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Sudden stops, external debt and the exchange rate

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    Abstract

    New Zealand has accumulated substantial liabilities against the rest of the world reflecting persistent current account deficits over the past 30 years. International evidence suggests that when international creditors become unwilling to continue to fund a country’s external liabilities (a situation known as a ‘sudden stop’), the consequences for an economy can be severe. Adjustment has tended to be more painful and disruptive for countries where debt is foreign currency denominated, or in those without an independently floating national currency. This article argues that a disruption to New Zealand’s access to external funding could be less disruptive due to the country’s freely-floating exchange rate and the fact that the external debt is, in effect, denominated primarily in New Zealand dollars (NZD). The nature of New Zealand’s exports suggests that an exchange rate depreciation would help to adjust New Zealand’s trade balance relatively rapidly, which would assist in placing the country’s net f oreign liabilities on a more sustainable path and rebuilding market confidence in New Zealand investments.

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    File URL: http://www.rbnz.govt.nz/research_and_publications/reserve_bank_bulletin/2011/2007_2011/2011dec74__4HargreavesWatson.pdf
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    Bibliographic Info

    Article provided by Reserve Bank of New Zealand in its journal Reserve Bank of New Zealand Bulletin.

    Volume (Year): 74 (2011)
    Issue (Month): (December)
    Pages: 1-11

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    Handle: RePEc:nzb:nzbbul:dec2011:3

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    1. Bussière, M. & Delle Chiaie, S. & Peltonen, T. A., 2013. "Exchange Rate Pass-Through in the Global Economy," Working papers 424, Banque de France.
    2. Murray, John, 1999. "Why Canada Needs a Flexible Exchange Rate," Working Papers 99-12, Bank of Canada.
    3. Carmen M. Reinhart & Kenneth S. Rogoff, 2008. "The Forgotten History of Domestic Debt," NBER Working Papers 13946, National Bureau of Economic Research, Inc.
    4. Bussière, Matthieu & Peltonen, Tuomas, 2008. "Exchange rate pass-through in the global economy – the role of emerging market economies," BOFIT Discussion Papers 25/2008, Bank of Finland, Institute for Economies in Transition.
    5. Joseph E. Gagnon, 2005. "Currency crashes and bond yields in industrial countries," International Finance Discussion Papers 837, Board of Governors of the Federal Reserve System (U.S.).
    6. Carmen M. Reinhart & M. Belen Sbrancia, 2011. "The Liquidation of Government Debt," NBER Working Papers 16893, National Bureau of Economic Research, Inc.
    7. David Drage & Anella Munro & Cath Sleeman, 2005. "An update on Eurokiwi and Uridashi bonds," Reserve Bank of New Zealand Bulletin, Reserve Bank of New Zealand, vol. 68, September.
    8. Anne-Marie Brook & David Hargreaves, 2000. "A macroeconomic balance measure of New Zealand's equilibrium exchange rate," Reserve Bank of New Zealand Discussion Paper Series DP2000/09, Reserve Bank of New Zealand.
    9. David Hargreaves & C John McDermott, 1999. "Issues relating to optimal currency areas: theory and implications for New Zealand," Reserve Bank of New Zealand Bulletin, Reserve Bank of New Zealand, vol. 62, September.
    10. Catherine Schenk & John Singleton, 2007. "New Zealand’s Exchange Rate Regime, the Collapse of Bretton Woods,and the Twilight of the Sterling Area," WEF Working Papers 0030, ESRC World Economy and Finance Research Programme, Birkbeck, University of London.
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