coherence and coordination of macroeconomic policies global and regional framework

REGIONAL FUNDS ENHANCE STABILITY AND WELFARE

Coherence and Coordination of Macroeconomic Policies

Global and Regional Framework

ECOSOC, Geneva, July 2, 2007

Ana María CarrasquillaActing Executive President


Regional Reserve Funds _01

Latin American Reserve Fund (FLAR) _ 02

The Role of FLAR: the Current Debate _ 03

FLAR and the Coordination of Macroeconomic Policy _ 04

Conclusions _ 05


Due to the greater interdependence among countries in the financial and

trade areas, international policies are required to contribute to national

efforts, promoting poverty- and inequality-reducing growth.

In line with this aim, coordination of macroeconomic policies plays a key role

in the creation of stable conditions for growth.

At the regional level, developing economies should generate financial

support mechanisms that not only allow protection against adverse shocks

and illiquidity, but also encourage cooperation and macroeconomic

coordination.

Introduction


01 Regional Reserve Funds


Why Pooling?

• Create a shared insurance against current account crises.

• Help to establish stronger national and international financial

systems.

• Stimulate introduction of contingent lines of credit to limit the

vulnerability of emerging markets to financial crisis.

Regional Reserve Funds


Why Pooling?

• Use reserves as insurance against:

– Shocks on exchange rate, terms of trade and current account.

– Changes in global or local growth conditions.

– Sudden stops.

• Calvo (2005): sudden stops (SS) could reflect inefficiencies in the international financial markets => global fund to assist economies that face SS.

• If SS are infrequent and affect different countries at different moments, self-insuring by acumulating reserves could be expensive.



Why a Regional Fund?

• Action could be faster and better timed.

• Greater knowledge of the economic and political situation.

• Higher level of confidence and cooperation.

• Reputation and moral commitment: institution owners club.

• Fewer requirements of conditionality => credit and payment negotiations are more

expeditious.

• Complement of other multilateral efforts.

• Possible disadvantages: limited capacity to provide financial assistance in

simultaneous adverse shocks and moral hazard problems (Surveillance and SS).



The Asian Experience• Asian Surveillance Process (ASP) (1999).

• ASEAN countries, China, Japan and Korea agreed the Chiang Mai Initiative (CMI) (2000).

– Core objectives

• to address short-term liquidity difficulties in the region.

• to supplement the existing international financial arrangements.

– Network of bilateral swap arrangements.

– Bilateral Swap Arrangement (BSA) network has increased to USD 80 billion, consisting of 16

BSAs among 8 countries.

– In May 2007, Finance Ministers agreed in principle that a self-managed reserve pooling

arrangement governed by a single contractual agreement is an appropriate form of

multilateralisation, proceeding with a step-by-step approach.

• Asian Bond Markets Initiative (ABMI) (2003).



Latin American Experience

• ECLAC: Surveillance of regional macroeconomic and financial performance.

• Latin American Reserve Fund (FLAR): balance-of-payments, foreign debt restructuring, liquidity, contingent and treasury loans.

• These initiatives have been less ambitious and visible than Asia’s.

Latin American Reserve Fund (FLAR)


02 Latin American Reserve

Fund (FLAR)


FLAR

Member Countries: Bolivia, Colombia, Costa Rica, Ecuador, Peru, and Venezuela

Subscribed Capital (as of May 2007): USD 2.1 billion

Paid-in Capital (as of May 2007): USD 1.54 billion

Costa Rica: USD 147.7 million

Bolivia and Ecuador: USD 174.1 million each

Colombia, Peru, and Venezuela: USD 348.2 million each

Population (2006 estimate): 124.4 million

GDP (2006 estimate): USD 485 billion

International Reserves of Member Countries (as of May 2007): USD 76.9 billion



Objectives of FLAR

• Support the balance of payments of member countries by granting loans

or guaranteeing third-party loans.

• Contribute to the harmonization of exchange rate, monetary, and

financial policies of member countries.

• Improve the conditions of international reserve investments made by

member countries.



Services to Central Banks

Type of Credit Term Availability

Limits 1Granted by

Balance of Payments

3 years, including 1-year grace period for capital amortization

2.5 times the paid-in capital

Board of Directors

Foreign Debt Restructuring

3 years, including 1-year grace period for capital amortization

1.5 times the paid-in capital

Board of Directors

Liquidity Until 1 year 1 time the paid-in capital

Executive President

Contingent 6 months that may be extended

2 times the paid-in capital

Executive President

Treasury 1-30 days 2 times the paid-in capital

Executive President

1 In the case of Balance of Payments, foreign debt restructuring, liquidity, and contingent loans,the Central Banks of Bolivia and Ecuador can obtain 0,1 times more than the other membercountries.


REGIONAL FUNDS ENHANCE STABILITY AND WELFARELatin American Reserve Fund (FLAR)

FLAR: Granted Credits Per Year (Liquidity Credits included)

-

50

100

150

200

250

300

350

400

450

500

550

600

650

700

1978

1980

1982

1984

1986

1988

1990

1992

1994

1996

1998

2000

2002

2004

Mil

lio

n o

f U

SD

Bolivia Colombia Costa Rica

Ecuador Peru Venezuela

REGIONAL FUNDS ENHANCE STABILITY AND WELFARELatin American Reserve Fund (FLAR)

1/ For porpuses of debt restructuring. Ecuadorian financial system crisis.2/ For porpuses of debt restructuring. There was not crisis in Costa Rica.

FLAR: Credits Granted during Crisis Periods

-

50

100

150

200

250

300

350

400

450

500

550

600

650

700

1978

1979

1980

1981

1982

1983

1984

1985

1986

1987

1988

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

Mil

lio

n o

f U

SD

Bolivia Colombia Ecuador

Peru Venezuela Costa Rica

Foreign Debt Crisis

Asian Crisis Hiperinflation Oil Strike

2/

1/


Other Services to Central Banks and Official Institutions of Member

Countries


-

300

600

900

1.200

1.500

1.800

2.100

Dec-04 Dec-05 Dec-06 May-07

Deposits

Asset and trust management

Legal, financial, risk and operational mamagement, advisory services

Mill

ion

of

US

D


03The Role of FLAR: the Current Debate


How to Increase the Capacity of FLAR to Enhance Stability?

• Increasing the paid-in capital by member countries.

• Incorporating new members (increase of potential demand).

– Uruguay has formally requested its entrance into FLAR and we expect to have it as a full

member by year-end 2007.

• Leverage: medium-term liabilities, maintaining a positive differential between yields of liquid and

aceptable risk investments and costs of deposits, so that the Statement of Income is not

negatively affected (Urrutia, 2006).

– FLAR has increased its liabilities, including issues in the international market.

The Role of FLAR: the Current Debate


How to Increase the Capacity of FLAR to Enhance Stability?

FLAR has conducted two issues in the international market, under favorable conditions.


FLAR Credit Rating

AA Composed Rating: Highest in Latin America

Moody’s: Aa2 /Stable/ P-1

Standard and Poor’s: AA-/Positive/A-1+

Year Amount (Million

of USD) Term Coupon Maturity Lead Managers

2003 150 3 years Fixed: 3% August 2006 USB and BNP

2006 250 5 years

Floating: 3 months Libor + 20 basis

points February 2011 Citigroup and Morgan Stanley

REGIONAL FUNDS ENHANCE STABILITY AND WELFAREThe Role of FLAR: the Current Debate

What else Could Be Done?

Use a portion of the regional reserves to promote the development of financial markets and instruments that increase the capacity to resist capital flows volatility (Eichengreen, 2006).

Motivation:

- The lack of liquid and deep markets for instruments with returns negatively correlated with the domestic economic conditions increases financial fragility.

- External intervention is necessary as a way to improve the operation of these markets.


What else Could Be Done?

• Example: Asian Bond Fund (ABF)

- Allocate one fraction of the countries’ reserves to buying government securities, both in foreign

(ABF-I) and local currency (ABF-II) => increase the liquidity and volume of transactions.

- Create regional bond market indexes => surveillance by investors .

• Several instruments have been recommended for Latin America:

– CPI-indexed bonds in local currency. Their payments do not increase if there is a deterioration

in the exchange rate and/or the terms of trade (Eichengreen and Hausmann, 2005; Machinea

and Titelman, 2006).

– GDP-indexed bonds (Borensztein and Mauro, 2004; Machinea and Titelman, 2006).

– Commodity-indexed bonds (Caballero, 2001).

For them to be attractive to investors, the markets must be liquid and the indexation indicators free from

manipulation (delegated to third-party agents).



04 FLAR and the Coordination of

Macroeconomic Policy


• FLAR promotes technical activities in the region by participating in forums,

conferences, and technical discussion groups about topics and problems

relevant to our economies.

• FLAR International Conferences:

– 2006: “The Role of Regional Funds in Macroeconomic Stabilization”

– 2007: “International Reserves in Middle- and Low-Income Countries:

Background of Recent Accumulation, Management, Monetary and

Exchange Rate Policy, and Outlook”

FLAR and the Coordination of Macroeconomic Policy


• FLAR is part of the Permanent Technical Group (PTG) of the Andean

Community (CAN). PTG supervises the convergence goals regarding public

finances and inflation of the CAN member countries (Bolivia, Colombia,

Ecuador, and Peru). Chile has recently joined as an asociate member.

• In the last meeting (March 2007), representatives from each CAN member

country, Chile, ECLAC, FLAR and the private sector described the

performance of the CAN convergence goals during 2006.

– All member countries have achieved one digit inflation.

– Since 2005, member countries achieved Non Financial Public Sector deficit below

3% of GDP.



• FLAR participates in the Network for Macroeconomic Dialogue

Project (REDIMA). This project was launched by ECLAC, in 2000,

and it has the financial and technical support of the European

Union.

• REDIMA is a communication and dialogue tool available to

macroeconomists of central banks, and finance or economy

ministers in Latin America. Its aim is to support regional integration

by promoting macroeconomic dialogue and cooperation among the

countries of each sub-region.



05Conclusions


•FLAR has a key role in the promotion of the stability and welfare of member

countries.

• FLAR is complementary to the task of other global funds. Accordingly, any

initiative, reinsurance or development of financial markets, must be coordinated

with the global institutions.

•FLAR could become a mechanism for development of local financial markets

and instruments.

Conclusions


• FLAR has a limited capacity to provide assistance in a simultaneous crisis. This

capacity could be increased with financing through markets, increasing

membership and services. We are working successfully on all fronts.

•FLAR plays an important role in macroeconomic coordination through

macroeconomic dialogue groups.

•Much more has to be done.

Conclusions


Coherence and Coordination of Macroeconomic Policies

Global and Regional Framework

ECOSOC, Geneva, July 2, 2007

Ana María CarrasquillaActing Executive President

coherence and coordination of macroeconomic policies global and regional framework

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