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Finantial Dollarization and Debt Deflation under a Currency Board

  • Eduardo Levy Yeyati
  • Ernesto Schargrodsky
  • Sebastián Galiani

In the late currency board years, Argentina faced a real exchange rate adjustment through price deflation amidst growing devaluation expectations. Using a firm-level panel database to analyze the incidence of these factors on the currency composition of private debt and on firms’ performance, we find that widespread debt dollarization showed no relationship with the firms’ production mix or the ever-changing probability of a nominal devaluation. While relative price changes favored export-oriented firms with the expected impact on sales, earnings and investment, increases in devaluation expectations elicited only a marginal differential response in investment from more financially dollarized firms. Our findings provide support to two criticisms faced by the Argentine currency board in recent years, namely, that by fueling beliefs in an implicit guarantee it stimulated across-the-board debt dollarization, and that it could not fully isolate the economy from real shocks, as the feared balance sheet effect was replaced by a gradual but equally deleterious debt deflation effect.

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Paper provided by Universidad Torcuato Di Tella in its series Business School Working Papers with number tres.

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Length: 33 pages
Date of creation: 12 Sep 2003
Date of revision:
Handle: RePEc:udt:wpbsdt:tres
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