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SUDDEN STOP AND RECOVERYLessons and Policies
SUDDEN STOP AND RECOVERYSUDDEN STOP AND RECOVERYLessons and PoliciesLessons and Policies
Guillermo CalvoGuillermo Calvo
Brunnen, Switzerland, June 19, 2006Brunnen, Switzerland, June 19, 2006
OulineOuline of Presentationof PresentationBackgroundBackground
Accidents on the HighwayAccidents on the HighwaySudden StopsSudden Stops
Phoenix Miracles (Rising from the Phoenix Miracles (Rising from the Ashes)Ashes)
Implications and Policy IssuesImplications and Policy Issues
BackgroundBackground
Accidents on the HighwayAccidents on the Highway
-150000
-100000
-50000
0
50000
100000
150000
Jan-
91Ju
l-91
Jan-
92Ju
l-92
Jan-
93Ju
l-93
Jan-
94Ju
l-94
Jan-
95Ju
l-95
Jan-
96Ju
l-96
Jan-
97Ju
l-97
Jan-
98Ju
l-98
Jan-
99Ju
l-99
Jan-
00Ju
l-00
Jan-
01Ju
l-01
Jan-
02Ju
l-02
Jan-
03Ju
l-03
Jan-
04
0
500
1000
1500
2000
2500
(EMBI sovereign spread & Current Account Balance in EMs, millions ofUSD, last four quarters)
External Financial Conditions for EMs
Note: Includes Argentina, Brazil, Chile, China, Colombia, Czech Republic, Egypt, Hungary, India, Indonesia, Israel, Korea, Malaysia, Mexico, Morocco, Pakistan, Peru, Philippines, Poland, Slovak Republic, South Africa, Thailand, Turkey andVenezuela.
Cur
rent
Acc
ount
(mill
ions
of U
SD)
EMB
I spr
ead
(bas
is p
oint
s)
Tequila Crisis
Russian Crisis
Asian Crisis
LAC 7: INVESTMENTLAC 7: INVESTMENT(LAC-7, s.a. Investment, 1998.II=100)
Annualized growth: 10.6%2002.IV-2004.III
50
60
70
80
90
100
11019
90.I
1991
.I
1992
.I
1993
.I
1994
.I
1995
.I
1996
.I
1997
.I
1998
.I
1999
.I
2000
.I
2001
.I
2002
.I
2003
.I
2004
.I
Russian Crisis
Annualized growth: 7.4%1990.I-1998-II
Annualized growth: - 4.1%1998.II-2002-IV
Annualized growth: 5.5%2002.IV-2004.III
LAC 7: GROWTH (LAC-7, s.a. GDP, 1998.II=100)
65
70
75
80
85
90
95
100
105
110
115
1990
.I
1991
.I
1992
.I
1993
.I
1994
.I
1995
.I
1996
.I
1997
.I
1998
.I
1999
.I
2000
.I
2001
.I
2002
.I
2003
.I
2004
.I
Russian Crisis
Annualized growth: 4.4%1990.I-1998.II Annualized growth: 0.2%
1998.II-2002.IV
Emerging Asia: Investment and Economic Growth (s.a. Investment and GDP, 1997.II=100)
Economic GrowthInvestment
70
80
90
100
110
120
130
1993
.I
1993
.IV19
94.II
I
1995
.II19
96.I
1996
.IV19
97.II
I
1998
.II19
99.I
1999
.IV20
00.II
I
2001
.II20
02.I
2002
.IV20
03.II
I
2004
.II
Russian Crisis
Annualized growth: 7.25%1993.I-1997.II
Annualized growth: -10.6%1997.II-1998.III:
Annualized growth: 5.4%
1998.III-2004.III
Asian Crisis
50
60
70
80
90
100
110
120
1993
.I
1993
.IV19
94.II
I19
95.II
1996
.I19
96.IV
1997
.III
1998
.II
1999
.I19
99.IV
2000
.III
2001
.II20
02.I
2002
.IV
2003
.III
2004
.II
Annualized growth : 6.06%1993.I-1997.II
Russian Crisis
Asian Crisis
Annualized growth: 5.9%
1998.III-2004.IIIAnnualized
growth: - 37%1997.II-1998.III
Includes Indonesia, Korea, Malaysia, Philippines and Thailand.
SUDDEN STOPSUDDEN STOP(of International Capital Inflows)
Number of Sudden Stops: The Bunching EffectNumber of Sudden Stops: The Bunching Effect
0
1
2
3
4
5
6
7
1992 1993 1994 1995 1996 1997 1998 1999 2000 2001
Emerging MarketsDeveloped Economies
Sudden Stops and Large DepreciationSudden Stops and Large Depreciation
In % of total
EmergingMarkets
Developed Economies
Depreciations associated with Sudden Stop 63 17Of which: First Sudden Stop, then depreciation 42 9
First depreciation, then Sudden Stop 21 9
Note: The total number of large devaluations is 19 in emerging markets and 23 in developed economies.
SS: Results of Earlier Empirical TestsSS: Results of Earlier Empirical TestsThe probability of a SS increases withThe probability of a SS increases with
Current Account Deficit (as a share of Absorption of Current Account Deficit (as a share of Absorption of Tradables), CAD.Tradables), CAD.Domestic Liability Dollarization (as a share of GDP), Domestic Liability Dollarization (as a share of GDP), DLD.DLD.Interaction of CAD and DLD.Interaction of CAD and DLD.Inverse of TOTInverse of TOT
On the other hand, given the above, the probability of SS is On the other hand, given the above, the probability of SS is not a function ofnot a function of
The foreign exchange systemThe foreign exchange systemTotal debtTotal debtFiscal deficit and other standard macro control variables.Fiscal deficit and other standard macro control variables.
Bottom LineBottom Line
External factors play a key role in triggering External factors play a key role in triggering financial crises in EMs.financial crises in EMs.
However, domestic vulnerabilities (e.g., DLD However, domestic vulnerabilities (e.g., DLD and small tradables sector) are also important and small tradables sector) are also important in generating a fullin generating a full--fledged SS, and the depth fledged SS, and the depth of the resulting crisis.of the resulting crisis.
Phoenix MiraclesPhoenix Miracles
Miracle in Argentina (?)(s.a. GDP, II. 1998=100)
78
81
84
87
90
93
96
99
102II.
1998
IV.1
998
II.19
99
IV.1
999
II.20
00
IV.2
000
II.20
01
IV.2
001
II.20
02
IV.2
002
II.20
03
IV.2
003
II.20
04
IV.2
004
Collapse Recovery
Anatomy of PostAnatomy of Post--Collapse RecoveriesCollapse Recoveries
Post-collapse recoveries are steep (V-shaped)
100
102
104
106
108
110
t-2 t-1 Trough (t=0) t+1 t+2
Average
Collapse Recovery
Ave
rage
100
105
110
115
120
Argentina
Arge
ntin
a
The Behavior of Output (Average 3S Episode, annual GDP)
Anatomy of PostAnatomy of Post--Collapse RecoveriesCollapse Recoveries
Post-collapse recoveries are steep (V-shaped)
Post-collapse recoveries in EMs display striking parallels with the US Great Depression…
Total Factor Productivity
- Total Factor Productivity -
EM Collapses & the US Great Depression: Similarities
Collapses in EM Economies
Collapse Recovery
100
102
104
106
108
110
t-2 t-1 t t+1 t+2
GD
P
100
102
104
106
108
110
TFP
TFP
GDP
US Great Depression
Collapse Recovery
95
100
105
110
115
120
125
130
135
140
1929
1930
1931
1932
1933
1934
1935
1936
GD
P
95
100
105
110
115
120
125
TFP
TFP
GDP
Anatomy of PostAnatomy of Post--Collapse RecoveriesCollapse Recoveries
Post-collapse recoveries are steep (V-shaped)
Post-collapse recoveries in EMs display striking parallels withthe US Great Depression…
Domestic CreditTotal Factor Productivity
- Domestic Credit -
GD
P
Bank
Cre
dit
Credit
GDP
100
102
104
106
108
110
t-2 t-1 t t+1 t+2
96
101
106
111
116
121
Collapses in EM Economies
Collapse Recovery
GD
P
Bank
Cre
dit
Credit
GDP
95
100
105
110
115
120
125
130
135
140
1929
1930
1931
1932
1933
1934
1935
1936
85
95
105
115
125
135
145
155
165
US Great Depression
Collapse Recovery
EM Collapses & the US Great Depression: Similarities
Anatomy of PostAnatomy of Post--Collapse RecoveriesCollapse Recoveries
Post-collapse recoveries are steep (V-shaped)
Post-collapse recoveries in EMs display striking parallels withthe US Great Depression…
Capital StockDomestic CreditTotal Factor Productivity
- Capital Stock -
Collapses in EM Economies
Collapse Recovery
EM Collapses & the US Great Depression: Similarities
100
102
104
106
108
110
t-2 t-1 t t+1 t+2
GD
P
90
92
94
96
98
100
Cap
ital S
tock
Capital Stock
GDP
US Great Depression
Collapse Recovery
95
100
105
110
115
120
125
130
135
140
1929
1930
1931
1932
1933
1934
1935
1936
GD
P
90
92
94
96
98
100
102
104
Cap
ital S
tock
Capital Stock GDP
Anatomy of PostAnatomy of Post--Collapse RecoveriesCollapse Recoveries
Post-collapse recoveries are steep (V-shaped)
Post-collapse recoveries in EMs display striking parallels withthe US Great Depression…
Domestic creditTotal Factor Productivity
InvestmentCapital stock
- Investment -
GD
P
Inve
stm
ent
Collapses in EM Economies
100
102
104
106
108
110
t-2 t-1 t t+1 t+2
95
105
115
125
135
145
155
165
175
185
Investment
GDP
Collapse Recovery
95
100
105
110
115
120
125
130
135
140
1929
1930
1931
1932
1933
1934
1935
1936
95
145
195
245
295
345
395
Investment
GDP
GD
P
Inve
stm
ent
US Great Depression
Collapse Recovery
EM Collapses & the US Great Depression: Similarities
Anatomy of PostAnatomy of Post--Collapse RecoveriesCollapse Recoveries
Post-collapse recoveries are steep (V-shaped)
Post-collapse recoveries in EMs display striking parallels withthe US Great Depression…
Domestic CreditTotal Factor Productivity
Capital Stock
…However, the US Great Depression differs substantially from output collapses in EMs in many other aspects
Investment
- Current Account % GDP -
EM Collapses & the US Great Depression: Differences
Collapses in EM Economies
Collapse Recovery
100
102
104
106
108
110
t-2 t-1 t t+1 t+2
GD
P
-6
-5
-4
-3
-2
-1
0
1
2
3
Cur
rent
Acc
ount
Current Account
GDP
US Great Depression
Collapse Recovery
95
100
105
110
115
120
125
130
135
140
1929
1930
1931
1932
1933
1934
1935
1936
GD
P
-0.2
0.0
0.2
0.4
0.6
0.8
1.0
Cur
rent
Acc
ount
Current Account
GDP
US Great Depression
GD
P
CPI
Infla
tion
-10%
CPI InflationGDP
95
100
105
110
115
120
125
130
135
140
1929
1930
1931
1932
1933
1934
1935
1936
-8%
-6%
-4%
-2%
0%
2%
4%Collapse Recovery
- CPI Inflation -EM Collapses & the US Great Depression: Differences
Collapses in EM Economies
Collapse Recovery
100
102
104
106
108
110
t-2 t-1 t t+1 t+2
GD
P
25%
30%
35%
40%
45%
50%
55%
60%
65%
70%
CPI
Infla
tion
CPI Inflation
GDP
EM Collapses & the US Great Depression: Differences
GD
P
Nom
inal
Exc
hang
e R
ate
(USD
/Gol
dO
unce
)
GDP
95
100
105
110
115
120
125
130
135
140
1929
1930
1931
1932
1933
1934
1935
1936
60
65
70
75
80
85
90
95
100
105
110
US Great Depression(Gold, USD/Ounce)
Collapse Recovery
XR(USD/ Gold Ounce)
- Nominal Exchange Rate -Collapses in EM Economies
Collapse Recovery
100
102
104
106
108
110
t-2 t-1 t t+1 t+2
GD
P
50
100
150
200
250
300
350
Nom
inal
Exc
hang
e R
ateGDP
XR
- Real Exchange Rate -
GD
P
RE
R (v
isa
vis
UK
)
RER(vis à vis British Pound)
GDP
95
100
105
110
115
120
125
130
135
140
1929
1930
1931
1932
1933
1934
1935
1936
55
60
65
70
75
80
85
90
95
100
105Collapse Recovery
US Great Depression
EM Collapses & the US Great Depression: Differences
Collapses in EM Economies
Collapse Recovery
100
102
104
106
108
110
GD
P
75
80
85
90
95
100
105
110
t-2 t-1 t t+1 t+2
RE
R
RER
GDP
- Real Wages -(deflated by WPI)
GD
P
Rea
l Wag
es
Real WagesGDP
95
100
105
110
115
120
125
130
135
140
1929
1930
1931
1932
1933
1934
1935
1936
90
95
100
105
110
115
120
US Great Depression
Collapse Recovery
EM Collapses & the US Great Depression: Differences G
DP
Rea
l Wag
es
Real Wages
GDP
100
102
104
106
108
110
t-2 t-1 t t+1 t+2
95
100
105
110
115
120
125
Collapses in EM Economies
Collapse Recovery
99
100
101
102
103
104
105
106
t-1 t t+1
GD
P
99
101
103
105
107
109
111
Inve
stm
ent
GDP Investment
99
100
101
102
103
104
105
106
t-1 t t+1
GD
P
100100101101102102
103103104104
105
Cre
dit
GDP Real Credit
99
100
101
102
103
104
105
106
t-1 t t+1
GD
P
-0.3
-0.2
-0.1
0.0
0.1
0.2
0.3
0.4
Cur
rent
Acc
ount
GDP Current Account % GDP
Mild Recessions in the US
Implications andImplications and
Policy IssuesPolicy Issues
ImplicationsImplicationsPrice deflationPrice deflation and wage rigidity play a central role in the and wage rigidity play a central role in the discussion of the US Great Depressiondiscussion of the US Great DepressionHowever, these factors are nonHowever, these factors are non--existent for EMs crises.existent for EMs crises.Financial factorsFinancial factors, especially contraction and non, especially contraction and non--recovery of recovery of bank credit are relevant for both.bank credit are relevant for both.
Moreover, output collapses in EMs are typically accompanied Moreover, output collapses in EMs are typically accompanied by banking crises, as in the Great Depression.by banking crises, as in the Great Depression.
Moreover, Irving Fisher’s Debt Deflation (Econometrica 1933) is Moreover, Irving Fisher’s Debt Deflation (Econometrica 1933) is a close relative of Liability Dollarization in EMs.a close relative of Liability Dollarization in EMs.This suggests that This suggests that financial factorsfinancial factors could be key to could be key to explaining the viciousness of the worst EM crises and the explaining the viciousness of the worst EM crises and the US Great Depression. US Great Depression. Moreover, price/wage flexibility may not be effective for Moreover, price/wage flexibility may not be effective for preventing crises, preventing crises, unless they help to deactivate the unless they help to deactivate the financial bomb.financial bomb.
Crisis Prevention
Global policies aimed at reducing the likelihood of 3SGlobal policies aimed at reducing the likelihood of 3S
Domestic policies aimed at reducing financial vulnerabilities Domestic policies aimed at reducing financial vulnerabilities
•• Trade Integration agreements with the Trade Integration agreements with the NorthNorth•• Code of Conduct for debt restructuringCode of Conduct for debt restructuring•• Global Lender of Last ResortGlobal Lender of Last Resort
•• SelfSelf--InsuranceInsurance•• Mitigation of excessive short term lendingMitigation of excessive short term lending•• DeDe--dollarizationdollarization
Dubious PoliciesDubious Policies
Controls on Capital InflowsControls on Capital InflowsCapital outflows may occur even if there were no capital inflowsCapital outflows may occur even if there were no capital inflows, e.g., as a result of a , e.g., as a result of a bank runbank runLarge current account adjustment may take place even if there isLarge current account adjustment may take place even if there is no capital outflowno capital outflowEmpirical evidence casts serious doubts about the effectiveness Empirical evidence casts serious doubts about the effectiveness of capital controls, of capital controls, e.g., Chilee.g., Chile
Floating Exchange RatesFloating Exchange RatesDangerousDangerous under Domestic Liability Dollarizationunder Domestic Liability Dollarization
(after crisis) Expansionary Fiscal(after crisis) Expansionary Fiscal--Monetary PoliciesMonetary PoliciesFiscal expansion Fiscal expansion unfeasibleunfeasible if government is part of the problemif government is part of the problemMonetary expansion:Monetary expansion:
requires requires control on K outflowscontrol on K outflows under fixed exchange ratesunder fixed exchange ratesmay trigger may trigger inflationary expectationsinflationary expectations under floating exchange ratesunder floating exchange ratesHoweverHowever, tight fiscal and monetary policy may be counter productive, tight fiscal and monetary policy may be counter productive
SUDDEN STOP AND RECOVERYLessons and Policies
SUDDEN STOP AND RECOVERYSUDDEN STOP AND RECOVERYLessons and PoliciesLessons and Policies
Guillermo CalvoGuillermo Calvo
Brunnen, Switzerland, June 19, 2006Brunnen, Switzerland, June 19, 2006
