Chapter

VII Program Design in the Presence of Dollarization

Author(s):
Adam Bennett, Eduardo Borensztein, and Tomás Baliño
Published Date:
March 1999
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In light of the principal recommendations from the preceding analysis (Table 5), this section briefly reviews the design of recent IMF-supported programs in countries with dollarized economies. The main findings from an analysis of a sample of IMF programs are that dollarization has had little impact on program design, and that programs have generally not included explicit measures to try to reduce dollarization—on the grounds that it is an inconvenience that will go away once its underlying causes have been corrected. Perhaps because of this, IMF programs have had little impact on the level of dollarization. At the same time, however, the performance of dollarized countries under IMF programs has not been noticeably worse than that of other countries.

Table 5.Recommendations for the Design of IMF Programs in the Presence of Dollarization
ItemPolicy Recommendation
I. General Program Design
Choice of nominal anchor or exchange rate regimeCurrency substitution provides an additional argument in favor of a fixed exchange rate. However, the general considerations that guide the choice of an exchange rate system, such as the relative incidence of real versus monetary shocks, are still relevant. Asset substitution tends to increase capital mobility and thereby reduces the scope for independent monetary policy in a fixed exchange rate regime.
Level of official foreign exchange reservesA higher level should be targeted on account of the greater exposure of dollarized economies to capital flows.
Banking system supervision/regulationClose attention needs to be paid because of the heightened exposure of banking and financial systems to capital outflows or exchange rate depreciations.
Measures to encourage or discourage dollarizationIMF programs should avoid endorsing measures that discriminate against the use of local currencies. The introduction of institutional constraints on existing dollarization is generally inadvisable.
II. Specification of Performance Criteria
Intermediate monetary targetIf dollarization largely reflects currency substitution, include FCD. If dollarization largely reflects asset substitution, exclude FCD. However, in each case an assessment should be made of the relative stability of different measures of broad money.
Operational target at the level of the central bank or the banking systemAs in nondollarized economies, this should depend on the stage of development of the financial system and the availability of indirect monetary instruments to permit the effective control of the chosen aggregate.
Reserve money targetWhere intermediate monetary target includes FCDs, include required foreign currency reserves (FCR) in reserve money target. Where intermediate monetary target excludes FCD, exclude FCR.
Treatment of FCR in net foreign assets (NFA)FCR should be treated as a foreign liability in the definition of NFA to reflect the potentially volatile nature of foreign reserves acquired in this fashion.
Valuation of foreign exchange component of money and credit aggregatesThe foreign exchange component of central bank balance sheets should be valued at predetermined (accounting) exchange rates to avoid mechanical and uncalibrated tightening or loosening of monetary policy owing to unanticipated movements in the exchange rate.

The review of past IMF programs in this section focuses on a sample of 12 countries (highlighted in Table 1) selected to provide diversity in regional distribution, stage of development, and initial economic problems. The sample includes (listed starting with the lowest level of FCD to broad money at end-1995, and ending with the highest) Estonia, Pakistan, Jordan, Poland, Hungary, Lao P.D.R., Argentina, Turkey, Cambodia, Peru, Uruguay, and Bolivia. The first five of these countries (where the ratio of FCD to broad money is below 30 percent) comprise moderately dollarized economies. The other seven countries are more highly dollarized economies.

Inconsistencies in programs with regard to the emphasis given to dollarization may, of course, arise for a variety of reasons. Every IMF-supported program is drawn up in the face of a large number of macroeconomic and structural problems, each of which may influence the design of the program, so that in any particular case other factors may have overridden considerations related to dollarization. Because there is no control for these other factors, the comparisons should be viewed as only descriptive.

General Program Design

There is—with the possible exception of Argentina—no evidence that dollarization has influenced the choice of a nominal exchange rate anchor in IMF-supported programs; other considerations (source of exogenous shocks, level of foreign exchange reserves, scope for fiscal adjustment) have instead been given more weight. In Argentina, there is some evidence that dollarization influenced the preference for an exchange rate anchor (Kiguel and Liviatan, 1994).

There is no compelling evidence that programs in dollarized economies have maintained higher levels of international reserves, to allow the central bank to extend its role as lender of last resort to cover banks’ dollar portfolios comfortably. There is little difference between average reserve levels of the seven highly dollarized economies and those of the five moderately dollarized economies (Table 6). Both are somewhat higher than the average of all the dollarized economies considered in this study (Table 7), but this larger sample also reveals little difference, either between highly and moderately dollarized economies or between dollarized and nondollarized economies.58

Table 6.Some Features of Dollarized Economies
FCD/Broad Money RatioInflationVelocityMoney MultiplierGross Foreign Reserves1
Country19901995Nominal

Anchor
Average

1991–95
1995Average

1991–95
1995Average

1991–95
1995Average

1991–95
1995
Highly dollarized economies
Bolivia70.882.3Money12.010.22.72.24.04.62.75.0
Uruguay80.176.1Exchange rate62.342.31.61.92.82.93.03.9
Peru59.964.0Money113.311.124.729.62.52.78.310.2
Cambodia226.356.4Money78.87.812.811.11.61.91.31.7
Turkey23.246.1Money80.493.63.53.04.04.52.93.7
Argentina34.243.9Exchange rate43.03.46.55.33.13.66.97.2
Lao P.D.R.37.042.2Money12.425.79.37.22.02.21.51.7
Average47.358.757.427.78.78.62.93.23.84.8
Median37.056.462.311.16.55.32.82.92.93.9
Moderately dollarized economies
Hungary12.226.6Exchange rate25.328.22.12.41.71.65.47.6
Poland30.421.4Exchange rate41.727.82.82.83.13.73.25.2
Jordan12.515.2Money4.32.40.80.93.03.13.54.6
Pakistan2.613.6Money11.012.12.42.42.42.51.43.0
Estonia323.011.4Exchange rate55.228.93.03.92.22.02.92.3
Average16.117.627.519.92.32.52.52.63.34.5
Median12.515.225.327.82.42.42.42.53.24.6
Sources: IMF Staff Country Reports; and IFS.

In months of imports.

First observation for all variables is 1992.

First observations for FCD/broad money, velocity, and money multiplier are 1992; for inflation, 1993.

Sources: IMF Staff Country Reports; and IFS.

In months of imports.

First observation for all variables is 1992.

First observations for FCD/broad money, velocity, and money multiplier are 1992; for inflation, 1993.

Table 7.Gross Reserves in Months of Imports of Countries Reporting Information on FCD/Broad Money Ratios
Country1986198719881989199019911992199319941995
Highly dollarized economies (FCD/broad money > 30 percent) (18)1
Argentina4.72.55.32.68.06.26.58.06.77.2
Bolivia2.31.31.52.41.81.11.61.93.75.0
Cambodia0.51.61.7
Costa Rica4.73.64.74.32.74.94.23.63.03.2
Croatia1.32.52.6
Guinea-Bissau2.12.52.82.72.12.12.62.83.0
Lao P.D.R.0.10.11.41.61.61.11.7
Latvia4.14.02.8
Mozambique1.11.92.42.62.82.8
Nicaragua0.20.52.11.92.01.70.81.81.5
Peru4.61.81.52.83.06.06.37.411.710.2
Turkey1.41.41.83.12.82.52.82.23.33.7
Uruguay4.84.44.53.93.82.02.53.23.33.9
Median4.61.92.42.72.72.32.52.43.13.1
Average3.42.12.82.73.03.13.33.13.83.9
Moderately dollarized economies (FCD/broad money < 30 percent) (34)
Albania2.33.43.5
Armenia0.70.81.6
Bulgaria0.92.01.32.32.3
Czech Rep.2.73.95.5
Dominica1.72.91.71.21.31.72.01.91.4
Ecuador3.42.22.22.84.23.83.75.15.33.9
Egypt1.01.51.21.52.34.89.410.110.311.3
El Salvador1.71.81.52.03.12.12.63.02.72.5
Estonia2.93.82.52.3
Guinea0.91.11.71.01.0
Honduras1.21.20.50.20.41.11.90.81.21.7
Hungary2.71.81.71.31.24.24.25.55.77.6
Jamaica0.91.41.00.60.80.61.71.83.02.2
Jordan1.61.40.31.92.92.92.14.44.6
Lithuania1.72.42.3
Macedonia, FYR1.1
Malawi1.01.93.92.83.02.40.61.10.6
Mexico3.16.21.81.82.33.53.13.90.82.5
Moldova2.93.0
Mongolia0.41.72.32.7
Pakistan1.20.80.60.70.30.60.81.23.0
Philippines3.51.51.31.40.82.83.12.72.82.3
Poland0.61.41.61.73.62.42.72.43.15.2
Romania0.81.91.22.50.61.31.51.73.21.8
Russia0.82.2
Sierra Leone1.10.50.50.20.30.61.11.41.6
Slovak Republic0.62.53.8
Trinidad and Tobago3.11.51.02.04.12.31.31.72.92.0
Uganda0.70.90.80.20.81.11.72.53.63.9
Ukraine0.40.7
Yemen2.33.11.30.51.42.9
Zambia1.21.61.61.11.22.0
Median1.21.51.21.51.32.11.91.82.52.5
Average1.71.81.41.41.92.12.32.52.73.2
Memorandum
Reserves in 48 countries not reporting FCD/M3 ratios1
Median2.01.81.51.61.72.42.63.23.12.7
Average2.42.22.02.12.43.03.13.54.03.6
Source: IMF, IFS. Among highly dollarized economies, data were unavailable for Azerbaijan, Belarus, Georgia, Sao Tome and Principe, and Tajikistan; among moderately dollarized economies, data were unavailable for Uzbekistan and Vietnam.

Classification based on observations for 1995; countries in bold are those selected for review.

Source: IMF, IFS. Among highly dollarized economies, data were unavailable for Azerbaijan, Belarus, Georgia, Sao Tome and Principe, and Tajikistan; among moderately dollarized economies, data were unavailable for Uzbekistan and Vietnam.

Classification based on observations for 1995; countries in bold are those selected for review.

Relatively few programs have included explicit measures to reduce dollarization. Such measures have included policies aimed at maintaining interest rate differentials in favor of LCD. Such a policy is especially evident in Poland, where it was the main consideration of interest rate policy. In most of the other countries in the sample, little concern is evident about the level of interest rates, even though in at least one—Turkey—the level of dollarization appears to display sensitivity—albeit weak—to the real rate of return on domestic currency deposits (Figure 8).

Figure 8.Turkey: FCD/M3 Ratio and Lira Deposit Rates

Sharply differentiated reserve requirements and discriminatory rates of remuneration on reserve requirements on FCD have been used in two of the countries in the sample—Bolivia and Peru—with the difference between reserve requirements on LCD and FCD reaching over 35 percentage points in Peru (Table 8). However, in other instances (Hungary, Pakistan, and Poland), reserve requirements have been used in a manner that encourages rather than discourages dollarization. In Poland, required reserves on LCD have been markedly higher than those on FCD, at least since 1990. In Hungary, whereas the reserve ratios on LCD and FCD were equal, the de facto treatment of FCD was more favorable because the basis for calculating mandatory reserves on FCD excluded until 1996 banks’ FCD at the central bank. In Pakistan, required reserves on FCD were effectively remunerated at higher levels than they were for LCD.

Table 8.Selected Indicators of Measures Influencing Dollarization
Reserve Requirements (RR)1
CountryDollar-

Denominated

Bonds
FRR

(currency of

denomination)
On local currency

deposits (RR)
On FCD

(FCR)
Remuneration
Argentina2YesBoth1818None.
BoliviaYesForeign1020Remuneration of RR and FCR introduced in 1991. FCR have generally been remunerated by lower rates than RR.
Estonia3NoLocal1010Only excess reserves remunerated, starting July 1996.
Hungary4NoLocal1212In 1990–95, average remuneration for FCR was 2 percent, compared with 10 percent for RR.
JordanNoForeign1414Before being equalized in 11/96, FCR were set at 35 percent. These requirements apply to commercial banks.
Lao P.D.R.NoLocal1212Both were remunerated at 1.5 percent.
PakistanNoLocal1515
PeruNoForeign945
Poland5NoLocal94
TurkeyNoBoth910In the 1991–94 period, RR for liabilities of maturities less than 30 days were 16 percent and for those greater than 30 days 7.5 percent. The respective rates for FCR were 9.5 percent and 11.5 percent. In addition, a further 8 percent for short-term liabilities and 9 percent for long-term liabilities had to be held as reserve in local currency.
Uruguay3YesForeign2021.5RR remunerated at market rates. First 11.5 percent of FCR required to be held in the form of Treasury bills. Balance remunerated at market rates.
Sources: IMF Staff Country Reports; and IMF staff estimates.

Latest available information.

Argentina actually makes use of liquidity ratios rather than reserve requirements. Presently, these are 18 percent for deposits < 90 days; between 90 and 179 days, 13 percent; between 180 days and 365 days, 8 percent; and 0 percent for deposits > 365 days.

Reserve requirements for local currency site deposits indicated. For time HDC of 30–180 days, 14 percent and > 180 days, 12 percent. FRR for time deposit > 180 days drops to 15.5 percent.

RR and RR* have tended to be uniform for much of the 1990—95 period, and averaged just below 15 percent.

Reserve requirements for local currency demand deposits are higher at 20 percent. Before February 1996, rates were 17 percent on HCD and 2 percent on FCD.

Sources: IMF Staff Country Reports; and IMF staff estimates.

Latest available information.

Argentina actually makes use of liquidity ratios rather than reserve requirements. Presently, these are 18 percent for deposits < 90 days; between 90 and 179 days, 13 percent; between 180 days and 365 days, 8 percent; and 0 percent for deposits > 365 days.

Reserve requirements for local currency site deposits indicated. For time HDC of 30–180 days, 14 percent and > 180 days, 12 percent. FRR for time deposit > 180 days drops to 15.5 percent.

RR and RR* have tended to be uniform for much of the 1990—95 period, and averaged just below 15 percent.

Reserve requirements for local currency demand deposits are higher at 20 percent. Before February 1996, rates were 17 percent on HCD and 2 percent on FCD.

In Lao P.D.R., a decree requiring all domestic transactions to be carried out in monetary assets denominated in local currency was issued. In Cambodia, a similar decree required all government transactions to be denominated in local currency. This has, however, had little effect on the prevalence of currency substitution in the two countries. In addition, the Lao program included measures to promote payments in local currency, with the explicit objective of reducing currency substitution. These have included improvements in payments, clearing, and settlement procedures; the promotion of the use of checks; and the issuance of large-denomination banknotes.

By contrast, some programs have on occasion accommodated measures that provided incentives for greater dollarization. In Argentina in 1992, for instance, in response to a short-lived run on the currency, the authorities allowed greater scope for dollarization by allowing foreign-currency-denominated checking accounts for domestic transactions, in order to enhance the credibility of the fixed exchange rate regime.

IMF conditionality has only rarely been attached to measures that can be expected to influence dollarization. Perhaps the strongest form of conditionality was in Poland, where failure to maintain a positive interest rate differential in favor of LCD triggered consultations with the IMF. In Lao P.D.R. in 1995, structural benchmarks were set on the removal of floors on the interest rates paid by banks. In Hungary, removal of ceilings on forint deposit interest rates was a structural benchmark under the 1991 IMF Extended Arrangement.

Design of Performance Criteria

For the most part, IMF programs with dollarized economies have adopted relatively standard program targets—performance criteria on the net international reserves (NIR) of the central bank and the net domestic assets (NDA) of either the central bank or the banking system, as well as in some cases indicative targets for reserve money, in addition to performance criteria for fiscal outcomes and external borrowing.59 The presence of FCD complicates the specification of these targets in a number of ways, which are summarized in the lower panel of Table 5 and are considered in more detail below. Table 9 summarizes how these complications were dealt with in the various countries in the sample.

Table 9.Selection of Performance Criteria in Sample Countries
Performance CriteriaReserve MoneyExchange Rates Used
CountryIMF Program

Type1
Intermediate

Target2
Net domestic assets (NDA)

Central Banking System
NIRDefinition3TargetActualAccountingTreatment

of RR

on FCD3
ArgentinaSBA, EFFXXNoDomestic liability
BoliviaESAFCCXXCCNoXDomestic liability
CambodiaESAFM2XX4XBM ind. FCDNoXDomestic liability
EstoniaSBAXNoDomestic liability
HungarySBAM2XXXCC+TRNoX5XDomestic fiability
JordanEFFM2XXXCC + DDIndicativeXForeign liability
Lao P.D.R.ESAFM2XXXBM incl. FCDNoXDomestic liability
PakistanSBAJESAFM2XXX6XCC+TRIndicativeXDomestic liability
PeruEFFM2XXCCNoXForeign liability
PolandSBAM2XXX7BM ind. FCDNoXDomestic liability
TurkeySBAM2XXXCC+TRNoXDomestic liability
UruguaySBAMlXXCC8NoXDomestic liability

SBA, Stand-By Arrangement; ESAF, Enhanced Structural Adjustment Facility; EFF, Extended Fund Facility.

M2X includes FCD. CC = currency in circulation, MI = CC + demand deposits in local currency.

BM = broad money; reserve money definition: CC = currency in circulation; RR required reserves; TR = total reserves; DD = demand deposits, excluding time deposits/CDs.

Performance criteria set on banking system reserves relative to liabilities—essentially prudential requirement.

Accounting rate applied just to items included in NFA; other foreign-currency-denominated components of balance sheet at actual rates.

Indicative target.

At the level of the banking system.

1996 SBA. SBAs in 1990 and 1992 included total reserves minus reserves of one large state-owned bank.

SBA, Stand-By Arrangement; ESAF, Enhanced Structural Adjustment Facility; EFF, Extended Fund Facility.

M2X includes FCD. CC = currency in circulation, MI = CC + demand deposits in local currency.

BM = broad money; reserve money definition: CC = currency in circulation; RR required reserves; TR = total reserves; DD = demand deposits, excluding time deposits/CDs.

Performance criteria set on banking system reserves relative to liabilities—essentially prudential requirement.

Accounting rate applied just to items included in NFA; other foreign-currency-denominated components of balance sheet at actual rates.

Indicative target.

At the level of the banking system.

1996 SBA. SBAs in 1990 and 1992 included total reserves minus reserves of one large state-owned bank.

The first issue a financial program in a dollarized economy must address is whether the intermediate target should be a measure of money including or excluding FCD.60 The presumption would be that, where dollarization principally reflects asset substitution, the level of FCD is likely to be—barring wealth effects—unrelated to domestic money demand, so that a measure of broad money excluding FCD would constitute the appropriate intermediate target. Conversely, if dollarization largely reflects currency substitution, the level of FCD will be directly related to domestic demand, and a measure of money including FCD would be more appropriate. For the reasons discussed in Section IV, the extent of currency substitution is difficult to assess, and the relative stability of the different measures of broad money has to be determined on a case-by-case basis.

The programs reviewed did indeed tackle this issue on a case-by-case basis. Of the ten countries in the sample that used standard monitoring frameworks (that is, excluding those with currency boards), seven based their financial programs on a measure of broad money including FCD, implicitly assigning some role to currency substitution. In three of these countries (Cambodia, Lao P.D.R., and Turkey) there is ample anecdotal evidence of currency substitution. However, in the other four countries there would seem to be a lesser degree of currency substitution, but an intermediate target including FCDs was still chosen.61 The three remaining countries (Bolivia, Peru, and Uruguay) used a narrower measure of money excluding FCD, owing to a combination of the absence of a stable relationship between broader measures of money and the ultimate policy targets, the perceived inability of the authorities to control such broader aggregates, and an assessment that dollarization was principally caused by asset substitution.62

If the intermediate target is a broad aggregate, then a decision must be made whether to apply the operational target at this level—that is, at the level of the banking system—or at the level of the central bank. This decision relates largely to the issue of control and the availability of indirect monetary instruments, as would be the case in a nondollarized economy. Thus, in countries with more market-oriented financial systems (most of the countries in this sample), targets operated at the level of the central bank. In the three countries with financial systems more subject to state control, however, targets operated at the level of the banking system. In Cambodia and Lao P.D.R., credit limits were set at the level of the banking system largely because of the rudimentary stage of development of the banking sector. In Poland, however, the targeting of NDA of the banking system mainly reflected concern about continuing instability in the money multiplier, perhaps not unrelated to dollarization.

For countries setting monetary targets at the level of the central bank, the next question concerns the choice of monetary liabilities that will be subject to targeting. This question relates, in part, to the stability of the money multiplier (the selected measure of reserve money—including or excluding reserves against FCD (FCR)63—relative to the chosen intermediate target).64 Once again, this is largely an empirical question. Nonetheless, the usual presumption would be that, if FCD are included as part of the intermediate target, then banks’ FCR should be included in the central bank’s operating target. Reflecting this, all of the countries in the sample that based their financial programs on a measure of broad money including FCD, except Jordan, established operating targets on a measure of reserve money that included FCR. By contrast, those countries that based their financial programs on a measure of broad money excluding FCD established operating targets on a measure of reserve money that excluded FCR.

Reflecting the decision to treat FCR as a component of reserve money—as a domestic liability—10 of the 12 countries in the sample excluded FCR as relevant liabilities in the definition of NIR, although in one of these (Uruguay) this effect is undone by an adjuster. From a purely statistical perspective, FCR are liabilities to residents and should be treated as such in the monetary and balance of payments statistics. However, the operational concept of NIR should be defined differently from the purely statistical concept of net foreign assets (NFA) to provide a more meaningful indicator of the adequacy of a country’s reserves.65 As noted above, treating FCR as domestic rather than foreign liabilities and thus excluding them from the relevant measure of NIR has certain drawbacks. In particular, for the central bank, reserves garnered from FCR are not as secure as reserves gained from intervention or from medium- and long-term borrowing.66 The two countries that included FCR as a relevant liability for NIR were Jordan, on account of the possibility of the introduction of a new currency in the West Bank leading to substantial withdrawals of FCD and thereby of FCR, and Peru, where it was recognized that FCD were subject to the volatility of capital flows and could be withdrawn at any time. Similarly, the adjuster was used in the Uruguay program to ensure that the NIR target was not met simply through the attraction of capital inflows.

Finally, it is necessary to decide whether IMF programs in dollarized economies should value the foreign exchange components of balance sheets at pre-determined (accounting) or prevailing market exchange rates. This choice is relevant for money targets if there are FCD (for broad money targets) or FCR (for base money targets). If the balance sheet is valued at prevailing market exchange rates, exchange rate depreciations will generate (measured) money expansions if there are FCD or FCR.67 Valuation at predetermined exchange rates, by contrast, will render money unaffected by exchange rate movements.

The apparent generation of monetary expansions in the context of depreciations could be seen as desirable, in that it would require monetary tightening to ensure compliance with targets. It is not clear, however, that the degree of tightening required would be necessarily appropriate. Valuation at prevailing market rates also has the disadvantage that exchange rate volatility close to test dates could make it extremely difficult for the authorities to comply with program targets, despite their best efforts. This would undermine the principle that members should have reasonable assurances that IMF resources will be available if agreed policies are implemented. For these reasons, combined with the availability of reviews for modifying program targets, performance criteria have generally been defined using predetermined exchange rates. In the sample, excluding those countries operating fixed exchange rate regimes, only one country (Hungary) used prevailing market exchange rates in valuing the balance sheet.

Dollarization and Program Performance

The evidence on the effectiveness of inflation control in dollarized economies is mixed. While it seems that highly dollarized economies tend to be associated with higher rates of inflation than other economies (Table 10), the data in Table 6 (for the smaller sample) show little difference between highly and moderately dollarized economies. Moreover, some of the former had fairly low rates of inflation (10 percent or below). Money demand appears to have been more volatile in the highly dollarized economies in the sample, since the coefficient of variation of velocity is markedly higher than in the moderately and nondollarized samples (table 11).68 However, the deviation of inflation from program targets in the first program year, albeit positive, has been only marginally higher than the typical deviation found in the 1994 and 1997 reviews of IMF-supported programs (excluding those countries known to be heavily dollarized; Table 12). Finally, there is little evidence that a higher degree of dollarization implies greater variability in the money multiplier (Table 13), at least when FCD are included in money supply and FCR in reserve money, as is the case for most of the countries in the dollarized sample.

Table 10.Inflation Country Reporting Information on FCD/Broad Money Ratios
Country1986198719881989199019911992199319941995
Highly dollarized economies (FCD/broad money > 30 percent) (18)1
Argentina90.1131.3343.03,080.52,314.7171.724.910.64.23.4
Azerbaijan912.61,129.71,664.4411.7
Belarus969.01,188.02,220.0709.0
Bolivia276.314.616.015.217.121.412.18.57.910.2
Cambodia55.3141.8197.075.0114.5-0.57.8
Costa Rica11.816.820.816.519.028.721.89.813.523.2
Croatia663.61,516.097.51.6
Georgia2.01.30.62.03.378.5887.43,125.415,606.5162.6
Guinea-Bissau26.5119.660.380.833.057.669.448.215.245.4
Lao P.D.R.35.06.114.859.735.713.49.86.36.825.7
Latvia951.3109.135.925.1
Mozambique40.5164.158.542.143.733.345.142.363.154.4
Nicaragua681.6911.914,315.84,709.33,127.57,755.340.520.47.711.2
Peru77.985.8667.03,398.77,481.6409.573.548.623.711.1
Sāo Tomé and Principe13.925.044.342.942.246.533.731.848.064.5
Tajikistan1,156.72,194.9350.4610.0
Turkey34.638.873.763.360.366.070.166.1106.393.6
Uruguay76.463.662.280.4112.5101.868.554.144.742.3
Median37.751.259.459.743.766.069.851.340.334.0
Average113.9131.61,306.4895.91,033.3690.8338.0540.21,128.6128.5
Moderately dollarized economies (FCD/broad money < 30 percent) (34)
Albania35.8225.285.022.67.8
Armenia824.53,731.85,273.4176.7
Bulgaria2.72.72.56.423.9338.779.463.8121.932.9
Czech Republic11.120.810.09.1
Dominica2.24.72.26.9-30.35.55.51.60.01.3
Ecuador23.029.558.275.748.448.854.645.027.323.0
Egypt23.925.214.220.221.219.521.111.29.09.4
El Salvador31.925.319.917.624.014.411.218.510.610.1
Estonia1,069.089.039.828.9
Guinea64.736.727.428.319.419.616.67.14.25.6
Honduras3.92.86.67.021.226.09.110.722.518.5
Hungary5.38.615.716.929.034.223.022.518.828.2
Jamaica24.411.28.216.124.868.657.524.531.721.7
Jordan6.625.716.28.24.03.33.52.4
Lithuania1,020.5410.472.139.5
Macedonia, F.Y.R.1,692.6334.5126.516.1
Malawi14.225.133.812.511.98.223.222.834.783.1
Mexico86.2131.8114.220.026.722.715.59.87.035.0
Moldova1,276.0788.5329.630.2
Mongolia20.2202.6268.487.656.8
Pakistan3.74.93.37.29.711.89.59.611.812.1
Philippines0.83.89.110.612.718.78.97.69.08.1
Poland17.825.260.2251.1585.870.343.035.332.227.8
Romania5.1161.1210.4256.1136.732.3
Russia1,353.0699.8302.0190.1
Sierra Leone80.9178.734.360.8110.9102.765.517.618.429.8
Slovak Republic10.023.013.49.9
Trinidad and Tobago7.713.412.14.611.03.86.511.15.65.3
Uganda215.4166.7130.845.424.542.230.06.56.17.4
Ukraine1,209.74,734.9891.0376.0
Uzbekistan645.2534.01,568.0304.6
Vietnam487.2316.7394.035.067.068.117.55.214.512.8
Yemen, Rep. of13.611.47.613.833.544.950.662.371.848.0
Zambia54.847.650.9123.3107.097.7165.7183.354.634.9
Median20.425.115.717.623.930.146.823.825.025.4
Average58.253.648.238.354.753.8307.9369.3276.151.0
Memorandum
Inflation in 48 countries not reporting FCD/M3 ratios
Median7.97.06.37.67.09.19.58.924.812.5
Average13.916.530.670.187.773.2296.7265.2660.363.8
Source: IMF, World Economic Outlook.

Classification based on observations for 1995; countries in bold are those selected for review.

Source: IMF, World Economic Outlook.

Classification based on observations for 1995; countries in bold are those selected for review.

Table 11.Velocity in Countries Reporting Information on FCD/Broad Money Ratios
Country1986198719881989199019911992199319941995Coefficient

of Variation
Highly dollarized economies (FCD/broad money > 30 percent) (18)
Argentina5.14.54.05.08.79.57.35.75.35.40.3034
Bolivia10.96.55.85.64.13.42.92.52.32.40.5802
Cambodia16.213.411.10.1913
Costa Rica2.72.72.32.42.32.32.42.52.53.00.0856
Guinea-Bissau5.44.14.56.75.87.16.06.70.1869
Lao P.D.R.10.413.814.111.07.66.77.20.3053
Latvia3.22.94.30.2125
Nicaragua1.62.817.55.15.35.13.42.90.9240
Peru5.35.24.35.24.87.56.45.85.75.30.1620
Turkey3.43.53.64.23.73.63.83.10.0863
Uruguay1.92.42.01.71.61.92.22.52.62.50.1640
Median5.24.13.75.04.85.15.35.13.34.30.1891
Average5.24.13.54.87.06.15.25.64.84.90.2277
Moderately dollarized economies (FCD/broad money < 30 percent) (34)
Armenia2.61.01.10.5646
Czech Rep.1.31.21.20.0620
Dominica2.11.82.12.01.81.71.61.71.70.1063
Ecuador4.94.44.75.84.64.54.64.03.53.30.1641
Egypt1.11.11.11.21.21.11.21.21.21.30.0331
El Salvador3.13.53.73.83.33.12.82.62.52.80.1453
Estonia3.63.84.00.0538
Honduras3.73.33.23.23.23.53.33.63.53.50.0580
Hungary2.02.12.42.42.32.11.91.92.20.0864
Jamaica2.12.22.02.22.42.32.22.32.10.0570
Jordan1.00.90.90.80.90.70.80.80.90.90.1057
Lithuania3.94.20.0551
Malawi4.53.94.24.95.35.14.84.64.25.40.1057
Mexico3.73.79.15.54.23.63.43.63.43.30.4102
Mongolia1.82.90.3067
Pakistan2.32.22.42.62.62.62.42.22.22.30.0636
Philippines3.73.73.53.12.92.92.82.42.22.00.2091
Poland2.42.42.51.62.93.12.82.82.72.70.1582
Romania2.42.01.62.13.24.30.3955
Russia4.14.75.60.1648
Sierra Leone3.56.05.85.45.46.17.89.29.810.70.3296
Slovak Republic1.51.51.50.0086
Trinidad and Tobago2.12.02.02.02.22.32.52.32.30.0778
Uganda13.510.910.410.20.1366
Ukraine2.03.13.77.90.6169
Zambia3.23.23.03.34.64.50.2041
Median2.42.82.82.62.92.72.82.62.53.30.1214
Average2.82.93.33.03.02.93.53.33.23.90.1799
Memorandum
Velocity in 48 countries not reporting FCD/M3 ratios
Median3.63.63.83.93.74.13.73.63.44.00.1126
Average4.03.93.93.94.14.14.04.03.84.10.1699
Sources: IMF, World Economic Outlook and IFS. Among highly dollarized economies, data were unavailable for Azerbaijan, Belarus, Croatia, Georgia, Mozambique, and Tajikistan; among moderately dollarized economies, data were unavailable for Albania, Guinea, Macedonia F.Y.R., Moldova, Uzbekistan, Vietnam, and Yemen.
Sources: IMF, World Economic Outlook and IFS. Among highly dollarized economies, data were unavailable for Azerbaijan, Belarus, Croatia, Georgia, Mozambique, and Tajikistan; among moderately dollarized economies, data were unavailable for Albania, Guinea, Macedonia F.Y.R., Moldova, Uzbekistan, Vietnam, and Yemen.
Table 12.Inflation Target Versus Outcome for the First Program Year in IMF Arrangements
Deviation1
Dollarized sample (12 countries, 14 arrangements)
AverageTarget49.021.4
Outturn70.4
MedianTarget14.25.4
Outturn19.6
Highly dollarized countries (7 countries, 8 arrangements)
AverageTarget21.89.5
Outturn31.3
MedianTarget9.16.2
Outturn15.3
Moderately dollarized countries (5 countries, 6 arrangements)
AverageTarget85.337.3
Outturn122.6
MedianTarget21.04.0
Outturn25.0
1997 ESAF Review (31 countries, 58 arrangements)2
AverageTarget20.57.0
Outturn27.5
MedianTarget10.12.9
Outturn13.0
1994 Conditionality Review (29 countries, 29 arrangements)2
AverageTarget54.325.3
Outturn79.6
MedianTarget18.03.2
Outturn21.2
Source: IMF Staff Country Reports.

Outturnless target.

Excluding countries where the ratio of FCD/broad money is known to be > 30 percent. For the 4 ESAF countries in the sample (Bolivia, Cambodia, Lao P.D.R., and Pakistan), the average and median deviations were 4.7 and 4.8 percent, respectively. For the 8 SBA/EFF countries in the sample (Argentina, Estonia, Hungary, Jordan, Peru, Poland, Turkey, and Uruguay), the average and median deviations were 30.6 and 6.0, respectively.

Source: IMF Staff Country Reports.

Outturnless target.

Excluding countries where the ratio of FCD/broad money is known to be > 30 percent. For the 4 ESAF countries in the sample (Bolivia, Cambodia, Lao P.D.R., and Pakistan), the average and median deviations were 4.7 and 4.8 percent, respectively. For the 8 SBA/EFF countries in the sample (Argentina, Estonia, Hungary, Jordan, Peru, Poland, Turkey, and Uruguay), the average and median deviations were 30.6 and 6.0, respectively.

Table 13.Money Multiplier1
Country1986198719881989199019911992199319941995Coefficient of Variation
Highly dollarized economies (FCD/broad money > 30 percent)
Argentina2.83.84.01.22.22.42.83.03.33.80.2877
Azerbaijan3.12.03.21.40.3593
Bolivia2.23.02.32.22.73.14.04.04.84.20.2871
Cambodia1.51.62.10.1872
Costa Rica2.22.22.12.12.21.82.02.11.91.70.0804
Croatia3.74.50.1445
Guinea-Bissau1.01.31.21.31.71.01.31.41.51.70.1773
Lao P.D.R.2.02.12.12.22.30.0649
Nicaragua1.81.91.41.61.92.22.42.5
Peru1.61.61.72.31.92.42.32.52.72.60.1831
Turkey3.23.23.02.93.34.04.03.94.45.00.1797
Uruguay3.02.62.82.92.62.82.92.72.83.10.0592
Median0.1797
Average0.1827
Moderately dollarized economies (FCD/broad money < 30 percent)
Armenia2.41.71.72.00.1723
Bulgaria3.53.44.44.94.50.1589
Czech Rep.4.23.82.60.2468
Dominica3.22.83.44.13.84.04.54.65.35.50.2089
Ecuador2.62.72.52.42.73.02.82.83.74.30.2102
Egypt2.12.42.83.03.03.03.33.13.13.10.1281
El Salvador3.02.62.52.52.62.63.02.62.72.60.0672
Estonia1.61.92.00.1206
Guinea1.41.61.61.71.70.0795
Honduras4.14.04.03.73.63.93.33.43.03.10.1067
Hungary1.51.92.02.01.71.51.71.81.71.60.1074
Jamaica2.92.82.72.32.42.92.72.52.62.70.0717
Jordan2.93.02.82.62.53.03.02.83.03.10.0678
Lithuania2.42.30.0403
Malawi1.71.51.61.92.62.62.62.22.11.80.2011
Mexico2.53.72.14.15.36.26.66.96.96.90.3702
Moldova2.41.71.41.41.60.2314
Mongolia5.03.13.43.03.00.2392
Pakistan2.62.52.52.32.22.02.42.52.52.40.0759
Philippines3.13.13.33.13.23.23.23.44.04.30.1216
Poland2.22.92.02.22.22.42.83.53.93.70.2482
Romania1.62.23.55.17.83.54.50.5088
Russia1.82.12.10.0976
Sierra Leone1.61.61.41.41.41.51.72.01.81.90.1362
Slovak Republic6.46.14.60.1706
Yemen1.11.11.11.11.11.40.0970
Median0.1321
Average0.1648
Memorandum
Money multiplier in 48 countries not reporting FCD/M3 ratios1
Median2.42.42.52.22.42.32.22.42.32.20.1875
Average2.52.42.52.42.32.22.32.42.32.30.2217
Source: IMF, IFS. Among highly dollarized economies, data were unavailable for Belarus, Georgia, Latvia, Mozambique, Sāo Tomé and Principe, and Tajikistan; among moderately dollarized economies, data were unavailable for Albania, Macedonia F.Y.R., Trinidad and Tobago, Uganda, Ukraine, Uzbekistan, Vietnam, and Zambia.

Broad money/reserve money.

Source: IMF, IFS. Among highly dollarized economies, data were unavailable for Belarus, Georgia, Latvia, Mozambique, Sāo Tomé and Principe, and Tajikistan; among moderately dollarized economies, data were unavailable for Albania, Macedonia F.Y.R., Trinidad and Tobago, Uganda, Ukraine, Uzbekistan, Vietnam, and Zambia.

Broad money/reserve money.

The sample does, however, provide some examples—although not always during the period of IMF programs—of some of the other costs of dollarization. Increased vulnerability of banking systems, particularly in the presence of weak banking supervision, is typified by Turkey, where two banks collapsed in 1994 owing to the impact of exchange rate depreciation on their open foreign exchange positions. Bolivia provides an example where dollarization has generated concern about the central bank’s ability to act as a lender of last resort, since a run on banks’ FCD cannot be met by printing money. The case of Pakistan, meanwhile, exemplifies the possibilities for misuse of FCD to support inappropriate macroeconomic policies: the central bank requires commercial banks to surrender the counterpart foreign exchange of FCD fully, and the resulting assets have been largely expended.

Overall, countries with IMF programs have not experienced a reduction in the level of dollarization. In 9 of the 12 countries in the sample, the dollarization ratio was higher at end-1995 than at end-1990 (see Table 6). Only in Estonia and Poland did the ratio decline significantly. Uruguay stands out among the highly dollarized economies in having registered some decline in dollarization, but the ratio of FCD to broad money still stands at about 75 percent. In some countries (Bolivia, Peru, and Lao P.D.R.), the dollarization ratio reached a peak in 1993 and has declined modestly since. As noted earlier, however, an increase in (measured) dollarization can reflect a shift onshore of FCD previously held offshore, or indeed merely remonetization, so that successful stabilization and reform may in itself foster an increase in dollarization. The absence of an apparent decline in dollarization is thereby not necessarily evidence of program failure.

On the whole, IMF programs have not sought to tackle dollarization head on. One explanation for this is that dollarization has not hindered the achievement of other program objectives. Accordingly, it would seem appropriate to continue to apply conditionality in such a way that it “lives with” rather than directly attacks dollarization. In this regard, the selection of intermediate objectives and ultimate targets should continue to be guided by the same criteria as are employed in other IMF programs, although the presence of dollarization means that the selection of the appropriate intermediate monetary target may require a more thorough analysis of its relationship with ultimate targets than usual. Dollarization should also be counted as a relevant factor in the choice of a program’s nominal exchange rate anchor.

While the principle of valuing foreign exchange components of balance sheets at predetermined (accounting) exchange rates should be maintained, the practice of excluding FCR from the relevant definition of NIR liabilities should be reconsidered. The application of institutional constraints on existing dollarization is generally inadvisable, given the distortions that may result, but the manner in which, in its absence, dollarization is liberalized should pay due regard to the sequencing of accompanying reforms. With regard to the latter, IMF programs for dollarized economies should attach greater than usual vigilance to banking sector issues, to take account of the additional risks that dollarization poses for banking sector balance sheets.

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