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Dollarization hysteresis, network externalities and the “past legacy” effect: the case of Bolivia

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  • Bernardo X. Fernández Tellería

    (Banco Central de Bolivia)

Abstract

Dollarization in Bolivia rose rapidly immediately after the hyperinflation and currency crisis episode that took place between 1984 and 1985, but failed to reduce and, in fact, continued increasing the following years. In order to explain this dollarization hysteresis, this document proposes and estimates a model, based in the work of Oomes (2003), where network externalities can generate multiple steady-states for dollarization while a so-called past legacy effect increases the likelihood of ending up in a high-dollarization steady-state. The empirical procedure utilizes a more adequate measure of dollarization than the deposit-based ratio, by taking into account a direct estimate of the USD currency holdings in Bolivia thanks to a new source of data. While the empirical results tend to confirm a strong significance of the past legacy effect in this country, the evidence in favour of network externalities seems to rely heavily in the incidence of the past legacy effect over the agents´ formation of exchange rate expectations. Given these results, the document discusses some exchange rate policy implications.

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Bibliographic Info

Article provided by Centro de Estudios Monetarios Latinoamericanos in its journal Monetaria.

Volume (Year): XXX (2007)
Issue (Month): 2 (marzo-abril)
Pages: 167-217

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Handle: RePEc:cml:moneta:v:xxx:y:2007:i:2:p:167-217

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  1. Melvin, Michael & de la Parra, Gonzalo Afcha, 1989. "Dollar currency in Latin America : A Bolivian application," Economics Letters, Elsevier, vol. 31(4), pages 393-397, December.
  2. Joannes Mongardini & Johannes Mueller, 2000. "Ratchet Effects in Currency Substitution: An Application to the Kyrgyz Republic," IMF Staff Papers, Palgrave Macmillan, vol. 47(2), pages 3.
  3. Robert Mundell, 2000. "Currency Areas, Exchange Rate Systems and International Monetary Reform," CEMA Working Papers: Serie Documentos de Trabajo. 167, Universidad del CEMA.
  4. Melvin, Michael, 1988. "The Dollarization of Latin America as a Market-Enforced Monetary Reform: Evidence and Implications," Economic Development and Cultural Change, University of Chicago Press, vol. 36(3), pages 543-58, April.
  5. Alejandro Izquierdo, 2002. "Sudden Stops, the Real Exchange Rate and Fiscal Sustainability in Argentina," The World Economy, Wiley Blackwell, vol. 25(7), pages 903-923, 07.
  6. Nienke Oomes, 2003. "Network Externalities and Dollarization Hysteresis: The Case of Russia," IMF Working Papers 03/96, International Monetary Fund.
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