Does the contagion effect of the Balance of Payment (BoP) crisis exist? Ukrainian case

1. Does the contagion effect of the Balance of Payment (BoP) crisis exist? Ukrainian case Khomiak Vasyl vasylkhomiak@gmail.com, Taras Shevchenko National university of Kyiv Shaping Europe 2020: Socio-Economic Research Bucharest, November, 2013

2. Definition The BoP crisis is a sharp decrease of the national currency in result of speculative pressure or capital outflow and/or decrease of the National reserves of the Central bank. (Kaminsky, Reinhart 1996)

3. Research Contribution • The BoP crisis is formalized for Ukraine by the EMP index; • Hypothesis of contagion effect impact on Ukraine are tested.

4. Brief Theory: Models 1-st generation: change in macroeconomic fundamentals is the main reason of crisis (Krugman 1979); 2-nd generation: the BoP crisis is self-fulfilling and pessimistic expectation. Behavior can be a trigger (Obstfield 1994); 3-rd generation: contagion effect as crisis trigger, “twin-crisis” – banking and the BoP crisis (Krugman 1999, Eichengreen 2005, Wyplosh);

5. Literature Review-1 • Eichengreen, Rose, Wyplozh (1997), Contagion currency crisis • Krugman Paul,(1979), “A Model of Balance-of-Payment Crisis”(Basement of EWS); • Maurice Obstfeld, (1994),“The Logic of Currency Crisis” (Models of 2-nd generation); • Kaminsky, Lizondo, Reinhart, (1998), “Leading Indicators of Currency Crisis”; • Lestano, Kuper (2005) “Currency crises in Asia: a multivariate logit approach”

6. Literature Review-2 • Reinhart, Rogoff, (2009), “The Aftermath of Financial Crisis – Set of Indicators”- Asian case; • Cuaresma, Jesýs, Slacik, (2008), “Determinants of Currency Crises: A Conflict of Generations?”; (Binary variable, Bayesian model) • IMF WP (2004): Autocorrelation-Corrected Standard errors in panel Probits: An Application to Currency Crisis Prediction; • ECB (2006): Are emerging currency crisis predictable?

7. Literature Review-3 • Lestano, Kakub, Kuper (2003) “Indicators of financial crisis do work. An early-warning system for six Asian countries”-PCA; • The IMF-FSB early warning exercises, design and toolkit, 2010; • Furceri, Guiochard, Rusticelli, OECD (2011) “Episodes of large capital inflows and the likelihood of banking and currency crisis and sudden stops”

8. Approaches to model Exchange market pressure index

9. Exchange market pressure index, Ukraine where rmi,t – reserves of the National bank of Ukraine in international currency; – standard deviation of reserves of the National bank of Ukraine; ei,t – real effective exchange rate; – standard deviation of REER. Ii,t - interest rate of the interbank market - standard deviation of the interest rate of the interbank market

10. EMP Index, Ukraine

11. General Model where emp_rus, emp_pln - exchange market pressure index calculated for Russia and Poland that shows impact of crisis from neighboring countries. 3 month LIBOR interest rate is taken to include interest rate of USA as the one of the main market player on the global level. CRU index represents trend on the metal market that is important to Ukraine as export-oriented country where metal export has the highest share. WTI price is an indicator of the commodity market energy sources. High energy consuming of Ukraine industry means that volatility of energy prices impacts on Ukraine import. Current account deficit measured as percent from GDP is an indicator of the strength of external position. CPI, interest rate and GDP represent fundamentals and internal economic state. PFTS index shows how attractive our market for foreign investors.

12. Estimation output-1

13. Prediction power of estimated models

14. Estimation output, impact of partner countries

15. Impulse function

16. Conclusion-1 • Deep integration of Eastern European countries by trade links and foreign capital entry to banking and real sectors makes such emerging countries as Ukraine, Poland, Romania etc more disposed to be "infected" by the contagion effect of the Balance of Payment crisis. • Evolution of the BoP crisis shows that fundamentals don't play leading role in its prediction anymore, but investor’s behavior and inflow of capital closely connected with world conjuncture have high prediction power.

17. Conclusions-2 • Any shock of partner countries, especially who is member of the European Union with high probability would have impact on Ukraine during crisis period. • If the crisis is not caused by price decline on commodity markets, highly likely that crisis in neighbor country caused by fundamentals or internal behavior expectations would not be imported to Ukraine.