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From the Great Moderation to the global crisis: Exchange market pressure in the 2000s

  • Aizenman, Joshua
  • Lee, Jaewoo
  • Sushko, Vladyslav

This paper investigates the factors explaining exchange market pressures (EMP) and thehoarding and use of international reserves (IR) by emerging markets during the 2000s, as the GreatModeration turned to the 2008-9 global crisis and great recession. According to our results, bothfinancial and trade factors played important roles, yet the relative magnitude of financial considerationsdominated, both during the Great Moderation and during the crisis. The coefficient of gross short-termexternal debt quintuples during the onset of the crisis, and then gradually declines as we let the crisiswindow roll forward. Capital outflow (induced by global deleveraging) was the force behind theemerging markets EMP rise during the global financial crisis, with the emerging markets’ stock marketsthemselves only playing a secondary role. In addition, emerging markets were greatly affected by thefall in commodity prices during the initial phase of the crisis, although the relative impact of tradefactors remained virtually the same in magnitude during the financial crisis and the Great Moderationperiod that preceded it. We also study the association between several country-level indicators, as of2007, and the EMP measure during the height of the crisis in 2008:Q4 in a cross sectional regression.We found that that richer EMs experienced greater EMP during the crisis. Greater FDI inflows prior tothe crisis were associated with a lower crisis EMP, while greater portfolio debt inflows with a highercrisis EMP, and this effect is much larger than the mitigation effect associated with greater FDI inflows.We conclude with an analysis of the factors that account for the trade and financial exposure ofemerging markets during the crisis, finding that pre-crisis financial and trade openness are significantpredictors of the financial and trade shock during the crisis. The severity of the financial shock wasfurther exacerbated by financial ties to the U.S., while the trade shock was more severe in EMs with alarger commodity export share.

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Paper provided by Department of Economics, UC Santa Cruz in its series Santa Cruz Department of Economics, Working Paper Series with number qt8c75z2pt.

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Date of creation: 01 Oct 2010
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Handle: RePEc:cdl:ucscec:qt8c75z2pt
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  1. Jeffrey A. Frankel & George Saravelos, 2010. "Are Leading Indicators of Financial Crises Useful for Assessing Country Vulnerability? Evidence from the 2008-09 Global Crisis," NBER Working Papers 16047, National Bureau of Economic Research, Inc.
  2. Andrew K. Rose & Mark M. Spiegel, 2010. "Cross-Country Causes and Consequences of the Crisis: An Update," NBER Working Papers 16243, National Bureau of Economic Research, Inc.
  3. Kimura, Fukunari & Takahashi, Yuya & Hayakawa, Kazunobu, 2007. "Fragmentation and parts and components trade: Comparison between East Asia and Europe," The North American Journal of Economics and Finance, Elsevier, vol. 18(1), pages 23-40, February.
  4. Andrew K. Rose & Mark M. Spiegel, 2009. "Cross-Country Causes and Consequences of the 2008 Crisis: International Linkages and American Exposure," NBER Working Papers 15358, National Bureau of Economic Research, Inc.
  5. David Hummels & Jun Ishii & Kei-Mu Yi, 1999. "The nature and growth of vertical specialization in world trade," Staff Reports 72, Federal Reserve Bank of New York.
  6. Aizenman, Joshua & Chinn, Menzie D. & Ito, Hiro, 2010. "The emerging global financial architecture: Tracing and evaluating new patterns of the trilemma configuration," Journal of International Money and Finance, Elsevier, vol. 29(4), pages 615-641, June.
  7. Chinn,M.D. & Ito,H., 2005. "What matters for financial development? : capital controls, institutions, and interactions," Working papers 4, Wisconsin Madison - Social Systems.
  8. Aizenman, Joshua & LEE, JAEWOO, 2005. "International Reserves: Precautionary versus Mercantilist Views, Theory and Evidence," Santa Cruz Department of Economics, Working Paper Series qt2tn4w8x6, Department of Economics, UC Santa Cruz.
  9. Clemente, Jesus & Montanes, Antonio & Reyes, Marcelo, 1998. "Testing for a unit root in variables with a double change in the mean," Economics Letters, Elsevier, vol. 59(2), pages 175-182, May.
  10. Girton, Lance & Roper, Don, 1977. "A Monetary Model of Exchange Market Pressure Applied to the Postwar Canadian Experience," American Economic Review, American Economic Association, vol. 67(4), pages 537-48, September.
  11. James H. Stock & Mark W. Watson, 2002. "Has the Business Cycle Changed and Why?," NBER Working Papers 9127, National Bureau of Economic Research, Inc.
  12. International Monetary Fund, 2009. "Commodity Terms of Trade; The History of Booms and Busts," IMF Working Papers 09/205, International Monetary Fund.
  13. Stephan Danninger & Irina Tytell & Ravi Balakrishnan & Selim Elekdag, 2009. "The Transmission of Financial Stress From Advanced to Emerging Economies," IMF Working Papers 09/133, International Monetary Fund.
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