Dollarization

Erica Vega

Marlene Mata

Dollarization Adopting a foreign currency of choice in a

country in parallel to or instead of the domestic currency. For example Ecuador's adoption of the US dollar

as their own currency. Dollarization does not only occur with the US

dollar. Other foreign currencies can be use by other countries for official dollarization.

Foreign Currencies Adopted by Other Countries

European- Euro New Zealand- Dollar Swiss- Franc Indian- Rupee Australian-Dollar US- Dollar

Types of Dollarization Unofficial:

Individuals prefer large transactions and savings in dollars.

While using domestic currency in small transactions.

Official:   Government completely replaces local currency

with foreign currency.

Why Dollarization? Promotes fiscal discipline and greater

financial stability Protect themselves against high inflation in

the domestic currency

Dollarized Countries

Country Year

Panama 1904

Argentina 1999

Ecuador 2000

El Salvador 2001

Ecuador’s Economy Highly dependent of its production and

exports of raw products such as; Bananas Cocoa Coffee Shrimp Oil (primary export)

Primary Export-Oil Finance new public services Infrastructure Ecuador's dependency on oil left the nation at

the mercy of fluctuations in world market prices.

Problems The collapse of oil prices sent Ecuador’s

economy into a crisis. Suffered from inflation Increased debt services Uncompetitive industries

In order to weight out the collapse of oil prices the Government began to borrow large amounts of money

Natural Disasters El Nino phenomenon along with other natural

disasters had a negative effect on key exports such as; Shrimp Bananas

Also damaging their agricultural economy and parts of their infrastructure

Internal/External Factors Asian economic meltdown affected oil prices Collapse of the Brazilian economy Political and Social instability within the

country Corruption within the Political Elites

Ecuador’s Crisis The sucre (Ecuador’s currency) fell into

hyper-inflation The country defaulted on its foreign debt The entire banking sector collapsed

Ecuadorians rushed to put their accounts into a more stable currency such as the US dollar

Leading to the President’s decision to officially replace the country’s currency with the US dollar

Conversion In 2000 the Ecuadorian Government began

exchanging sucres for dollars at the rate ofS/25,000 = $1

By the end of the year the sucre disappeared completely from circulation

Government’s Actions Began a policy of currency devaluation to

“inflate away” the country’s internal debt and lower product prices.

Increase competition on the foreign market Involvement with the IMF

Reduce fiscal deficit Implement structure reforms for banking systems Regain access to private capital markets

Ecuador's Economic Growth

-10

-8

-6

-4

-2

0

2

4

6

8

1999 2000 2001 2002 2003 2004 2005

Year

Eco

no

mic

Gro

wth

%

Hidden Problems However strong macroeconomic figures hide

serious problems in the micro-economy. Jobs are hard to find The cost of living is high Obtaining credit is expensive Interest rates of around 20%

Economic Indicators 1998 1999 2000 2001 2002

Real GDP 2.1 -6.3 2.8 5.1 3.4

Exchange Rate 6825 20243 Dollarized

Exports (millions) 4202 4451 4927 4678 5192

Advantages of Dollarization Stabilizes inflation Stabilizes overall economy Sustains the buying power Significant economic growth

Disadvantages Government can no longer make its own monetary

decisions Monetary policy is made by the Federal Reserve

Board Decisions made by the Fed might not be at country’s

best interest Competitive disadvantage to its trading partners

because it cannot make its goods cheaper by devaluating its currency

People can be unfamiliar with the currency making it easier for counterfeiting

Conclusion Dollarization does nothing to resolve core

problems that are affecting Ecuador's economy:

Lack of infrastructure Massive internal and external debt Continued political instability Corruption