The Macroeconomic hedging agenda: the case of Uruguay Gerardo Licandro 2010 meeting of Monetary Policy Advisors- CEMLA Bogotá april 8th and 9th.

Background notes on Uruguay • SOE. Oil importing, agriculture accounts for more than 50% of gross production value • High exposure to the region on goods imports and service exports • Record liability dollarization (decreasing) • Financial crisis in 2002. Portrait and legacy – – – –

45 % loss of deposits on the banking system More than 20% GDP loss More than 80% of deposits are short term Low levels of banking credit

• Recent macro performance – – – –

Average growth 2003-2008 above 6% Inflation ranged between 3-10% Debt /GDP halved Structural fiscal result close to equilibrium. Steady reduction in spending/GDP – Unemployment in lowest recorded level (7%)

The three phases of the crisis and the policy response

The crisis until Lehman • Strong capital inflows from late 2007 til the first semester of 2008. some evidence of especulative capital flows. • Soaring commodity prices • Domestic impact – – – –

Booming investment Rising prices of food Strong pressures in the exchange market Rapidly growing fiscal revenue

• Policy response – – – –

Monetary policy: Reserve accumulation through sterilized intervention Spike in reserve requirements Central Bank Asset management: flight from housing assets Response of prudential regulation: control on asset composition of banks – Debt. Allow change in portfolio of private sector through debt exchanges

The answer to financial panic •

Financial panic resulted in a change in the currency composition of the portfolio of the private sector (no capital outflows). Two conflicting forces led to this result – –

• •

•

World deleveraging led to the cancellation of positions on domestic currency Deleveraging in Argentina brought dollar deposits to Uruguay.

Plummeting commodity prices reduced inflation The priority in this environment turned to avoiding contagion. Policymakers decided to let interest rates go to minimize the use of reserves, while reducing excess volatility on the exchange rate. Uncertainty about the lenght, depht and severity of the crisis was key. Unconventional measures – Debt policy: • debt exchanges, for limited amounts to allow portfolio change and reduce pressure on the exchange rate market. • Sign contingent lines with IIFs

– Monetary policy: Limited liquidity provision through special facility.

• •

Prudential response: preserve the assets of the domestic banking sector. Run on international banks in trouble. Fiscal policy. 2005 budget included a large expansion of expenditures in 2009. No need to generate further expansion. Impact of expansion on primary result limited by reversal of energy cost.

While it countries in LA tried to stabilize their interest rates, Uruguay allowed higher i.r. flexibility Chile

Peru 8

Colom bia

12

12

10

10

8

8

6

6

4

4

2

2

0 38355 38509 38666 38819 38980 39139 39296 39461 39615 39771 39930 40087

0 38355 38503 38650 38798 38952 39104 39253 39402 39553 39702 39853 40003 4015

6

4

2 se verificó esta caída, así lo publica el bc de parú 0 3/01/2005 13/09/2005 31/05/2006 16/02/2007 7/11/2007 1/08/2008 21/04/2009

Uruguay 60

50

40

30 20

10

0 38355 38519 38679 38841 39001 39139 39257 39368 39485 39634 39748 39858 39968 40077

CREDITO EN MONEDA NACIONAL-BROU y BP Variación intermensual de T-C

stocks en pesos constantes 2,0%

1,5%

1,0% 0,5%

0,0% dic07

mar08

jun08 A Nov

sep08

dic08

mar09

A Dic

jun09

sep09 A Feb

dic09

Bye bye fear of floating? Argentina 1981 Indice ene 80=100

350

Brasil 1999 Indice ene 98=100

180 170 160

300

150

Var mar/set 81

250

$ argentino: 139% $ uruguayo: 7%

200

Var ene/jun 99

140

real: 47% $ uruguayo: 5%

130 120

150

110

100

100 90

50

120

m ay -9 9

-9 9 m ar

en

e99

v98 no

p98 se

8 ju l-9

m ay -9 8

-9 8

Var. ene/jun 02

300

100

$ argentino: 260% $ uruguayo: 26%

250

90

Var mar09/ago 08

Fuente. BCRA, IPEA, INE y Pacific Exchange Rate.

ar -0 9 m

no v08 en e09

se p08

8 ju l-0

en e07 m ar -0 7 m ay -0 7

m ay -0 2

-0 2 m ar

e02 en

v01 no

se p01

1 ju l-0

m ay -0 1

m ar

-0 1

60

ay -0 8

0

real: 44% €: 16% $ uruguayo: 24% m

70

50

ar -0 8

100

m

80

no v07 en e08

150

7 se p07

200

e01

Subprime crisis2008 Indice ene 07=100

110

350

en

m ar

e98 en

1

p81 se

ju l-8

m ay -8 1

-8 1 m ar

e81 en

v80 no

0

p80 se

ju l-8

m ay -8 0

-8 0

Argentina 2001 Indice ene 01=100

ju l-0

400

m ar

en

e80

80

Both in the midst of the crisis and in the aftermath, markets differentiated risks. R2 = 0,8483

EMBI - Indicadores de CP y LP Hungría Venezuela

Post-crisis vs. Pre-crisis

Bulgaria

y = 0,4027x - 0,8077

Rusia

1,5 Polonia Argentina

1

Serbia Méjico

Global

Ecuador

0,5

Brasil 0 -0,6

Letonia 0,4

1,4

Perú Uruguay Chile Col Turquía China 2,4

3,4

Indonesia

4,4

Max vs. pre-crisis -0,5

Market depth did not seem to matter.

5,4

6,4

7,4

Millones de USD

Cuenta Corriente como Excedente del Gasto sobre el Ingreso (Últimos 12 meses) 1.000 500 0 -500 -1.000 -1.500 -2.000 Dic-09

Sep-09

Jun-09

Resultado S. Priv ado

Mar-09

Dic-08

Sep-08

Jun-08

Mar-08

Dic-07

Sep-07

Jun-07

Mar-07

Dic-06

Sep-06

Jun-06

Mar-06

Dic-05

Resultado S.Pco con Brou y Bhu

Cuenta Corriente

As the crisis developed, the primary surplus of the public sector vanished

6% 5% 4% 3% 2% 1% 0% dic-09

jun-09

dic-08

Intereses

jun-08

dic-07

jun-07

dic-06

jun-06

dic-05

jun-05

dic-04

Primario

After a bad first quarter, growth resumed as the fiscal incentive was put in place

PRODUCTO INTERNO BRUTO Variación del volumen físico desestacionalizado (%) - eje izquierdo Índices de volumen físico base 2005 = 100, eje derecho 12,0%

150,0

9,0%

120,0

Average growth for 2009 2,9% 2010 5,5%

6,0% 3,7%

3,5%

2,9%

3,0%

2,4% 1,5%

1,7% 0,8%

0,1%

0,7%

2,0%

2,7%

2,8%

2,1% 1,3%

1,2%

1,0%

90,0

60,0

1,3% 0,4%

0,0%

30,0 -1,8%

PIB desestacionalizado

IVF del PIB

IVF del PIB desestacionalizado

2009.IV

2009.III

2009.II

2009.I

2008.IV

2008.III

2008.II

2008.I

2007.IV

2007.III

2007.II

2007.I

2006.IV

2006.III

2006.II

2006.I

2005.IV

2005.III

2005.II

0,0

2005.I

-3,0%

Inflation returned to the target

10%

9%

8%

7%

6%

5%

4%

3%

Feb-10 Dic-09 Oct-09 Ago-09 Jun-09 Abr-09 Feb-09 Dic-08 Oct-08 Ago-08 Jun-08 Abr-08 Feb-08 Dic-07 Oct-07 Ago-07 Jun-07 Abr-07 Feb-07 Dic-06 Oct-06 Ago-06 Jun-06 Abr-06 Feb-06 Dic-05 Oct-05 Ago-05 Jun-05 Abr-05 Feb-05 Dic-04

Inflación sobre 12 meses Objetivo BCU

Inflation expectations remain anchored INFLACION ESPERADA EN 18 MESES 10

%

8 6 4 2

máximo

dic-09

mínimo

sep-09

mediana

jun-09

mar-09

dic-08

sep-08

jun-08

mar-08

dic-07

sep-07

jun-07

mar-07

dic-06

sep-06

rango objetivo

After g20: what are de differences on he relevant intl. Financial environment?

• Back to – Change in domestic portfolio – High and rising commodity prices – Strong demand for our exports. – Strong regional performance

We discovered flaws on the IFSN • Lack of unified regulation and supervision. Regulation arbitrage. • Lender of last resort Bank Hospital and deposit insurance. – limited to national capabilities. – might have led to coordination failures in the response to the panic. • Idiosincratic prudential response deepens financial panic. Supervisors press domestic banks to reduce exposure. • International reserve allocation followed a similar pattern.

• Similar flaws in US and Europe’s Financial Safety Nets

The G-20 choices • In the choice of a full fledged international financial system with a full fledged IFSN or a limited one with domestic safety nets, the choice was the second. – The IMF was patched – Large countries should take care of their own financial systems

• International liquidity persists at high levels and does not follow formal financial channels.This poses a huge challenge to the flawed global financial safety net. • Short term macroeconomic policies of developed countries were set on expansive mode but in a less than perfectly correlated way.

Dealing with the consequences of current and future macro policy stance

• Even though the international financial system is reacting positively to the “G-20 plan”, as in any financial crisis, confidence is key to keep the positive impulse. • Expansive macro stance will not last forever and may have important long run effects. – Debt accumulation might prove unsustainable. Are low interest rates going to last? – Money creation. It is been argued that there is always time to undo it, but : would we do it in a timely manner? • Inflation? • Reversals in international liquidity?

• The end of the dollar? Overindebtedness and lack of dynamism of US economy. Lack of suitable alternative (chinese?) financial markets prevents the fall. – Growth differentials and size are on China’s side – Commodity markets increasingly linked to China. Increasing demanda for financial chinese development.

Global imbalances have narrowed, but remain high.

Current Account Balance / GDP (%) 12% 10% 8% 6% 4% 2% 0% -2%

1999

2000

2001

2002

2003

2004

2005

2006

-4% -6% -8% China

United States

2007

2008

Global monetary policy remains very expansive

ene-10

sep-09

may-09

ene-09

sep-08

may-08

ene-08

sep-07

may-07

ene-07

sep-06

may-06

ene-06

sep-05

ene-05

5 4,5 4 3,5 3 2,5 2 1,5 1 0,5 0

may-05

Tasas de interés ponderadas (EEUU, Euro, UK, Japón)

Ganado en pie Trigo Soja Arroz Maíz Leche

14/08/2008

31/07/2008

17/07/2008

03/07/2008

19/06/2008

05/06/2008

22/05/2008

08/05/2008

24/04/2008

10/04/2008

27/03/2008

13/03/2008

28/02/2008

14/02/2008

31/01/2008

17/01/2008

03/01/2008

20/12/2007

06/12/2007

22/11/2007

08/11/2007

25/10/2007

11/10/2007

27/09/2007

13/09/2007

30/08/2007

16/08/2007

02/08/2007

19/07/2007

05/07/2007

Anuncio Etanol Bush

21/06/2007

1,2

07/06/2007

24/05/2007

10/05/2007

26/04/2007

12/04/2007

29/03/2007

15/03/2007

01/03/2007

15/02/2007

01/02/2007

18/01/2007

04/01/2007

21/12/2006

07/12/2006

23/11/2006

09/11/2006

26/10/2006

12/10/2006

28/09/2006

14/09/2006

31/08/2006

Rolling correlations of commodity prices with oil show the energy component of commodities

CORRELACIONES MÓVILES DE PRECIOS DE COMMODITIES CON PETRÓLEO

Commodities energéticos

1,0

0,8

0,6

0,4

0,2

0,0

-0,2

-0,4

-0,6

-0,8

-1,0

EMBI IPX

dic-09

1.200 150

1.000

800

600 100

400 50

0 0

Brasil $ Promedio Comm

mar-10

EMBI

dic-09

1.400

sep-09

200

jun-09

1.600

mar-09

1.800

dic-08

250

sep-08

2.000

jun-08

Correlación Ipx y EMBI Argentina

mar-08

IPX

mar-10

dic-09

sep-09

jun-09

mar-09

dic-08

sep-08

jun-08

mar-08

dic-07

sep-07

80

dic-07

60

jun-07

90

sep-07

110

mar-07

100

jun-07

160

dic-06

110

mar-07

260

sep-06

Correlación IPX y EMBI México

dic-06

120

jun-06

130

sep-06

510

mar-06

140

jun-06

410

dic-05

560

dic-05

150

mar-06

210

sep-05

310

EMBI

360

EMBI

mar-10

dic-09

sep-09

jun-09

mar-09

dic-08

sep-08

jun-08

mar-08

dic-07

sep-07

jun-07

mar-07

dic-06

sep-06

jun-06

mar-06

dic-05

sep-05

EMBI 460

sep-05

mar-10

EMBI

sep-09

jun-09

mar-09

dic-08

sep-08

jun-08

mar-08

dic-07

sep-07

jun-07

mar-07

dic-06

sep-06

jun-06

mar-06

dic-05

sep-05

EMBI

Commodity prices have became key to our economies Correlación IPX y EMBI Perú 220

460

200

410 180

360

310

160

260 140

210

160

120

110

100

60 80

IPX

Correlación índice $Prom commodities y EMBI Brasil

200 600 120

500 110

400 100

300 90

200 80

100 70

0 60

Our asset prices have became closely related to commodities

Evolución Índice de bolsas y $commodities promedio 145 120 95 70 45

ene-10

sep-09

may-09

ene-09

sep-08

may-08

ene-08

sep-07

may-07

ene-07

sep-06

may-06

ene-06

sep-05

20

Bovespa Brasil

Argentina - merval

mexico

Chile

Perú

Colombia

Venezuela

Prom. Commodities

Commodity prices and headging • Renewed influence of commodity prices leave the question of its sustainability. It has been pointed out the deutch disease effect of commodities. In such a model an unsustainable rise in prices should be saved. – Agricultural commodities linked to energy prices through biofuel. – Energy component of prices might be temporary • How do we hedge risks? – Design of fiscal rules and stabilization funds on countries that do not have a benchmark commodity like oil or copper. – Portfolio management of Assets and Liabilities. • International Reserves • Debt policy

• Role of prudential regulation and supervision on bubble prevention – How to make pr&s forward looking? Historically crisis have been centered in new type of instruments/markets, that did not fell under the ones regulated on the previous crisis experience. • Potential liability analysis? Colombia and budget provisions • Systemically important operations? • Political economy usually determines narrow windows for regulation adjustment. • Regulation cycles. • Institutional position and incentives. Independent council? • Off balance sheet operations.

– Avoid excessive regulation

Domestic financial markets

• Domestic financial markets play a role in headging real exchang risk that should be fostered. • Need to keep improving the management of domestic monetary policy – It, or It with a different name, but always solid anchoring of inflation expectations and interest rate management.

• Debt policy should focus on long term portfolio management. • Market regulation should step in in cases of market failures. • Dollarized countries should be prepared to cope with portfolio changes.

Dealing with the consequences of the international financial crisis from a SOE: emerging issues. Gerardo Licandro XIV Meeting of the Central Bank researchers Network of the Americas. Salvador, november 11th to 13th 2009