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Kady Keita, Mr. Gene L. Leon, and Frederico Lima
We examine the link between the quality of fiscal governance and access to market-based external finance. Stronger fiscal governance is associated with improvements in several indicators of market access, including a higher likelihood of issuing sovereign bonds and having a sovereign credit rating, receiving stronger ratings, and obtaining lower spreads. Using the more granular information on quality of fiscal governance from Public Expenditure and Financial Accountability (PEFA) assessments for 89 emerging and developing economies, we find that similar indicators of market access are correlated with sound public financial management practices, especially those that improve budget transparency and reporting, debt management, and fiscal strategy.
International Monetary Fund. Finance Dept.
Rules and Regulations for the Investment Account, which were adopted on January 23, 2013 and amended thereafter, were further amended on May 13, 2019 by the Executive Board of the IMF.
Metodij Hadzi-Vaskov and Mr. Luca A Ricci
This study investigates the nonlinear relationship between public debt and sovereign credit ratings, using a wide sample of over one hundred advanced, emerging, and developing economies. It finds that: i) higher public debt lowers the probability of being placed in a higher rating category; ii) the negative debt-ratings relationship is nonlinear and depends on the rating grade itself; and iii) the identified nonlinearity explains the differential impact of debt on ratings in advanced economies versus in emerging markets and developing economies. These results hold for both gross debt and net debt, and are robust to alternative dependent variable definitions, analytical techniques, and empirical specifications. These findings underscore the potential for fiscal consolidation in helping countries achieve a better credit rating.
International Monetary Fund
The objective of the Investment Account (IA) is to provide a vehicle for the investment of a part of the Fund’s assets so as to generate income that may be used to meet the expenses of conducting the business of the Fund. Achieving this objective would help diversify the sources and increase the level of the Fund’s income, thereby strengthening its finances over time.
Daniel Law and Mr. Shaun K. Roache
Assessing default risks for Chinese firms is hard. Standard measures of risk using market indicators may be unreliable because of implicit guarantees, the large role played by less-informed investors, and other market imperfections. We test this assertion by estimating stand-alone 1-year default probabilities for non-financial firms in China using an equity-based structural model and debt costs. We find evidence that the equity measure of default risk is sensitive to a firm’s balance sheet health, profitability, and ownership; specifically, default probabilities are higher for weaker, less profitable, and state-owned firms. In contrast, measures based on the cost of debt seem largely detached from fundamentals and instead determined by implicit guarantees. We conclude that for individual firms, equity-based measures, while far from perfect, provide a better measure of stand-alone default risks than borrowing costs.
Aideen Morahan and Mr. Christian B. Mulder
This paper reports in detail on a survey that was circulated to reserve managing central banks of IMF member countries in April 2012. The survey aims to gain further insight into how reserve managers have reacted to the crisis to date. The survey also aims to understand how reserve managers arrive at their strategic asset allocation and how they operate their risk management frameworks in practice. Some of the key themes that emerge from the survey include potential procyclical and counter cyclical behavior by reserve managers, increased focus placed on returns and wide variability across countries in how the currency composition of reserves is derived.
Mr. John Kiff, Michael Kisser, and Miss Liliana B Schumacher
Credit rating agencies face a difficult trade-off between delivering both accurate and stable ratings. In particular, its users have consistently expressed a preference for rating stability, driven by the transactions costs induced by trading when ratings change frequently. Rating agencies generally assign ratings on a through-the-cycle basis whereas banks' internal valuations are often based on a point-in-time performance, that is they are related to the current value of the rated entity's or instrument's underlying assets. This paper compares the two approaches and assesses their impact on rating stability and accuracy. We find that while through-the-cycle ratings are initially more stable, they are prone to rating cliff effects and also suffer from inferior performance in predicting future defaults. This is because they are typically smooth and delay rating changes. Using a through-the-crisis methodology that uses a more stringent stress test goes halfway toward mitigating cliff effects, but is still prone to discretionary rating change delays.
Mr. Amadou N Sy
In contrast to the early-warning system literature, we find that currency and debt crises are not closely linked in emerging markets. We find that after 1994, credit ratings predict debt crises but fail to anticipate currency crises. When debt crises are defined as sovereign distress-when spreads are higher than 1,000 basis points-we find that countries experience reduced capital market access and high interest rates on their external debt for typically more than two quarters. We also find that lagged ratings and ratings changes, including negative outlooks and credit watches, anticipate such debt crises.
Mr. Ashok Vir Bhatia
This paper describes and evaluates the sovereign credit ratings methodologies of Standard & Poor's, Moody's Investors Service, and Fitch Ratings. A simple definition of ratings failure-based on ratings stability-is proposed and tested, pointing to falling failure rates, consistent upside bias, and strong interagency correlation. Possible causes of ratings failure are separated into informational, analytical, revenue bias, and other incentive problems, each of which is discussed. The paper seeks to highlight methodological developments after the Asian crisis, particularly with regard to the estimation of contingent liabilities and the assessment of international reserves adequacy.
Mr. Amadou N Sy
This paper uses a panel data estimation of a simple univariate model of sovereign spreads on ratings to analyze statistically significant deviations from the estimated relationship. We find evidence of an asymmetric adjustment of spreads and ratings when such deviations are significant. In addition, the paper illustrates how significant disagreements between market and rating agencies' views can be used as a signal that further technical and sovereign analysis is warranted. For instance, we find that spreads were "excessively low" for most emerging markets before the Asian crisis. More recently, spreads were "excessively high" for a number of emerging markets.