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Financial and Bank Crisis

The Puzzles of Central and Eastern Europe Transformation and Integration ECES, Prague. Financial and Bank Crisis. Jaromír Šindel ECES.

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Financial and Bank Crisis

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  1. The Puzzles of Central and Eastern EuropeTransformation and Integration ECES, Prague Financial and Bank Crisis Jaromír Šindel ECES

  2. The Puzzles of Central and Eastern EuropeTransformation and Integration ECES, Prague Topics • Crisis Indicators • ... • Interest rate´s behaviour during crisis • 1994, 1997, 1998 • Russian Crisis • Case studies in CEE countries • Hungary, Czech Republic, Estonia • Banking sector

  3. Crisis Indicators • Traditional Indicators • Gross debt / GDP (40 %) • CAB / GDP (-5 %) • Debt service / GDP (5 %) • Debt service / export (25 %) • Shortterm debt / Debt (40 %) • Import Cover (3-6 months)

  4. Crisis Indicators • Modern Indicators • divergence of RER • M2 / International Reserves • Real Export Growth • Real Interest Rate (Risk Premium) • Terms ot Trade • Domestic Credit Expansion

  5. Why high interest rate during crisis – elimination of short selling • Short-selling • Get loan in home currency, spot purchase of foreign currency and make deposit in foreign currency • (1+IRh) = E (ER) / ER * (1+IRf) • Costs on the left side • Yields on the right side

  6. 1994, 1997, 1998 • 1994 Mexican Crisis • Hungary • 1994 Thai Crisis • Czech Republic • 1998 Russian Crisis • The Baltic states, Slovakia Source: A. Babić, A. Žigman: Currency Crises: Theoretical and Empirical Overview of the 1990s .

  7. Currency Crisis in CEE –Hungary • Current account deficit • First of TE countries with serious problem with CA sustainability • 20 % drop of exports in 1993 and 14 % increase of imports • Poor harvest, new bankruptcy law – elimination of many exporting firms • High Foreign Debt from 1970´s • Willingness to pay • High debt service ratio to exports • Stop of FDI inflow in 1994 • Stop privatization before election, but need to finance debt

  8. Currency Crisis in CEE –Hungary • Twin deficit • Fiscal and Current account deficit • High Foreign Debt from 1970´s • Willingness to pay • No real appreciation • Crawling peg • Compare with Czech Crown Source: Frait, Komárek (1998)

  9. Currency Crisis in CEE –Hungary • 1994 Mexican Crisis •  risk aversion in TE • But FX reserves and exchanger rate arrangements • 1995 Stabilization program • Fiscal stabilization, • privatization, • structural reforms

  10. Currency Crisis in CEE –Czech Republic • Current account deficit • 8,3 % of GDP in 1996 • Strong domestic demand and lower productivity (competitiveness, ULC) • Labour producitivity: 136 % 1997/1992 • Labour costs: 163 % 1997/1992 • Real exchange rate appreciation 134 % 1997/1992 • Domestic Credit Expansion • No (no consumption loans, no bubbles) • BUT the bad situation in banking sector was unveal • Substandard (overdue) loans 37 % in 1996 • Privatisation was so far – „Banking socialism“

  11. Currency Crisis in CEE –Czech Republic • Public budget • Expected deficit (surplus for years) no twin deficit like in Hungary (lower attention to danger) • Political situation • Slim majority  unsuccesfull economic pocket • Failed in comparison with Slovakia or Hungary • High Investment Ratio • 30 % of GDP (20-25 % other TE countries) • BUT no equivalent GDP growth • Public investment – energy (nuclear plant) • Environmental investments

  12. Currency Crisis in CEE –Czech Republic • from 1996 „problems“ with short-term capital • Foreign reserves falling from July 1996 • Defense of fixed ER • Increasing ratio of short-term debt to debt • „bad“ mix of Monetary and Fiscal Policy • Reinforced by political situation – slim majority • 1997 Thai Crisis • 30 % of GDP (20-25 % other TE countries) • BUT no equivalent GDP growth • Public investment – energy (nuclear plant) • Environmental investments

  13. Russian Currency Crisis • 1998 was announced emergency economic policies • …, restructuring of public debt, 90-day suspension of paying foreign debt, floating the rouble • Led to a loss in international confidence in Russian fiscal policy, decreased FX reserves, inability to pay off treasury bills • Depreciation of currency and widespread effects on main partners – also Baltic countries – Estonia, Latvia, Lithunia Source: Liz Winters. Effect of Exchange rate Crises – Russian Currency Crisis.

  14. Russian Currency Crisis Nominal Exchange Rate of USD against the russian Rubble, 6/1995-6/1999 (monthly average) Source: A. Babić, A. Žigman: Currency Crises: Theoretical and Empirical Overview of the 1990s .

  15. Export partners before and after the Crisis, 1997-1999 (in %) Russian Currency Crisis - Effects • Russia was one of the main export partners • the drop in the russian demand meant the drop in baltic exports, followed by prodution and GDP Source: Lauri Taro -Baltic economies in 1998-1999: effects of the Russian financial crisis.

  16. Russian Currency Crisis - Effects Change in Industrial Production, 1997-1999 (in %) Source: Lauri Taro -Baltic economies in 1998-1999: effects of the Russian financial crisis.

  17. Russian Currency Crisis - Effects GDP growth, 1996-1999 (in %) Source: Lauri Taro -Baltic economies in 1998-1999: effects of the Russian financial crisis.

  18. Russian Currency Crisis - Effects Source: Lauri Taro -Baltic economies in 1998-1999: effects of the Russian financial crisis.

  19. Russian Currency Crisis–Focus on Estonia • External balance • Current account deficit • Higher than Czech republic in 1996-1997 • Foreign debt • Lower shortterm debt than Czech republic and Slovakia • Low debt service to exports (2 %) x Czech republic (11,9 in 1996) • Internal balance • GDP growth - slowdown before 1997 (to prevent overheating) • Not like in Czech republic („bad“ economy policy mix) • Good fiscal balance • Banking sector • Expansion, but very low everdue loans (restructuring of banking sector after 1992 crisis)

  20. Russian Currency Crisis–Focus on Estonia • Why not in 1994 and 1997 • Currency board had a strong credibility • In Lithunia devaluation x no in Estonia • Important in 1994 and 1997 • Current account = trade balance + income balance + … • In 1996-1997 income balace of 20 % of current account deficit • Most of it back as capital inflow • Low share in foreign investor´s portfolios • Very small economy small need of capital low share in foreign investor´s portfolios

  21. Currency Crisis in CEE countries International Reserves, 1991-1998 (in million USD) Source: A. Babić, A. Žigman: Currency Crises: Theoretical and Empirical Overview of the 1990s .

  22. Currency Crisis in CEE countries Nominal exchange rate of the dollar against national currencies, 1991-1998 Source: A. Babić, A. Žigman: Currency Crises: Theoretical and Empirical Overview of the 1990s .

  23. Currency Crisis –change of Currency regimes • Czech republic • From fixed to managed float after 1997 Thai Crisis • Slovakia • From fixed to managed float after 1998 Russian Crisis • Bulgaria • From managed float to currency board • Baltic states • No change

  24. The Puzzles of Central and Eastern EuropeTransformation and Integration ECES, Prague Bank sector – foreign owners and overdue loans Share of foreigners on equity in Czech Rep. and Hungary, 1993-1998 (in % at the end of year) Overdue loans in Hungary and Czech rep., 1993-1998 (% of all loans) Note: Maďarsko = Hungary, ČR = Czech Republic. Source: Polouček (1999) and Srholec, M. (2001), from Schejbal, J. (2002)

  25. The Puzzles of Central and Eastern EuropeTransformation and Integration ECES, Prague Lessons for future. • What to do with banking sector at Cuba and China? • Goals, solutions, reasons. • State, private, foreign, bad loans, … • http://www.eizg.hr/hr/publikacije-fs/survey/6-chapter5.pdf

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