After the emerging market crises of the 1990s, the IMF introduced a number of reforms to help promote greater transparency. How have capital markets reacted to this increase in the flow of information? In a recent IMF Working Paper, “Is Transparency Good for You, and Can the IMF Help?” Rachel Glennerster (Senior Economist, Policy Development and Review Department) and Yongseok Shin (Ph.D. candidate, Stanford University) look at the effect of increased transparency on capital markets. Glennerster spoke with Natalie Hairfield of the IMF Survey about their study.
IMF Survey: A number of studies show that greater transparency is good for countries. What sets your study apart?
Glennerster: Previous studies have shown that countries that are more transparent perform better in a number of ways. They have narrower bond spreads, smaller fiscal deficits, and other good outcomes. The problem with these studies is that it is difficult to disentangle what is driving what. For example, it is not clear whether countries become more transparent when they become rich, or whether being more transparent helps them become rich. Also, because many countries that are transparent have usually implemented other good policies, it is difficult to separate the effect of transparency from the effect of these policies. We use a number of techniques to separate out the effect of transparency from these other factors.
First, we examine the effect of a change in transparency on spreads (a good indicator of how the market evaluates a country—s prospects). This solves a lot of the problems associated with simple cross-country comparisons. However, even comparing countries across time you have to worry that often reforms are undertaken in a number of areas at the same time—again making it hard to disentangle the effect of transparency. What is unique about the transparency reforms we studied is that nobody could undertake them before 1999 (the year the IMF introduced voluntary—that is, with the agreement of the country concerned—publication of staff country reports) and that the timing of the release of certain IMF documents is determined by internal IMF procedures and is unrelated to events in the country. As a result, we can be quite confident that the changes we see at the time of the publication of these documents are really due to a change in transparency and not the result of some other change.
All of the transparency measures used in this paper have been promoted by the IMF. A major advantage of these reforms is that they allow countries to sign up to publish the report of external objective monitoring by the IMF. This provides a credible assessment to the markets. The Article IV report is an independent assessment by the IMF of individual countries’ policies and prospects, while Reports on the Observance of Standards and Codes (ROSCs) assess countries’ institutions, and the Special Data Dissemination Standard (SDDS) allows countries to commit themselves to a common definition of macroeconomic statistics, which the markets trust. Providing this external credibility is especially important for small countries where the markets have less of an incentive to dig beneath the numbers.
IMF Survey: What did your study find?
Glennerster: We found that countries that adopted transparency reforms, introduced and encouraged by the IMF after the 1997-98 Asian crisis, saw substantial reductions in their spreads relative to those that did not adopt the reforms. For example, those countries that decided to publish their Article IV report experienced a 7-17 percent reduction in spreads, depending on what else we controlled for. Those that signed up for the IMF’s SDDS experienced a 4-12 percent reduction in their spreads. The size of the effect for publishing a ROSC was similar to that for the SDDS but was not always statistically significant. These are important declines in spreads, which would save these countries a lot of money on their borrowing costs.
IMF Survey: Do all countries benefit equally from greater transparency?
Photo credits: Denio Zara, Michael Spilotro, and Eugene Salazar for the IMF, pages 1–4, 6, 8, 9,12, and 13; and Alexander Natruskin for Reuters, pages 15 and 16.
Glennerster: As we expected, not all countries did benefit equally. In particular, countries with large debt markets saw less of a benefit. These were countries where the private sector already puts a lot of resources into finding out exactly what is going on there. In other words, the IMF had less new information to give the markets in these cases. Also, countries that are already fairly transparent saw less of a decline in spreads from publishing IMF reports or signing up for the SDDS. Again, there was less of an impact because the markets already knew pretty well what was going on in those countries.
IMF Survey: Which IMF-related document elicits the greatest response from markets? What sort of information are markets most interested in?
Glennerster: In addition to looking at the long-run effect of becoming more transparent, we looked at the short-run impact of publication to determine whether IMF reports contained new information that markets were not aware of. We used a classic “news effect” methodology that assesses whether spreads move more than usual on the days immediately following publication. If they do, this suggests the publication contains new information. We were surprised to find that markets responded to short summaries produced by the IMF as well as to longer documents with lots of tables and detailed information.
We also found no significant difference in the magnitude of the news effect for program and non-program countries. You might expect markets to respond more to documents about program countries because these contain information on how much the IMF is going to lend. On the other hand, documents for these countries are produced much more frequently so there tends to be less news in each one. What is interesting here is that markets are responding to IMF reports for countries that are not borrowing from the IMF, which suggests they are interested in the institution’s general evaluation of economic prospects and policies in these countries and that publishing these reports leads to better-informed markets.
IMF Survey: Why do you think that markets are reducing spreads for countries that are more transparent?
Glennerster: Although our results are somewhat tentative, we found some evidence that greater transparency encourages countries to follow better policies, and spreads narrow as a result. Transparency may encourage countries to follow better policies (for example, publishing accurate reserves figures is likely to encourage countries to hold higher levels of reserves). An alternative theory is that countries are transparent when they have good news to share and that the decline in spreads reflects the good news rather than the transparency itself.
In fact, we rule out the possibility that countries publish only when they receive good news and that this is driving our results. We do this by predicting who will publish and when they will publish. We were able to predict this quite accurately using the initial level of transparency and the timing of the last Article IV as predictors and found that spreads declined with predicted publication, not just actual publication. Obviously, we could not predict whether countries were going to receive good news, so this was not what drove our results.
IMF Survey: Do markets also react when a country decides not to publish an IMF report?
Glennerster: Over the period that we looked at, the markets knew which countries had decided not to publish an Article IV report because in nearly all cases a Public Information Notice (PIN)—a summary of the Executive Board’s discussion of Article IV reports—was published. When the markets observed that a country had released a PIN but decided not to publish its Article IV report, we saw an increase in spreads. In other words, the markets, to some extent, punished the country for deciding not to become transparent.
IMF Survey: Are there any lessons for countries that fear being open?
Glennerster: I can understand some of the concerns that countries have about transparency, but our study indicates that they would be better off sharing more information. Our results suggest that markets tend to fear the worst when they see that a country is not transparent. They are prepared to reward countries for revealing the details of their policies and prospects, warts and all—partly because they think that countries that are honest about any failings are more likely to fix them. The news may not always be good, but, on average, countries that are more open will have significantly lower borrowing costs.
Copies of IMF Working Paper No. 03/132, “Is Transparency Good for You, and Can the IMF Help?” by Rachel Glennerster and Yongseok Shin, are available for $15.00 each from IMF Publication Services. For ordering details, see page 9. The full text of the paper is also available online at http://www.imf.org.