Transcript Danninger Presentation - Carnegie Endowment for International

World Economic Outlook
April 2009
Chapter IV
How Linkages Fuel The Fire:
The Transmission of Financial Stress
from Advanced Economies to Emerging
Economies
Prepared by:
Ravi Balakrishnan, Stephan Danninger, Selim Elekdag, and Irina Tytell
with support from Stephanie Denis and Murad Omoev
Unprecedented financial stress in
advanced economies
(GDP weighted number of countries with stress index one Stdev above trend)
United States and Canada
United Kingdom
Western Europe
Japan and Australia
1.0
October 1987 stock
market crash
Nikkei crash, DBL
bankruptcy, and
Scandinavian
banking crisis
U.S. banking
stress
LTCM
collapse
Dot-com
crash
0.8
US
Corporate
crisis
0.6
ERM Crisis
0.4
0.2
0.0
1981
85
89
93
97
2001
05
Q1:
09
Triggering a decline in capital flows
to emerging economies
New Issuances in billions of U.S. dollar1
Emerging Asia
Asia
Middle East
200
Africa
Europe
Western Hemisphere
180
160
140
120
100
80
60
40
20
2002-Q1
1
2003-Q1
2004-Q1
2005-Q1
2006-Q1
2007-Q1
2008-Q1
Total of equity, syndicated loans, and international bond issuances
0
2009-Q1
Questions
1. How severe is financial stress in emerging
economies (EMs)?
2. How strong is the transmission of financial
stress from advanced to emerging economies?
And what is the role of banking sector stress?
3. Can policies help mitigate stress transmission?
Develop an
EMC Financial Stress Index
Financial stress index captures:





Exchange market pressure
Sovereign spreads
Banking sector β (relative performance of banking sector)
Stock market returns
Stock market volatility
Index measures markets position relative to historical average
Index robust to other weighting schemes
EMC stress above Asian crisis and highly
correlated with advanced country stress.
12
6
Emerging economies (left scale)
5
10
Advanced economies (right scale)
4
8
3
6
2
4
1
2
0
0
-1
-2
-2
-4
-3
-6
1996
97
98
99
2000
01
02
03
04
05
06
07
Q1:
09
EMC stress highly synchronized
8
Emerging Asia
Latin America
Emerging Europe
Other Emerging Economies
6
4
2
0
-2
-4
1997
99
2001
03
05
07
Q1: 09
Disentangle stress transmission:
global or country-specific effects?
Financial Stress
Emerging Economies
Common factors
Country-specific factors
Commodity prices
Global output
Global interest
rates
Vulnerabilities
Economic characteristics
Financial linkages
Trade linkages
Advanced Economies
Financial Stress
Turkey
Chile
Colombia
Korea
Philippines
Malaysia
South Africa
Mexico
Brazil
Peru
Thailand
Morocco
Poland
Argentina
Egypt
Pakistan
Hungary
China
Financial stress transmission to
emerging economies is large but varied
1.4
1.2
Mean co-movement (ßi)
1.0
0.8
0.6
0.4
0.2
0.0
Bank linkages drove transmission in 2008
(Western Europe and emerging Europe)
Bank Lending Liabilities to Advanced
Economy Banks as of 2007
(percent of emerging economies’ GDP)
Portfolio Exposure to Advanced
Economies as of 2007
(percent of emerging economies’ GDP)
60
60
50
Japan
Japan and Australia
Western Europe
Western Europe
United States and Canada
United States and Canada
50
40
40
30
30
20
20
10
10
Africa
MENA
Latin
America
CIS and
Russia
Emerging
Europe
Emerging
Asia
Africa
MENA
Latin
America
CIS and
Russia
Emerging
Europe
Emerging
Asia
0
0
During global stress good domestic
policies offer little insulation
Change in Emerging Economies’ Financial Stress,
1997–2008
Emerging economies’ FSI
Contributions from:
Advanced economies’ FSI
Global Factors
Openness
Current account balance
Fiscal balance
Stress
Calm
Foreign reserves
Residual
-0.6
-0.4
-0.2
0.0
0.2
0.4
0.6
0.8
21.0
Case study: after banking crises
capital flows recover only slowly
U.S. banking sector stress of the 1980s
 Capital flows to Latin America
Japanese Banking crisis of the 1990s
 Capital flows to Emerging Asia
Both cases illustrate a long and protracted
withdrawal from EMs by the advanced economy
banks concerned
U.S. banks pulled out relatively more
from all EMs after the 80s debt crisis
Consolidated Bank Claims on Latin America
(percent of destination region’s GDP)
16
Consolidated Bank Claims on Emerging
and Other Developing Economies
(percent of destination region’s GDP)
Japan
United States
Japan
Western Europe
United Kingdom
Western Europe
United Kingdom
United States
14
16
14
12
12
10
10
8
8
6
6
4
4
2
2
0
0
1983
84
85
86
87
88
89
90
1983
84
85
86
87
88
89
90
Japanese banks massively withdrew
from East Asia in the late 1990s
Japanese Bank Claims on East
and Offshore Asia
(percent of destination region’s GDP)
Offshore Asia (left scale)
200
East Asia (right scale)
175
Advanced Economy Bank Claims
on East Asia
(percent of destination region’s GDP)
9
United States
United Kingdom
20
8
European Banks
Japan
18
16
7
150
14
6
125
12
5
100
10
4
8
75
3
50
6
2
4
25
1
2
0
0
0
1983
86
89
92
95
98
2001
04
07
1993
95
97
99
2001
03
05
07
Key Findings


Financial stress in EMs surpassed peaks of Asian crises.
Financial stress transmits strongly and rapidly to EMs

About one-for-one response within 1-2 months.

Transmission higher with financial (and trade) links.

Bank lending linkages main channel in current crisis.

Recovery of capital flows likely slow. Past banking sector
stress led to protracted decline in capital flows to EMs.

During a global crisis, higher fiscal and current account
balances offer little insulation.
Policy Message

Strong and rapid stress transmission and little protection
through strong domestic policies argue for coordinated
policy action against global crisis.

Avoid second round of deleveraging: official support for
EMs, clean-up of bank balance sheets in advanced
economies, enhanced coordination between home and
host supervisors.

Beyond near-term: improve multilateral financial support
systems to reduce risks for EMs from global financial
integration.