Front Matter Page
INTERNATIONAL MONETARY FUND
Analytics of Systemic Crises and the Role of Global Financial Safety Nets
Prepared by the Strategy, Policy, and Review Department
In consultation with other Departments
Approved by Reza Moghadam
May 31, 2011
Contents
Executive Summary
I. Introduction
II. Identifying Past Systemic Crises
III. Transmission Channels
IV. Anatomy of Systemic Crises
A. Triggers and Vulnerabilities
B. Crisis Impact
V. Policy Responses to Systemic Crises
A. Domestic Policy Responses
B. Global Liquidity Response
VI. Key Lessons And Implications For The Global Financial Safety Net
A. Lessons
B. Implications for the Global Financial Safety Net
VII. Issues for Discussion
Tables
1. Factors Underlying Systemic Crises
2. Determinants of the Change in Spreads from Peak to Trough during the Global Crisis
Figures
1. Country Examples of FSI/EMPI and Real GDP Growth
2. Global Real GDP Growth and Financial Stress Index
3. Systemic-weighted and Equal-weighted Global Systemic Crisis Indicators
4. Trade and Financial Integration
5. Net Stock Market Volatility Received by Emerging Markets
6. Ultimate Triggers of Systemic Crises
7. G-7 Policy Rates Across Systemic Crises
8. Emerging Markets with Relatively Strong Fundamentals in Pre-Crises Yeai
9. EM Affected Countries: Median Net Inflows
10. EM Affected Countries: Median Output Loss by Vulnerability
11. Peak-to-Trough CA Deficit Adjustment by Crisis Episode
12. Domestic Liquidity Responses
13. Annual Change in Global Liquidity
14. Federal Reserve Dollar Liquidity Swaps and Market Reaction
15. Frontloading and Access
16. Market Interest and Spreads
17. Peak-to-trough CA Deficit Adjustment by Crisis Episode
18. EMs with Fund Arrangement: Median Output Loss by Vulnerability
19. Fund Arrangements to Emerging Market Crisis Bystanders
20. Burden Sharing
21. Rollover of Parent Banks’ Exposures in CESE Countries
Boxes
1. Crisis Identification Literature
2. Detection of Future Systemic Crises: An Illustration
3. Vulnerabilities of
4. Availability and Use of Reserves in Systemic Crises
5. Salient Features of the U.S. Fed Swap Lines to Selected Central Banks
Appendix Tables
I. Countries Affected in Each Systemic Crisis
References
Annexes
1. Robustness Check of Systemic Crisis Identification
2. Crises That Did Not Become Systemic
3. Literature Review on the Need for an International Lender of Last Resort
Executive Summary
Backdrop and objectives: In response to the global crisis, the Fund overhauled its lending toolkit and boosted its resources, strengthening its ability to pre-empt financial crises. This paper—with the companion paper on Mapping Cross-Border Financial Linkages—takes another look at the recent global crisis in the context of a broader review of past systemic crises to (i) assess whether rising linkages across countries is a source of latent systemic instability and (ii) ascertain whether the global financial safety net (GFSN) is adequate to contain crisis and contagion risks arising from such systemic instability. This paper develops a new methodology to identify systemic crises and reviews associated policy responses from a global, rather than country-level, perspective.
Identification of systemic crises: Systemic crises are characterized by severe economic and financial stress and—differently from idiosyncratic crises—widespread contagion. Based on a systemic crisis indicator developed here, synthesizing financial and economic stress indices across countries, identifies four clusters of systemic crises since 1980: the 1982 Latin American debt crisis, the 1992/93 European Exchange Rate Mechanism (ERM) crisis, the Asian/Russian/Long Term Capital Management combined crises of the late 1990s, and the 2008 global financial crisis.
Key characteristics and impact: In general, the triggers either originated in large or more integrated economies with the potential to hit a large number of countries, or they acted as wake up calls for investors to reassess risks for a whole asset class or region/group of countries. Shocks were rapidly transmitted across borders and amplified by trade and financial linkages among countries and herding behavior by investors. A large number of countries are found to be affected by systemic crises, including a group called “crisis bystanders”—i.e., countries with relatively strong fundamentals for which likelihood of an idiosyncratic crisis is normally low.
Policy responses: Policy responses were mostly driven by domestic considerations and initially focused on the restoration of market confidence. From a global perspective, policy responses were generally reactive and uncoordinated. Fund and other IFIs played key financing roles in systemic crises, sometimes complemented by bilateral and regional financing and private sector liquidity commitments. Large-scale liquidity support, including via accommodative monetary policy by reserve-currency central banks, varied across crises responding mostly to domestic considerations.
Implications for the global financial safety net: To strengthen global management of systemic crises, improved bilateral and multilateral surveillance to minimize the likelihood of systemic crises—work for which is ongoing both within and outside the Fund—could be complemented with enhancements to the financial safety net, especially liquidity financing during systemic events. In particular, rapid short-term liquidity provision to countries with relatively strong fundamentals (crisis bystanders) at the outset of a systemic shock could help mitigate the crisis cost and strengthen the Fund’s catalytic role by boosting market confidence. The existence of such a liquidity mechanism may even prevent the occurrence of systemic liquidity runs in the first place. These benefits can be achieved by enhancing flexibility in the current toolkit to provide evenhanded and predictable short-term liquidity support to crisis bystanders during systemic events. Any such liquidity mechanism would need to embed safeguards to Fund resources and minimize moral hazard risks.