Output costs of currency and balance of payments crises in emerging markets
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Output Costs of Currency and Balance of Payments Crises in Emerging Markets. By: Hutchison, and Noy Presented By: John N. Denker. Overview. Investigated balance of payments and currency crises in 24 emerging market economies Panel Data between 1975 – 1997

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Output Costs of Currency and Balance of Payments Crises in Emerging Markets

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Output costs of currency and balance of payments crises in emerging markets

Output Costs of Currency and Balance of Payments Crises in Emerging Markets

By: Hutchison, and Noy

Presented By: John N. Denker


Overview

Overview

  • Investigated balance of payments and currency crises in 24 emerging market economies

  • Panel Data between 1975 – 1997

  • BoP and Currency Crises are found to have dropped output by 5 – 8% over a two – three year period

  • Output recovers after three years post crisis


Introduction

Introduction

  • Frequency: 51 crisis episodes over the past 25 years, 8% of the time an emerging market was facing serious turbulence in currency markets


Opposing views on the likely output effect of a bop and currency crises

Opposing Views on the likely output effect of a BoP and Currency Crises

  • 1. Traditional

    • With wage and price rigidities, a sharp nominal devaluation would produce a real depreciation in the short run, increase exports and stimulate employment and output


Opposing views on the likely output effect of a bop and currency crises1

Opposing Views on the likely output effect of a BoP and Currency Crises

  • 2. Alternate

    • A sharp devaluation would lead to limited importing of capital goods, through such channels as a wealth effect on aggregate demand, higher production costs, disruption in credit markets,or a sudden cessation in capital inflows


Estimating the effects of currency and bop crises on real output growth

Estimating the Effects of Currency and BoP Crises on Real Output Growth

  • Equation to estimate these effects are of the evolution of output in emerging markets

  • Determinants of output in this model are a set of domestic policy and external factors as well as country-specific fixed effects and lagged output growth

  • All variables, except openness have a one year lag to capture delayed response of output Macroeconomic developments


Domestic policy

Domestic Policy

  • Factors of Domestic Policy

    • Changes in Governmental Budgets

    • Credit Growth


External factors

External Factors

  • Factors include

    • Growth in Foreign output

    • Real Exchange rate overvaluation


Data description

Data Description

  • Defining Currency and BoP Crises

    • Constructed from large values in an index of currency pressure

    • Presumes that any nominal currency changes or reserve changes associated with exchange rate pressure should affect the PPP of the Domestic Currency


Data description1

Data Description

  • Control Variables in the Output Growth Equation

    • External Exogenous Factors

      • Lagged external growth rates

      • Openness to foreign trade

      • Lagged rate of real exchange rate overvaluation


Empirical results

Empirical Results

  • Macro Developments: Before/After Statistics

    • .5% decline in GDP Growth in crisis year

    • Declines are not significant

    • Output goes back to previous level after two years

    • Inflation and Credit Growth are on a rising trend both before and after the crisis

    • Budget deficits rise modestly post crisis


Benchmark model estimates

Benchmark Model Estimates

  • Model explains 35% of the variation in output growth

  • Emerging Markets that are more open grow faster

  • Emerging Markets are more adversely effected by turbulence in currency markets


Conclusion

Conclusion

  • Research supports the view that currency crises in emerging markets are typically associated with substantial slowdown in economic growth

  • Major Crises do not appear to contract output to a larger extent than smaller crises


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