, with the main focus on proposals for remedying structural and institutional weaknesses in the global financial architecture through such means as greater transparency and improved disclosure, strengthened financial regulation and supervision, more comprehensive and even-handed multilateral policy surveillance, and bailing in the private sector by arrangements for orderly debt workouts. In view of the continuing absence of effective measures at the global level for dealing with financial instability, the paper puts special emphasis on the maintenance by developing countries of national autonomy regarding policy towards capital movements.

Argentina's Monetary and Exchange Rate Policies after the Convertibility Regime Collapse

This paper offers a comprehensive look at how Argentina managed a remarkable economic recovery from its collapse in 2001. The authors show how the Argentine government's policy of targeting a stable and competitive real exchange rate was crucial to the country's economic recovery. They also analyze the various sources of aggregate demand and government revenue in different phases of the expansion. In addition to the crucial role of the exchange rate, the authors look at other policies - such as an export tax, capital controls, and the default on much of the country's sovereign debt - which were met with disapproval by many economists and other commentators but played an important role in the recovery.

The Episodes of Currency Crises in the European Transition Economies

The series of currency crises which hit several developing countries in the 1990s did not leave the emerging market economies of Central and Eastern Europe unscathed. However, contrary to the experience of Mexico in 1995 and South East Asia in 1997-1998, the roots of the crises in our region were usually less sophisticated and easier to identify. Most crisis episodes in the former communist countries fit nicely with the ”first generation” canonical model elaborated in 1979 by Paul Krugman and developed in 1980s by other economists. In this model, fiscal imbalances are the main factor leading to depleting international reserves of the central bank and speculative attacks against national currencies. This was the main reason behind all currency crises in our region, very often closely related to serious microeconomic weaknesses and delays in structural and institutional reforms. The only minor exception was the Czech Republic where the devaluation crisis in May 1997 (of rather limited magnitude) was caused by over-borrowing of the enterprise sector, an unreformed financial sector, and political turmoil rather than by fiscal imbalances and an excessively expansionary monetary policy. This volume, following another collection of similar monographs related to Latin American and Asian regions, presents five episodes of currency crises in Eastern Europe in the second half of 1990s. Four of them were related to post-communist economies and one (Turkey) to a developing economy aiming to integrate with the EU and suffering many macroeconomic and structural weaknesses similar to those of the transition group. Bulgaria in 1996-1997 represents the first episode of a full-scale financial crisis, involving drastic currency devaluation and near-hyperinflation, a banking crisis and a near default on debt obligations. The roots of the crisis were fully domestic and, although severe, were restricted to Bulgaria. Russia's financial crisis in August 1998, despite similar characteristics and domestic roots as in Bulgaria, had an important international dimension. On the one hand, the first speculative attacks against the ruble in the fall of 1997 were triggered by crisis events in Asia, particularly in Hong Kong and Korea. On the other hand, when the Russian crisis erupted, it provoked a huge contagion effect across all the countries of the former USSR. It also caused a big turmoil on all segments of the international financial market, bringing the danger of a recession in the US and other developed countries, and triggering a currency crisis in Brazil few months later. The monographs on Ukraine and Moldova present two case studies of such a contagion effect. However, one should remember that these two economies (as well as most other FSU economies) experienced the same weaknesses and vulnerabilities as in Russia. Thus Russian events could only accelerate the crisis in these countries which was, in any event, hard to avoid. Finally, we present the analysis of the recent financial market crisis in Turkey, which fortunately has been stopped by fast and substantial IMF and World Bank support and has not evolved into a full-scale currency crisis.transition economies, crisis, fiscal policy, Bulgaria, Moldova, Russia, Turkey, Ukraine