IDEAS home Printed from https://ideas.repec.org/p/wop/stanec/98004.html
   My bibliography  Save this paper

International Overborrowing: A Decomposition of Credit and Currency Risks

Author

Listed:
  • Ronald I. McKinnon
  • Huw Pill

Abstract

February 1998 The severity of the financial crises enveloping the ‘tiger’ economies of South East Asia in 1997 came as a surprise to many observers. This paper uses a simple Fisherian model of the ‘overborrowing syndrome’ to compare the Asian crises of 1997 with earlier overborrowing episodes in Mexico and Chile. While important similarities exist, the crises in South East Asia have been exacerbated by the unhedged foreign exchange positions of Asian banks. These open currency positions not only imposed significant additional losses on the banks following devaluation, they also magnified the scale of overborrowing during the cycle’s initial boom phase. Failure to limit the exposure of banks to foreign exchange risk therefore increased the magnitude of the boom - bust overborrowing cycle both ex ante and ex post. The paper highlights the importance of effective regulation and supervision of capital markets, with a focus on limiting the speculative currency positions of banks, especially those that form the core of the domestic payments system and therefore enjoy a (possibly implicit) public guarantee. Improving the institutional infrastructure of financial supervision is the only effective way of mitigating the macroeconomic costs of overborrowing. JEL Classification: O16, F32, F34, E44. Keywords: Overborrowing, capital flows, financial crises, sectoral credit.

Suggested Citation

  • Ronald I. McKinnon & Huw Pill, 1998. "International Overborrowing: A Decomposition of Credit and Currency Risks," Working Papers 98004, Stanford University, Department of Economics.
  • Handle: RePEc:wop:stanec:98004
    as

    Download full text from publisher

    File URL: http://www-econ.stanford.edu/faculty/workp/swp98004.pdf
    Download Restriction: no

    Other versions of this item:

    References listed on IDEAS

    as
    1. Michael Gavin & Ricardo Hausmann, 1996. "The Roots of Banking Crises: The Macroeconomic Context," Research Department Publications 4026, Inter-American Development Bank, Research Department.
    2. repec:idb:wpaper:318 is not listed on IDEAS
    3. Obstfeld, Maurice, 1996. "Models of currency crises with self-fulfilling features," European Economic Review, Elsevier, vol. 40(3-5), pages 1037-1047, April.
    4. Kurz, Mordecai, 1994. "On the Structure and Diversity of Rational Beliefs," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 4(6), pages 877-900, October.
    5. Carmen M. Reinhart & Graciela L. Kaminsky, 1999. "The Twin Crises: The Causes of Banking and Balance-of-Payments Problems," American Economic Review, American Economic Association, pages 473-500.
    6. Cho, Yoon Je, 1986. "Inefficiencies from Financial Liberalization in the Absence of Well-Functioning Equity Markets," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 18(2), pages 191-199, May.
    7. Conley, John P. & Maloney, William F., 1995. "Optimal sequencing of credible reforms with uncertain outcomes," Journal of Development Economics, Elsevier, vol. 48(1), pages 151-166, October.
    8. Ronald I. McKinnon & Huw Pill, 1996. "The overborrowing syndrome: are East Asian economies different?," Proceedings, Federal Reserve Bank of San Francisco, pages 322-355.
    9. McKinnon, Ronald I., 1982. "The order of economic liberalization: Lessons from Chile and Argentina," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 17(1), pages 159-186, January.
    10. McKinnon, Ronald I & Pill, Huw, 1997. "Credible Economic Liberalizations and Overborrowing," American Economic Review, American Economic Association, vol. 87(2), pages 189-193, May.
    11. Frankel, Jeffrey A, 1992. "Measuring International Capital Mobility: A Review," American Economic Review, American Economic Association, vol. 82(2), pages 197-202, May.
    12. Michael Gavin & Ricardo Hausmann, 1996. "The Roots of Banking Crises: The Macroeconomic Context," IDB Publications (Working Papers) 6067, Inter-American Development Bank.
    13. Ronald I. McKinnon & Huw Pill, 1996. "Credible Liberalizations and International Capital Flows: The "Overborrowing Syndrome"," NBER Chapters,in: Financial Deregulation and Integration in East Asia, NBER-EASE Volume 5, pages 7-50 National Bureau of Economic Research, Inc.
    14. Michael Gavin & Ricardo Hausmann, 1996. "The Roots of Banking Crises: The Macroeconomic Context," Research Department Publications 4026, Inter-American Development Bank, Research Department.
    15. Diaz-Alejandro, Carlos, 1985. "Good-bye financial repression, hello financial crash," Journal of Development Economics, Elsevier, vol. 19(1-2), pages 1-24.
    16. Maurice Obstfeld, 1994. "The Logic of Currency Crises," NBER Working Papers 4640, National Bureau of Economic Research, Inc.
    17. Rudiger Dornbusch & Alejandro Werner, 1994. "Mexico: Stabilization, Reform, and No Growth," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 25(1), pages 253-316.
    18. Peter M. Garber & Subir Lall, 1996. "Derivative products in exchange rate crises," Proceedings, Federal Reserve Bank of San Francisco, pages 206-231.
    19. Fukuda, Shin-ichi & Hoshi, Takeo & Ito, Takatoshi & Rose, Andrew, 2006. "International Finance," Journal of the Japanese and International Economies, Elsevier, vol. 20(4), pages 455-458, December.
    Full references (including those not matched with items on IDEAS)

    More about this item

    Keywords

    Overborrowing; capital flows; financial crises; sectoral credit;

    JEL classification:

    • O16 - Economic Development, Innovation, Technological Change, and Growth - - Economic Development - - - Financial Markets; Saving and Capital Investment; Corporate Finance and Governance
    • F32 - International Economics - - International Finance - - - Current Account Adjustment; Short-term Capital Movements
    • F34 - International Economics - - International Finance - - - International Lending and Debt Problems
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:wop:stanec:98004. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Thomas Krichel). General contact details of provider: http://edirc.repec.org/data/destaus.html .

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service hosted by the Research Division of the Federal Reserve Bank of St. Louis . RePEc uses bibliographic data supplied by the respective publishers.