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Mercedes García-Escribano and Sebastián Sosa are economists at the Western Hemisphere Department, International Monetary Fund. The authors would like to thank Miguel Savastano, Rodrigo Valdés, Martín Kaufman, Robert Rennhack, Gilbert Terrier, David Vegara, Gastón Gelos, and participants at the Central Bank of Peru and WHD-IMF seminars for their feedback and extensive discussions.
Specifically, their minimum variance portfolio (MVP) model implies that if real exchange depreciation is less volatile than inflation, then consumers would prefer to hold dollar deposit as it is less risky. The authors test the model using cross-section data on deposit dollarization for 23 countries. De Nicolo et al. (2005) and Rennack and Nozaki (2006) provide evidence supporting the MVP hypothesis.
In 1980s Bolivia and Peru forced the conversion of foreign currency deposits to local currency, resulting in capital flight and financial disintermediation. When the restriction on foreign currency deposits was lifted, redollarization was rapid.
Reinhart, Rogoff, and Savastano (2003) identify only four successful cases (Israel, Mexico, Pakistan and Poland), among a group of 86 countries, of significant and persistent deposit de-dollarization. Galindo and Leiderman (2005) identify the cases of Chile, Israel and Poland as successful.
where dit is dollarization of credit in sector i in year t, and cit is the total credit extended to sector i in year t. The first term captures the time-series changes in dollarization within sectors. The second term captures the effect of changes in credit composition. A similar decomposition can be done for deposits.
Since early-2009, Bolivian banks are required to constitute an additional provision of up to 1.5 percent for foreign currency denominated loans classified as “A” (best quality). Since mid-2006, Peruvian banks have to carry out a routine evaluation of currency risks, or alternatively, set up an additional reserve ranging from 0.25 to 1 percent for credit in foreign currency that had not been evaluated.
Bolivia reduced the limit for a bank’s long open position to 60 percent, from 70 percent, in late 2009. Paraguay introduced a net open position limit of 50 percent of capital in mid-2007, and reduced the limit on the long position to 30 percent in late-2008. Peru changed the limit to banks’ long (short) open position to 75 (15) percent of capital in early-2010, from a previous limit of 100 (10) percent of capital. Uruguay set a net open position limit of 150 percent of minimum required regulatory capital in late-2003.
In December 2008, Bolivia raised the marginal cash reserve requirement for deposits in foreign currency above the level observed in September to 30 percent (the measure was effective in January 2009). In June 2009, Bolivia established that the marginal reserve requirement in domestic currency could be reduced by an amount equivalent to the increase in domestic currency credit relative to the stock of June 30, 2009—up to the equivalent of 100 percent of the cash reserve requirement (2 percent) and 40 percent of the reserve requirement in securities (10 percent). Hence, the reserve requirements associated to deposits in Bolivianos and UFV could decline by half in practice (from 12 percent of deposits to 6 percent).
Changes in remuneration rates are not considered in the empirical analysis below, but further work could usefully focus on this variable.
The inflation adjusted, “VAC”, curve extends up to 39-year tenors, but has limited liquidity, as they only represent 10 percent of the domestic public bonds in Peru. The rest of the domestic public bonds are the fixed-coupon “Tasa Fija” bonds.
There is an alternative interpretation of the results. The trend towards appreciation could signal in some of these countries a regime shift towards more exchange rate flexibility. This may imply that the ex-ante expected volatility could be higher than the ex-post observed volatility, since agents would now expect that the central bank allows sharp exchange rate movements in either direction if necessary. Under this interpretation, changes in the exchange rate (in light of the appreciation trend) would be to some extent capturing greater flexibility, fostering de-dollarization by introducing a two-way exchange rate risk.
While non-resident deposits account for about 20 percent of deposits in Uruguay’s banking system, they represented more than 40 percent in 2001—before the 2002 banking crisis.
For a horizon of six months.