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Mr. Ramana Ramaswamy
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Mr. Jorge Roldos
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Mr. Donald J Mathieson
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Ms. Anna Ilyina
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Abstract

In response to the volatility of capital flows since the mid-1990s, many emerging market economies have taken a variety of steps designed to “selfinsure” against volatile capital flows. One such measure has been the development of local securities and derivatives markets as an alternative source of funding the public and corporate sectors. This paper examines this self-insurance policy, focusing on the extent to which emerging markets have developed local securities and derivatives, and what key policy issues have arisen as a result.

© 2004 International Monetary Fund

Production: IMF Multimedia Services Division

Cover: Phil Torsani

Photo: Padraic Hughes

Figures: Theodore F. Peters, Jr.

ISBN 9781589062917

ISSN 0258-7440

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Contents

  • Preface

  • Chapter I. Local Securities and Derivatives Markets in Emerging Markets: Selected Policy Issues

  • Donald J. Mathieson and Jorge E. Roldos

    • Local Markets as Self-Insurance Against Volatile Capital Flows

    • Extent of Securities Market Development as an Alternative Source of Funding

    • Common Practices in Emerging Local Securities Markets

    • Selected Policy Issues

    • Conclusion

  • Chapter II. Emerging Local Bond Markets

  • Jorge E. Roldos

    • Size and Structure of Global Bond Markets

    • Local Bond Markets as an Alternative Source of Funding

    • Secondary Markets and the Role of Foreign Investors

    • Conclusion

  • Chapter III. Emerging Equity Markets

  • Ramana Ramaswamy

    • Emerging Market Equities as an Asset Class for Foreign Investors

    • Domestic Equity as an Alternative Source of Funding

    • Conclusions

  • Chapter IV. The Role of Financial Derivatives in Emerging Markets

  • Anna Ilyina

    • Overview of Derivatives Markets in Emerging Economies

    • Local Derivatives Markets and Capital Flows to Emerging Economies

    • The Role of Derivatives in Emerging Market Crises

    • Concluding Remarks

  • Bibliography

  • Boxes

    • 1. An International Solution for the Original Sin

    • 2. Indexed Bonds

    • 3. External Refinancing Risk in Latin America

    • 4. Local Corporate Bond Market in Russia

    • 5. The Equity Market in Russia

    • 6. The Equity Market in China

    • 7. The Bolsa de Mercadorias & Futuros of Sao Paulo

    • 8. Credit Default Swap Spreads in Emerging Markets

  • Tables

    • 1. Reserves: Level and Ratio to GDP

    • 2. Private Sector

    • 3. Public Sector

    • 4. Total of All Sectors

    • 5. Size and Structure of the Global bond Market in 2002

    • 6. Selected Emerging Local Bond Markets: Amounts Outstanding

    • 7. Emerging Market Debt Trading Volume Survey

    • 8. Equity and Bond Returns

    • 9. Notional Amounts Outstanding of the Over-The-Counter and Exchange-Traded Derivatives

    • 10. Average Daily Turnover in the Over-The-Counter Derivatives Markets

    • 11. Exchange-Traded Options and Futures Contract Trading Volume, 2002

  • Figures

    • 1. Chile: Amount Outstanding of Private Nonfinancial Sector Bonds

    • 2. Corporate bond Issuance in Selected Emerging Markets

    • 3. Selected Countries Domestic Yield Curves

    • 4. Equity and Bond Performances

    • 5. Risk-Return Trade-Off for Combinations of Emerging Market Stocks and U.S. Stocks

    • 6. Valuation Indicators in Emerging Equity Markets

    • 7. Correlations Between Returns in Emerging and U.S. Equity Markets

    • 8. Stock Market Capitalization and Bank Credit

    • 9. Domestic and International Equity Issuance

    • 10. International Equity Issuance by IPO and Privatization: Numbers

    • 11. International Equity Issuance by IPO and Privatization: Billions of Dollars

    • 12. Monthly Dollar Trading Volume for Selected Asian Countries

    • 13. Monthly Dollar Trading Volume for Selected Latin American Countries

    • 14. Monthly Dollar Trading Volume for Selected European Countries

    • 15. Average Daily Turnover in the South African Foreign-Exchange Market by Type of Transaction

    • 16. Average Daily Turnover in the South African Foreign-Exchange Swap Market

    • 17. Mexican Bond Issuance and Interest Rate futures

    • 18. Korean Government Bond Futures

    • 19. Average Daily Trading Volumes in Equity Index Derivatives in Asia

    • 20. KOSPI 200 Index Futures: Cumulative Net Purchases

    • 21. International Bond and Loan Issuance and Derivatives Trading Volume in Brazil

PREFACE

Much of the recent interest in developing local securities and derivatives markets stems from the experience of many emerging markets with volatile international capital flows and financial crises during the 1990s. Indeed, “sudden stops” (or even reversals) of capital flows were often key features of many of the most severe balance of payments and systemic banking crises of the period (particularly in the Mexican crisis of 1995 and the Asian crisis of 1997), The banking system problems in turn reflected the debt-servicing difficulties of the domestic corporates, especially those with large foreign currency debts. More generally, the volatility of capital flows since the mid-1990s has raised two issues: how emerging markets can achieve more stable access to international capital markets and bow these economies can cope with whatever volatility does occur. While establishing sound and sustainable macroeconomic policies has been one obvious element in strengthening domestic economic fundamentals and perceived creditworthiness, many emerging markets have taken additional measures designed to “self-insure” against volatile capital flows. These measures have included:

  • changes in external asset and liability management practices;

  • adapting exchange rate arrangements to the degree of capital account openness;

  • strengthening domestic financial institutions and enhancing prudential supervision and regulation to increase resilience to volatility; and

  • developing local securities and derivatives markets to provide an alternative source of funding for the public and corporate sectors and to facilitate the management of the financial risks associated with periods of high asset price volatility.

This report examines two key aspects of this self-insurance policy, namely the extent to which emerging markets have developed local securities and derivatives and what key policy issues have arisen as a result. The information used in this report was gathered through a series of missions to international financial centers and to selected emerging markets between February and May 2002. The discussions took place in Brazil, Chile, China, Hong Kong SAR, Hungary, Poland, Russia, Singapore, Thailand, the United Kingdom, and the United Slates. The report was directed by Donald J. Mathieson, Chief of the IMF’s Emerging Markets Surveillance Division, and Jorge Roldos, Deputy Chief of the same division. Contributors to the study from the IMF’s International Capital Markets Department included Torbjorn Becker, Jorge Chan-Lau, Anna llyina, Ramana Ramaswamy, Manmohan Singh, R. Todd Smith, and Amadou Sy. In addition, Ivan Guerra, Silvia lorgova, Anne Jansen, and Peter Tran provided research assistance. Elsa Portaro, Ramanjeet Singh, and Joan Wise provided expert word processing assistance. Jeff Hayden of the External Relations Department edited the manuscript and coordinated production of the report.

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