Financial globalization and debt maturity in emerging economies

This paper studies how financial globalization affects debt structure in emerging economies. We find that by accessing international markets, firms increase their long-term debt and extend their debt maturity. In contrast, with financial liberalization, long-term debt decreases and the maturity structure shifts to the short term for the average firm. These effects are stronger in economies with less developed domestic financial systems. The evidence is consistent with financial integration having opposite effects on the firms that are able to integrate with world markets and obtain financing globally, relative to the firms that rely on domestic financing only.     

Information sharing and lending market competition with switching costs and poaching

We analyze information sharing with repeated banking competition. In the presence of switching costs we find that information sharing renders poaching more profitable in future rounds of competition, since the poaching activities can be targeted towards (more) creditworthy borrowers. We find that information sharing reduces relationship benefits, and, therefore relaxes competition for initial market shares. Information sharing introduces a welfare tradeoff by promoting equilibrium profits at the expense of talented entrepreneurs whenever market power persists in credit market, whereas it is a matter of indifference without market power. Thus information sharing may induce exclusion of creditworthy borrowers from credit markets.     

The international risk sharing puzzle is at business cycle and lower frequency

Abstract We decompose the correlation between relative consumption and the real exchange rate in its dynamic components at different frequencies. Using multivariate spectral analysis techniques, we show that, at odds with a high degree of risk sharing, in most OECD countries the dynamic correlation tends to be quite negative, and significantly so, at frequencies lower than two years – the appropriate frequencies for assessing the performance of international business cycle models. Theoretically, we show that the dynamic correlation over different frequencies predicted by standard open economy models is the sum of two terms: a term constant across frequencies, which can be negative when uninsurable risk is large; a term variable across frequencies, which in bond economies is necessarily positive, reflecting the insurance intertemporal trade provides against forecastable contingencies. Numerical analysis suggests that leading mechanisms proposed by the literature to account for the puzzle are consistent with the evidence across the spectrum.     

Reserves,Sovereign Wealth Funds and the Resilience of Global Imbalances

Reserves and sovereign wealth funds (SWFs) assets should be jointly considered for the assessment of global imbalances, hence their denomination as sovereign external assets (SEAs): both are public capital outflows from developing to developed countries, both hinder adjustment in current account surplus and deficit countries and, therefore, both contribute to sustain global imbalances. They represented 135 per cent and 50 per cent of net and gross US financing needs, respectively, in 2007. Reserves contribute 80 per cent and SWFs 20 per cent. They will go on providing resilience to the global imbalances, and the relative importance of SWFs is set to increase if commodity prices stay high.     

Risk sharing through capital gains

Abstract We estimate channels of international risk sharing between European Monetary Union (EMU), European Union, and other OECD countries, 1992–2007. We focus on risk sharing through savings, factor income flows, and capital gains. Risk sharing through factor income and capital gains was close to zero before 1999 but has increased since then. Risk sharing from capital gains, at about 6%, is higher than risk sharing from factor income flows for European Union countries and OECD countries. Risk sharing from factor income flows is higher for euro zone countries, at 14%, reflecting increased international asset and liability holdings in the euro area.     

Government guarantees and self-fulfilling speculative attacks

We develop a model in which government guarantees to banks’ foreign creditors are a root cause of self-fulfilling twin banking-currency crises. Absent guarantees, such crises are not possible. In the presence of guarantees banks borrow foreign currency, lend domestic currency and do not hedge the resulting exchange rate risk. With guarantees, banks will also renege on their foreign debts and declare bankruptcy when a devaluation occurs. We assume that the government is unable or unwilling to fully fund the resulting bailout via an explicit fiscal reform. These features of our model imply that government guarantees lead to self-fulfilling banking-currency crises.     

Intra- and international risk-sharing in the short run and the long run

We investigate empirically how industrialized countries and US states share consumption risk at horizons between 1 and 30 years. US federal states share about 50% of their permanent idiosyncratic risk through cross-state capital income flows. While insurance against transitory fluctuations in output is virtually complete, OECD countries do not share any of their permanent idiosyncratic risk. Our results suggest that purely transaction cost based theories cannot explain the home bias, since the potential welfare gains from insurance against permanent shocks would by far outweigh that of insuring against transitory variation. We conclude that permanent and transitory shocks constitute two qualitatively different kinds of risk and that various forms of endogenous market incompleteness may render permanent shocks a lot harder to insure, in particular at the international level.     

State-uncertainty preferences and the risk premium in the exchange rate market

This paper shows that state-uncertainty preferences help to explain the observed exchange rate risk premium. In the framework of Lucas (1982) economy, state-uncertainty preferences amount to assuming that a given level of consumption will yield a higher level of utility the lower is the level of uncertainty perceived by consumers. Under these preferences we can distinguish between two factors driving the exchange rate risk premium: “macroeconomic risk” and “the risk associated with variation in the private agents' perception on the level of uncertainty”. Empirical evidence from three main European economies in the transition period to the euro provides empirical support for the model. The model is more successful in accounting for the observed currency risk premium than models with more standard preferences, and the general perception of risk by private agents is shown to be a more important determinant of risk premium than macroeconomic uncertainty.     

Mean-reversion in international real interest rates

This paper examines the mean-reversion property of real interest rates. Many past studies have reported puzzling outcomes of the mean-aversion of real interest rates for a number of countries. In the article, we employ panel unit root tests and carry out half-life estimation based on the bias-corrected bootstrap. These findings of the paper provide strong evidence that, in both major Western and East Asian capital markets (including several emerging ones), real interest rates are mean-reverting. In addition, we find evidence that the degree of mean-reversion of the real interest rates is positively correlated with that of output growth, which is consistent with the implications of standard intertemporal behavior.     

Portfolio allocation and international risk sharing

Abstract We show that recent explanations of the consumption‐real exchange rate anomaly that rely on goods and financial market frictions are not robust to introducing just one additional international asset. When portfolios are selected optimally, international trade in two nominal bonds implies a consumption‐real exchange rate correlation that is too high compared with the data even when there are many shocks. Monetary policy specification plays a potentially important role for the degree of risk sharing provided by nominal bonds, both in the benchmark model with only tradable and non‐tradable sector supply shocks and also in the model that allows for news.     

Financial structure,productivity, and risk of foreign direct investment

This study investigates how heterogeneous firms choose their lenders when they raise external finance for Foreign Direct Investment (FDI) and how the choice of financing structure affects FDI activities. We establish an asymmetric information model to analyze why certain firms use private bank loans while others use public bonds to finance foreign production. The hidden information is the productivity shock to FDI. Banks are willing to monitor the risk of FDI, while bondholders are not; hence, banks act as a costly middleman that enables firms to avoid excessive risk. We show that firms’ productivity levels, the riskiness of FDI, and the relative costs of bank finance and bond finance are three key determinants of the firm’s financing choice. Countries with higher productivity, higher bank costs, or investment in less risky destinations, use more bond finance than bank finance. These results are supported by evidence from OECD countries.     

Trade taxes and international investment

Abstract .  This paper demonstrates that international investment disturbs the conventionally understood equivalence between import tariffs and export taxes. Fundamentally, remittances to foreigners introduce an additional pecuniary channel between countries so that two-good Lerner Symmetry generally will not hold. Moreover, because tariffs subsidize investors in the local import competing sector while export taxes can extract rent from foreign investors in the export sector, the pattern of international investment will influence government preferences over trade policy  instruments  as well as levels. Notably, trade tax symmetry is restored by introducing a third policy tool in the form of a direct a tax on international remittances.     

Financial integration, entrepreneurial risk and global dynamics

How does financial integration impact capital accumulation, current-account dynamics, and cross-country inequality? We investigate this question within a two-country, general-equilibrium, incomplete-markets model that focuses on the importance of idiosyncratic entrepreneurial risk—a risk that introduces, not only a precautionary motive for saving, but also a wedge between the interest rate and the marginal product of capital. Our contribution is to show that this friction provides a simple explanation for the emergence of global imbalances, a resolution to the empirical puzzle that capital often fails to flow from the rich or slow-growing countries to the poor or fast-growing ones, and a set of policy lessons regarding the intertemporal costs and benefits of capital-account liberalization.     

Corporate taxation, debt financing and foreign-plant ownership

This paper compares domestically and foreign-owned plants with respect to their debt-to-assets ratio and analyzes to which extent the difference is systematically affected by corporate taxation. To derive hypotheses about influence of corporate taxation on a firm's debt financing we adapt a standard model of taxation and financing decisions of firms for the case of international debt shifting activities of foreign-owned firms. We estimate the average difference between a foreign-owned and a domestically owned firm's debt ratio, treating the mode of ownership as endogenous. Using data from 32,067 European firms, we find that foreign-owned firms on average exhibit a significantly higher debt ratio than their domestically owned counterparts in the host country. Moreover, this gap in the debt ratio increases with the host country's statutory corporate tax rate.     

Trade openness and the informational efficiency of emerging stock markets

This paper examines the empirical link between trade openness and the informational efficiency of stock markets in 23 developing countries. Our fixed effects panel regression results document a significant negative relation between trade openness and stock return autocorrelations only when the de facto measure is used. On this basis, we argue that a greater level of de facto trade openness is associated with a higher degree of informational efficiency in these emerging stock markets because the former signals higher future firm profitability, and investors tend to react faster to information when there is less uncertainty about a firm's future earnings or cash flows. Further analyses find no significant association between the extent of financial openness and the degree of informational efficiency.     

The contribution of domestic, regional and international factors to Latin America's business cycle

This paper quantifies the relative contribution of domestic, regional and international factors to the fluctuation of domestic output in six key Latin American (LA) countries: Argentina, Bolivia, Brazil, Chile, Mexico and Peru. Using quarterly data over the period 1980:1-2003:4, a multi-variate, multi-country time series model was estimated to study the economic interdependence among LA countries and, in addition, between each of them and the three world largest industrial economies: the US, the Euro Area and Japan. Falsifying a common suspicion, it is shown that the proportion of LA countries' domestic output variability explained by industrial countries' factors is modest. By contrast, domestic and regional factors account for the main share of output variability at all simulation horizons. The implications for the choice of the exchange rate regime are also discussed.     

Monetary and Fiscal Policy Rules in the EMU

Abstract. This paper studies the design and effects of monetary and fiscal policy in the euro area. To do so, a stylized two‐region model of monetary and fiscal policy rules in the EMU is built. We analyse how monetary and fiscal rules affect the adjustment dynamics in the model. Both the effects on the individual countries and on the EMU aggregate economy are studied. Three aspects play an important role in the analysis: (i) the consequences of alternative monetary and fiscal policy rules, (ii) the consequences of asymmetries between EMU countries (asymmetries in macroeconomic shocks and macroeconomic structures), and (iii) the role of alternative degrees of backward‐ and forward‐looking behaviour in consumer decisions and inflation expectations.     

Evaluating sovereign risk spillovers on domestic banks during the European debt crisis

Using a Markov-switching model with time-varying probabilities, spillovers from sovereign to domestic bank CDS spreads during the European debt crisis for a set of 14 European countries and 30 European banks are investigated. Our model is able to capture how the increased sovereign risk observed between 2010 and 2013 throughout Europe has impacted i) the probability that banks fall into a crisis regime and ii) the probability that banks stay in the crisis regime. The latter state is characterized by a high volatility and large positive returns of CDS spreads. Different regime-dependent indicators have been computed to assess heterogeneity within the region. The evidence indicates that the intensification of sovereign risk observed during the European debt crisis has positively and significantly driven the regime shifts in volatility of the bank CDS spreads due to increased risk aversion. The results show that the increase in sovereign credit risk seems to have generated second-round effects for some banks that have experienced a deterioration in their funding conditions due to a rise in the domestic sovereign default risk. Overall, our results suggest that sovereign CDS spreads can be considered good forewarning indicators for predicting the evolution of bank CDS spreads. We also find that the effects differ depending on the country and the financial institution. This result suggests that banks are heterogeneously exposed to sovereign credit risk within the same country. One argument relates to the size of these financial institutions and the domestic exposure to sovereign debt.     

Financial openness,market structure and private credit: An empirical investigation

Consistent with recent theoretical models, this paper finds that financial openness has a positive effect on private credit in economies characterized by a competitive banking sector, but that this effect vanishes and even becomes negative in economies with imperfect banking competition.