Liberia Malawi Mali 0. Mauritius Mozambique Niger 0. Nigeria 9. Rwanda Seychelles 4.
ISBN 13: 9781557757579
Tanzania Uganda Albania Barbados Belarus Bolivia Haiti Kuwait Philippines Kitts and Nevis Lucia 3. D —11 S. D t-statistic —06 S. D t-statistic Sub-Saharan Africa Loan and Deposit Dollarization by Region. Annex 2. Measures to Mitigate Dollarization Durable de-dollarization relies on a credible disinflation plan and specific microeconomic market-based measures that facilitate financial sector development, increase the attractiveness of the local currency, and internalize risks associated with the use of foreign currencies, such as: Measures aimed at facilitating the development of the local financial market Strengthening the payments system and enhancing the usability of the local currency.
Dollarization often reflects the inadequacy of the domestic payments system in local currency. Addressing these deficiencies can encourage residents to enlarge their use of the local currency, build up credibility, and enhance confidence in the local currency. Strengthening the central bank liquidity management and instruments.
The use of the local currency can be made more attractive through a set of measures involving the central bank, which include: 1 imposing higher reserve requirements for foreign currency than for local currency; 2 strengthening the monetary transmission channels by introducing longer maturities, medium-term government bonds in local currency, and developing a benchmark yield curve; and 3 developing a foreign exchange market that reduces the need to hold precautionary foreign currency balances.
Developing domestic financial market and retail banking. Dollarization sometimes stems from the lack of liquid financial instruments and markets in local currency.
In such situations, the issuance of local currency-denominated securities or assets should help develop domestic liquid monetary and capital and bond markets. Greater incentives to tap into retail banking should also enhance the potential for de-dollarization since most retail transactions are denominated in local currency.
Strengthening fiscal and public debt management. Foreign aid ought to be absorbed in local currency and taxation designed so that it does not discriminate in favor of foreign currencies. Measures aimed at increasing the attractiveness of the local currency Creating an interest rate wedge. The substitution between foreign currency and local currency can be encouraged by positive interest differentials that provide a higher remuneration to deposits in local currency; this has, however, in some cases, encouraged excessive and potentially destabilizing capital inflows.
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Measures aimed at internalizing the risks associated with the use of foreign currencies Implementing effective supervision and prudential regulations. An enhanced regulatory compact can effectively encourage de-dollarization through the internalization of the risks of doing business in foreign currency. For instance, in many countries, banks lending in foreign currency to nonexporters have to abide by stricter regulatory requirements and to set up higher provisions.
Excluding foreign currency deposits from deposit insurance schemes. Concerning direct and administrative controls, some countries have tried different measures, including forced de-dollarization, such as: Imposing higher reserve requirements on foreign currency. Mandating the use of local currency in domestic transactions. This measure has been widely adopted in many countries, and can be either limited to tax payments and transactions involving the government and other public entities or can be applied to all transactions between, or involving, residents such as, Israel, Lao P.
Introducing regulatory discrimination against the use of foreign currency. Supervisory authorities can encourage the use of the local currency by imposing limits on foreign currency borrowing and lending such as, Angola, Argentina, Israel, Turkey, and Vietnam. Forced de-dollarization Mandating the conversion of foreign currency obligations and balances into domestic currency.
Some countries such as, Bolivia, Mexico and Peru have attempted to use this measure but reversed it after it triggered capital flight and reduced financial intermediation. Liability dollarization can often lead to sudden stops, and to corporate and banking crises, as witnessed during the East Asian crisis of A narrow version looks at the ratio of foreign currency deposits to total deposits or to broad money.
A panel-data analysis of interest rates and dollarization in Brazil
Reinhart, Rogoff, and Savastano construct a broader measure of dollarization through an index of economic and financial indicators. In order to expand the coverage of countries in SSA, we used data from the African Department database. Therefore, in the broad definition of dollarization used in this document, all sectors of the economy are included except for central bank and central government. This approach can be limited as countries have adopted the SRFs over time.
To confirm this, the data is tested for stationarity, using the Levin-Lin-Chu test, which applies to balanced panels.
The results confirm that over the period tested, —11, that both deposit dollarization and credit dollarization are stationary, suggesting that we do not need to use panel-co-integration techniques see Annex 2. While the key findings remain robust throughout these regressions, significance levels vary, often due to the reduction in sample size implied by the various methods. Deposit dollarization is the most frequently used concept since it is also the most widely available statistic. The main source for this data is the International Financial Statistics database.
However, several countries do not fully report to IFS the level of dollarization. For these countries, and for countries where additional information is available, IMF country desk data is used to complement the data. The other measure we employ is the extent of loan dollarization. Again, not all countries full report the level of loan dollarization, where we again resort to IMF country desk data to complete this time series. Loan dollarization is measure as the ratio of loans in foreign currency to total loans across all sectors except for central bank and central government.
Evidence from Latin America and transition economies for example, Kokenyne and others suggests that these measures—currency blind financial safety nets, implicit debtor guarantees—are crucial to provide incentives to de-dollarize. If the real exchange rate depreciation is less volatile than inflation, then consumers would prefer to hold dollar deposit as it would be less risky.
Here we focus on the expected return difference rather than the variance. Including the MVP would be a relevant extension. Thus, the return on dollar deposits is measured by the deposit rate in the United States adjusted by the expected exchange rate change. This nevertheless also implies an expected positive sign. Excluding South Africa would strengthen the finding. Note that the base category is intermediate regimes, which are associated often with the highest degree of dollarization. In some instances, the dummy for floating regimes drop since there are no sufficient observations.
An extension could consider modeling the two variables in a system of equations. In Angola, the share of foreign currency deposits on total deposits has declined from about 75 percent in to less than 50 percent in ; in Mozambique, the same share has declined from 56 percent in to 32 percent in We define the probability of success of a country satisfying a certain condition as the share of successful countries that met that condition.
Angola and Mozambique are successful countries that significantly reduced their dollarization ratios between and Tanzania and Uganda started with lower dollarization rates about 40 percent in Tanzania and 27 percent in Uganda but failed to reduce them over time in Uganda the rate of dollarization even increased, to 33 percent, by By comparison, Mozambique had an inflation rate below albeit close to 9 percent and Angola kept an average fiscal surplus.
Panel data estimates obtained running the same model of Table 3. The dollarization rate in Cambodia and Nicaragua remained broadly constant at about 90 percent, whereas the model predicts a decline to 65—75 percent in both countries. In Vanuatu the model actually underpredicts the reduction in deposit dollarization; nevertheless, Vanuatu failed to meet our criterion for de-dollarization as its share of foreign currency loans on total bank loans increased over time.
In the other countries, the dollarization rate declined more modestly than predicted by some specifications of the model. You are not logged in and do not have access to this content. Please login or, to subscribe to IMF eLibrary, please click here. Other Resources Citing This Publication look up citations for this publication in google scholar. In addition, it examines the issues that dollarization poses for the formulation and conduct of monetary policy, as well as for IMF program design.
Philippines The paper focuses on dollarization of the monetary sector, and in particular on holdings by residents of foreign currency deposits FCD and, where data are available, of foreign currency cash.
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- Measures aimed at increasing the attractiveness of the local currency.
The paper recognizes, however, that dollarization of monetary assets often is part of a larger process of financial market integration. For example, dollarization in the loan portfolio of banks is an important phenomenon, and the paper touches on this too. Cross-border deposits bank deposits of residents in foreign countries also play an important role as close substitutes for domestic FCD. The paper explores the various monetary policy strategies that may be pursued in the presence of dollarization, considers the implications of dollarization for the practical application and instruments of monetary policy, and examines the manner in which dollarization has influenced the design of IMF programs.
The paper's conclusions are as follows. The benefits of dollarization include closer integration with international markets, exposure to competition from these markets, and the availability of a more complete range of assets for domestic investors. In countries in which inflationary experience has destroyed confidence in the local currency, dollarization can sometimes help to remonetize the economy, restore local intermediation, and reverse capital flight.
The costs of dollarization include the loss of seignorage and a potential for greater fragility of the banking system. Such fragilities can limit the policy options available to the authorities, as well as put an additional burden on the central bank as lender of last resort.
Dollarization can complicate the choice of intermediate targets of monetary policy by introducing a foreign currency component into the money supply. The suitability of a target that includes, or excludes, foreign currency depends on the target's relationship with output and prices, and this is essentially an empirical matter. It is possible, however, that no reliable aggregate can be found.
This problem, which is by no means confined to dollarized economies, brings into question the policy of monetary targeting as opposed to, for example, relying on a wider set of indicators. Although this issue is beyond the scope of this paper, there are good reasons to believe that dollar-denominated assets should play some role among the set of relevant indicators for monetary policy under any alternative approach. While the general considerations regarding the choice of exchange rate system also apply to dollarized economies, the prevalence of currency substitution the use of foreign-currency-denominated assets for transactions tends to strengthen the case for a fixed-rate system.
Such an exchange rate arrangement would protect the economy from the effects of potentially excessive exchange rate and money market volatility. When attempting stabilization from hyperinflation, in particular, a fixed exchange rate can be an effective instrument in highly dollarized economies. The same conclusion does not apply when dollarization reflects only asset substitution the holding of foreign-currency-denominated assets as stores of value.
Dollarization requires the adoption of special prudential measures. The banking system must be able to withstand significant exchange rate adjustments, as well as possibly larger-than- normal swings in capital flows. To deal with the latter, commercial banks or the central bank need to hold a larger-than-normal volume of international reserves, or to arrange external lines of credit.