the determinants of deposit euroization in european post-transition countries 29/06/2011 dubrovnik,...

29/06/2011Dubrovnik, Croatia

Marina Tkalec17th DEC - YES

The determinants of deposit euroization in European post-transition countries

The determinants of deposit euroization in European post-transition countries:

evidence from threshold VAR

Marina Tkalec

Institute of Economics, Zagreb




Content

• Financial euroization

• Contribution

• Data and methodology

• Results

• Policy recommendations




Financial euroization Contribution Data and methodology Results

• unofficial euroization is a result of voluntarily using foreign currency for different money functions (Feige and Dean, 2002)

• DE is a result of households, government and enterprises saving in foreign currency

• CE is a result of banks’ behaviour of granting loans in foreign currency or linked to foreign currency

UNOFFICIALEUROIZATION

CURRENCYSUBSTITUTION

ASSETSUBSTITUTION

FINANCIALEUROIZATION

(FE)

DEPOSITEUROIZATION

(DE)

CREDITEUROIZATION

(CE)





• came with high inflation rates in 1980s’ and persisted with the exchange rate as the nominal anchor (Mishkin, 2000; Frankel, 2010)

• exchange rate based monetary regimes continued to persist (currency boards, pegs, fixed, managed or even dirty floating exchange rate regimes)

• “fear of floating” (Calvo and Reinhart, 2002) central banks’ reluctance to allow the exchange rate to adjust significantly and rapidly resulting in episodes of central bank interventions aimed at avoiding major devaluation shifts

• high levels of FE limit the choices for monetary policy makers large exchange rate depreciations increase the cost of servicing foreign currency denominated debt (Reinhart, Rogoff and Savastano, 2003)

• Chang and Velasco (2002) find that detaining depreciation eventually pushes output down

• Cabral (2010) warns of larger employment losses under “fear of floating”

• Tsangarides (2010) reports that pegs have been recovering much slower than floaters in the latest 2010-2011 recovery phase

• FE is one of the biggest weaknesses in European post-transition economies




• Theoretical determinants of FE (Levy-Yeyati, 2003.):

T1 portfolio view FE is an outcome of minimum variance portfolio choices, taking returns on various curencies into consideration

T2 market failure view FE is a result of moral hazard induced by aysmmetric information

T3 institutional view FE is a consequence of domestic market and legal framework imperfections; weak institutional framework and

low level of confidence in economic policy encourage policy makers to build confidence through exchange rate anchoring





• Research on FE determinants:

PANEL DATA ANALYSIS• DE: real exchange rate (+), exchange rate volatility (-) (Kokeyne, Ley and Veyrune, 2010)• DE: interest rate differential (-), access to foreign funds (-) (Basso, Calvo-Gonzales and

Jurgilas, 2011)• DE: interest rate differential (+), exchange rate volatility (-) (Luca and Petrova, 2008)• FE: large depreciations have a negative affect on the pass-through coefficient with the

impact being higher the higher the level of euroization (Carranza, Cayo and Galdón-Sanchez, 2003)

• FE: increased access to global capital markets (Reinhart, Rogoff and Savastano, 2003), closeness to the European Union (ECB, 2010; Neanidis, 2010), country size (Rosenberg and Tirpák, 2008)

TIME SERIES ANALYSIS• FE: role of underdeveloped domestic financial markets (Feige, 2002; Levy Yeyati, 2003)• FE in Croatia: massive arbitrage opportunities Šošić (2007)

MICRO DATA ANALYSIS• FE: remittances and income from tourism and underdevelopment of domestic financial

markets (Stix, 2010)





• FE decreases very slowly in periods of macroeconomic stability but increases swiftly in periods of economic uncertainty

• exchange rate depreciations seem to push FE strongly and quickly while the opposite exchange rate changes have a much more moderate impact regime/threshold dynamics transaction costs

NONLINEAR:• DE: positive short-run effects of depreciations decrease with the level of

euroization, interest rate differentials (-), they use an index of asymmetry of exchange rate movements (Neanidis and Savva, 2009)

• FE in Croatia: nominal exchange rate (-), they use threshold cointegration (Ivanov, Tkalec and Vizek, 2011); no possibility of diverse DE responses to exchange rate appreciations/depreciations





DE in European post-transitionBelarus pegged

within horizontal

bands

57%

Bulgaria currency board

55%

Croatia stabilized arrangement

80%

Czech

Republic

free floating 11%

47%

54%

61%

68%

75%

Jan-04 Jan-10

50%

53%

56%

59%

Jan-03 Jan-09

64%

71%

78%

85%

Jul-95 Jul-01 Jul-07

8%

10%

12%

14%

16%

Jan-99 Jan-05




DE in European post-transitionHungary managed

floating 22%

Latvia pegged to euro

78%

Lithuania currency board

31%

Macedonia stabilized arrangement

51%

15%

18%

21%

24%

27%

Jan-99 Jan-05

70%

74%

78%

82%

Jan-02 Jan-08

20%

27%

34%

41%

Jan-99 Jan-05

43%

47%

51%

55%

59%

Jan-05




DE in European post-transitionPoland free floating 20%

Romania managed floating

37%

Serbia managed floating

67%

Turkey free floating 40%

17%

20%

23%

Jan-99 Jan-05

32%

35%

38%

41%

May-05

60%

64%

68%

72%

76%

Jan-04 Jan-10

28%

36%

44%

52%

Jan-99 Jan-05




• we investigate monetary determinants of deposit euroization in European post-transition economies

• DE determinants: exchange rates and differences between domestic and euro interest rates

• linear (cointegration) and threshold (TVAR) models (Koop, Pesaran and Potter, 1996; Balke, 2000)

• we test for the presence of threshold effects with respect to the level of DE

Q1 What kind of threshold effects characterize an economy with a high level of DE?

Q2 And if existing, how do these nonlinearities differ with respect to the prevailing exchange rate regime and/or the DE level?






C1 New insights into the origins, characteristics and consequences of DE in European post-

transition economies since we model monetary determinants of DE

C2 Scarce existing research on FE that tests for nonlinear or threshold effects

C3 We test whether the determinants of DE behave in a nonlinear fashion





DATA:• deposit euroization (DE), nominal exchange rate (NER)/real

exchange rate (RER) and interest rate differential (IRD)• monthly observations, seasonally adjusted (X12ARIMA), DE and

NER/REER in logarithms• stationary in first differences (ADF)

LINEAR METHOD:• Johansen cointegration

NONLINEAR METHOD:• Threshold Vector Autoregression (TVAR)• Generalized impulse response functions





• transition variable separates the baseline VAR into different regimes (Hansen 1996, 1997; Tsay 1998)

• VAR model adjusted for the threshold specification:

• gamma - coefficient matrices

• - error matrix

• - threshold variable with d being a possible time lag

1 2Γ Γ *t t t t d ty X X I z z u

1(1, ,..., )'t t t jX y y

tu

t dz

1 if *

0 if *

t d

t d

z

z

zI

z





• Hansen linearity test (Hansen, 1996, 1997)

• Least Squares (LS) estimation:

• since the threshold value is not identified under the null of linearity, distribution is not standard (Hansen, 1996) approximation of the asymptotic distribution using a bootstrap procedure

1

1 1

ˆ( ) ( ( ) ( )') ( ( ))T T

t t t tt t

δ z X z X z X z y

2 2

2

sup ( )

ˆ ( )ˆ ( )

T Tz Z

T TT

T

F F z

σ σ zF T

σ z

ˆˆ ( ) ' ( )t t tu y X z δ z 2 2

1ˆ ˆ1 T

T ttσ ut





• the nonlinear model requires impulse response functions that account for nonlinearity of the system:

1. history dependent (Gallant, Rossi and Tauchen, 1993; Koop 1996; Koop, Pesaran and Potter, 1996)

2. asymmetric (i.e. negative shocks are not exactly the opposite of positive shocks)

3. shocks not proportional to their size

• GIRF is the difference between two conditional expectations with a single exogenous shock:

• m - forecasting horizon• - history at time t -1

t t+1 t+m 1

t t+1 t+m 1

| , 0,..., 0,Ω

| 0, 0,..., 0,Ω

t m t

t m t

GIRF E X ε ε ε

E X ε ε ε

1Ωt





Johansen cointegration

Country VariableCointegration

vector

Cointegratingvector

with restrictionsCountry Variable

Cointegrationvector

Cointegratingvectorwith

restrictions

Bulgaria

DE 1 1

Latvia

DE 1 1

RER 1.335 0.107 RER 0.105 0.136

IRD -0.199 -0.073 IRD -0.001 -0.001

Const. -2.716 0 Const. 0 -0.058

Croatia

DE 1 1

Lithuania

DE 1 1

NER -1.371 -1 RER -3.250 -1

IRD -0.055 -1 IRD -0.086 -0.080

Const. 1.431 3.397

Poland

DE 1

Czech R.

DE 1 1 NER 1.132

NER 0.911 1 IRD -0.001

IRD 0.955 1

Turkey

DE 1 1

Hungary

DE 1 NER -0.454 -1

NER -6.936 IRD -0.014 -0.026

IRD 0.018 Note: all coefficients are in vector notation.





Estimation of TVAR and test of nonlinearity

CountryEstimated

thresholdSup F Bootstrapped p Chi-square p

Corresponding DE (in %)

Belarus -0.287 41.3653 0.174 0.000 -

Bulgaria -0.252 46.8602 0.008*** 0.000 56.1

Croatia -0.125 51.8103 0.007*** 0.000 74.4

Czech R. -1.011 45.5666 0.054 0.000 -

Hungary -0.718 47.8170 0.018** 0.000 18.8

Latvia -0.086 45.3061 0.033** 0.000 81.5

Lithuania -0.426 53.5303 0.002*** 0.000 37.2

Macedonia -0.266 37.2685 0.335 0.000 -

Poland -0.685 40.8365 0.240 0.000 -

Romania -0.433 41.7328 0.034** 0.000 37.0

Serbia -0.171 43.8639 0.040** 0.000 67.7

Turkey -0.383 59.9263 0.000*** 0.000 41.9

Note: *** null hypothesis about linearity rejected on 1 percent level of significance; ** hypothesis about linearity rejected on 5 percent level of significance.





LINEAR FRAMEWORK

Czech Republic Poland

NER - -IRD - +

NONLINEAR FRAMEWORK

Bulgaria Croatia Hungary Latvia Lithuania Romania Serbia Turkey

depreciation

DE+ - + + + + + +

depreciation

IRD+ + + - + + + +

IRD widening

DE- + + / + + + +

Note: circles denote nonlinear behaviour





• nonlinear behaviour depreciations have a stronger effect on DE and on IRD than appreciations

• rise in domestic interest rates relative to euro ones increases DE levels

• Czech Republic and Poland flexible ER regimes lowest FE levels

• Latvia, Lithuania and Bulgaria convergence official euroization

• Croatia, Hungary, Romania, Serbia and Turkey reform of macroeconomic regimes and institutions increase macroeconomic and institutional credibility




Thank you for your attention!

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the determinants of deposit euroization in european post-transition countries 29/06/2011 dubrovnik,...

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