Capital Flows, Institutions, and Financial Fragility

Transcription

1 Capial Flows, Insiuions, and Financial Fragiliy By Wipawin Promboon Kenan-Flagler Business School UNC-Chapel Hill February 11, 2009

2 Model Esimaion Globalizaion Liberalizaion Greaer volume of capial flows: Good or Bad? Risk sharing Invesmen Growh Sudden reversal of shor-erm capial flows Bad invesmen Rapid change in financial markes oupaces regulaory/insiuional capaciy Insabiliy & Crisis Research Quesions Wha is he ne effec of inernaional capial flows? Are Insiuions imporan? If so, how much? 2

3 Model Esimaion Exising Lieraure Cos & Benefi of capial flows Higher economic growh? Yes (e.g., Quinn (1997), Bekaer, Harvey, Lundblad (2005)) No really (e.g., Rodrik (1998), Edward (2001)) Greaer adverse impac from crisis? (e.g., Boyer, Kumagai, and Yuan (2006), Huchison and Noy (2006), Edward (2004)) The resuls are mixed. Role of he qualiy of insiuions in deermining he ne effec of capial flows (e.g., sulz (2005), Henry and Lorenzen (2003)) No much explored. 3

4 Objecives of This Paper Model Esimaion Inernaional Capial Flows 1. Mechanism hrough which capial flows (via he banking secor) affec he real economy Model Firms Banks House holds Govern men 2. Role of he qualiy of insiuions in deermining he ne effec of capial flows Parameer Esimaion & Simulaion Exercises 4

5 Key Assumpions of he Model* Model Esimaion 1. The banking secor plays a key role in channeling funds o he real secor. 2. There are srucural and policy disorions leading o moral hazard problems. Bank level: Lax banking supervision Excessive lending & accumulaion of banks non-performing loan (NPL) losses Inernaional level: Gov. guaranee & sable FX rae Excessive lending & underesimaion of risks by foreign crediors Corporae level: Gov. subsidies/incenives Overinvesmen 3. A sudden sop occurs when he expeced gov. liabiliies > counry s liquid asses (inernaional reserves) * This model exends he moral hazard models by Corsei, Peseni, and Roubini (1999) and Dekle and Klezer (2005) 5

6 Corporae Secor: N idenical firms owned by households (hhs) Specialize in producion of raded good y. j Inves I = (k k ) + d k cap from capial mk (1-cap) from banks Pay r l as rae of reurn 2 ypes of firms: (1-NPL ) is high-ype Model Esimaion 1 NPL is low-ype and no able o pay r l o banks and invesors α 1 α Expeced oupu = E[y+ 1] = Ak l α 1 α Expeced gov. subsidies/axes = E (s+ 1) = nk l Pay wages o employed labor = W l Pay dividends o hhs if profiable. 1 Own profi 6

7 Corporae Secor (2) Each firm chooses he level of capial sock o maximize is expeced profi. The opimal level of capial sock is k wih he level of gov. subsidies/axes (deermined by n) wih cos of capial (r l ) = α(a+ n) l (1 NPL )r Model Esimaion l d + Higher n Higher degree of overinvesmen n measures moral hazard problem (MH) a he corporae level. 1 1 α The level of capial sock moves wih he ineres rae r l 7

8 Banking Secor: M idenical banks owned by hhs Source of funds: Accep deposi (a i ) in LC from hhs Pay r Borrow (b i ) in FC from foreign crediors Pay i b b w Assume i = ψ i + ψ b bˆ Use of funds: 0 Model Esimaion 1 ( ) Lend (e i ) in LC o firms Receive r l from (1-NPL ) of firms Incur operaing expenses of ξ e i Pay dividends o hhs = (1-υ) * Profis from performing loans i i l c X + 1 = (1 υ)(1 NPL )e[r (r + ξ)] where υ = loan loss provisioning raio r c = weighed avg. cos of funds 8

9 Banking Secor (2) Each bank chooses lending amoun, deposi amoun, and foreign borrowing amoun o maximize is expeced profis. In equilibrium, each bank ses deposi rae = foreign borrowing rae required by foreign crediors b c w r = i = r = ψ i + ψ b bˆ lending rae o make enough profis from PL o cover losses from NPL r l r + ξ = 1 NPL 0 ( ) By paying dividends X, each bank accumulaes NPL losses in F F (1+ r )F + X where X = (1 υ)(npl 1)e 1(r 1 = 1 1 Model Esimaion 1 + ξ) υ indicaes level of NPL losses banks accumulae (MH a bank level). ψ 1 indicaes how much higher an ineres rae foreign invesors charge for a greaer amoun of banks foreign borrowing (MH a in l level). 9

10 Household Secor: hhs are idenical. Receive income consising of Taxable income = [Wage + Bond/sock reurn +Dividends paid by firms] +[Operaing expenses & Dividends paid by banks] = [Y s + S s d K s-1 (1-NPL s-1 ) r l s-1 e s-1 ]+ [ξ e s-1 + X s ] = Y s + S s d K s-1 r s-1 e s-1 + X s Non-axable income from ineress on deposis = r s-1 a s-1 Spend heir income on Consumpion = C s Model Esimaion applicaion Simulaion Change in real money balance = (M s -M s-1 )/P s Invesmen in bonds/socks issued by firms = cap*(k s -k s-1 ) Deposis = a s -a s-1 Ge uiliy from consumpion and money holdings 10

11 Household Secor (2) Hhs choose he pahs of consumpion (C s ), money balance (M s ), and deposi amoun (a s ) o maximize heir expeced uiliy. In equilibrium, Growh rae of consumpion wih real deposi rae (r s ). C C s+ 1 s 1+ rs = 1+ δ Real money balance wih consumpion and wih nominal deposi rae (i s ) M s χcs(1+ i = P s ( i ) s s ) Model Esimaion applicaion Simulaion where (1+ is ) = (1+ πs)(1+ r s ) Real ineres rae influences hhs decisions on C s, M s, and a s 11

12 Public Secor: fiscal & moneary auhoriies Manage reserves (R) and implemen Fiscal policies: gov. spending (G), ax rae (η), subsidies (n S) Moneary policies: inflaion rae (π), and FX rae (ε). Assume ha he modified UIP holds. Gov. chooses o arge he inflaion rae (π) o mainain: ε P (R ε E ε R 1 where ε = (1+ P ε ) ε ) = η Y M M 1 ε ( + S + X r e dk ) + + r R 1 G S M P (1+ i = (1+ i χc (1+ i ) = ( i ) 1 Model Esimaion w 1 ) ) 1 where P (1+ i ) = (1+ π )(1+ r P ε measures how much and in wha direcion people expecs FX rae o deviae from UIP (MH a in l level). 1 P ) 12

13 Marke Clearing Condiions Marke No sudden sop Sudden sop Deposi Foreign borrowing Loan ε P R 1 Price: Foreign crediors Quaniy: Banks Price: Banks Quaniy: Firms βf Model Esimaion ε P Price: Banks Quaniy: Hhs R 1 Price: Foreign crediors Quaniy: Foreign crediors ε credi o banks = Price: Banks Quaniy: Banks credi o firms = < βf R - β 1 F P ε R -1 (1 φ) F P β Firms Invesmen Oupu 13

14 Model Esimaion Effecs of a Crisis Direc Cos Gov. deb burden as a resul of bank bailou. Transfer during he sudden sop of he amoun Transfers of remaining banks cumulaive NPL losses (F) during he reform period o clean up he banking sysem Indirec Cos ε F P R β -1 φ credi o banks credi o firms invesmen oupu 14

15 Model Esimaion Analysis of he Model If banks can accumulae losses from NPL (υ <1),i.e., have insufficien loan loss provisions wihou being penalized (MH a he bank level) can borrow from abroad in excess of heir credis minus deposis. (Capial flows & MH a he in l level) Foreign deb & Cumulaive losses (F) The economy will never be a he seady sae & A sudden sop will surely occur 15

16 Applicaion of he Model Model Esimaion Bank 1. Δqualiy of insiuions and policies afer he crisis? Corporae In l More effecive banking supervision provisions Lower gov. subsidies overinvesmen Replace blanke wih limied guaranees In. sensiiviy o banks foreign borrowing More flexible FX regime deviaion from UIP H O1 : υ before = υ afer H A1 : υ before < υ afer H O2 : n before = n afer H A2 : n before > n afer H O3 : ψ 1 before = ψ 1 afer H A3 : ψ 1 before < ψ 1 afer H O4 : P ε before = P ε afer H A4 : P ε before > P ε afer 2. Impac on ne benefis of capial flows? Direc Cos Indirec Cos Esimae parameers & es he hypoheses & conduc simulaion exercises using Thailand daa 16

17 Daa: monhly from Jan. 93 Jun. 07 Million Bah 5,000,000 4,000,000 3,000,000 2,000,000 1,000,000 0 A. Real Oupu (Annualized Y) Million Bah 2,500,000 2,000,000 1,500,000 1,000, ,000 0 Model Esimaion D. Real Consumpion (Annualized C) Bah/USD G. Real Exchange Rae (ε/p) Million Bah 1,200,000 1,000, , , , ,000 0 C. Real Invesmen (Annualized I) Million USD 60,000 40,000 20, ,000-40,000 F. Banks' Ne Foreign Liabiliies (b) Million USD 100,000 80,000 60,000 40,000 20,000 0 M. Inernaional Reserves (Ne of BOT's Forward Posiion) (R) % P. Domesic Inflaion Rae (Annualized π) % H. Nominal Deposi Rae (Annualized i) % 50% 40% 30% 20% 10% 0% L. Non-Performing Loan o Toal Loan (NPL)

18 Model Esimaion Daa Conclusion Daa (2) Wha Daa Sugges Boom before crisis, bus during crisis, improvemen afer crisis Srucural changes In. raes are more volaile han variables depending on hem Invesmen is very persisen No saionary in levels, bu saionary in changes I = Inv Modificaions needed Esimaion wih 2 known breakpoins MA of in. raes are more correlaed wih hose variables (K, I, M/P, C /C -1 ) Incorporae lagged invesmen in invesmen equaion 0 M M [ K - (1- d) K ] + Inv [ I ] 1 Rearrange equaions in firs difference form

19 Model Esimaion Parameer υ, n, Ψ 0, Ψ 1, P ε, Inv 0, Inv 1 (for each sub-period) Obained from Parial-sample GMM esimaion*. Insrumens: Δworld ineres rae, Δ world inflaion rae, %Δworld indusrial producion index, and log reurn on JPY/USD Wald-ype ess All he ohers Calibraion or from oher sudies * Based on he framework by Andrews and Fair (1988) and Andrews (1993) 19

20 Model Esimaion Parameer Subperiod Esimae Approx P-Value Loan loss provisioning *** <.0001 raio (υ) Governmen subsidies (n) *** < *** < *** <.0001 Ineres rae sensiiviy *** <.0001 o he world ineres rae (ψ 0 ) Ineres rae sensiiviy o he level of banks' ** foreign borrowing (ψ 1 ) ** FX rae deviaion *** <.0001 from he UIP (P ε ) *** < Esimaion Resuls υ sub1 < υ sub3 1 n sub1 > n sub3 ψ 0,sub1 > ψ 0,sub3 0 ψ 1,sub1 0 < ψ 1,sub3 P ε,sub1 > P ε,sub3 0 MH a all levels 20

21 Esimaion Resuls (2) Model Esimaion Tes Wald Saicic Pre VS. Pos Crisis P-Value Parameers sub1 = Parameers sub *** <.0001 n sub1 = n sub *** <.0001 ψ 0,sub1 = ψ 0,sub *** <.0001 ψ 1,sub1 = ψ 1,sub * P ε,sub1 = P ε,sub *** Parameer values are significanly differen before and afer he crisis 21

22 Model Esimaion Simulaion Resuls Uni: Million THB Direc Cos Indirec Cos Scenario Amoun % of Oupu Avg Oupu FV FV No Time Value Avg Oupu Growh Rae (% ) Base Scenario: All parameers a pre-crisis values 551, % 3,098, % A1. Loan loss provisioning raio ( υ) - 0% 3,098, % A2. Governmen subsidies (n) 512, % 2,988, % A3. Ineres rae sensiiviy o banks' foreign borrowing ( Ψ0, Ψ1) 238, % 3,102, % A4. FX rae deviaion from he UIP (Pε) 552, % 3,098, % B1. Scenario A1 + A2-0% 2,988, % B2. Scenario A1 + A3-0% 3,102, % B3. Scenario A1 + A4-0% 3,098, % C1. Differen parameer values for each sub-period 714, % 2,919, % Acual Scenario 1,433, % 2,935, % 22

23 Model Esimaion Simulaion Resuls (2) Uni: Million THB Benefi(+)/Cos(-) Relaive o he Base Case Scenario Direc Cos Indirec Cos Toal Cos FV FV FV A1. Loan loss provisioning raio ( υ) 551,283 3, ,659 A2. Governmen subsidies (n) 38,298 (1,741,385) (1,703,087) A3. Ineres rae sensiiviy o banks' foreign borrowing ( Ψ0, Ψ1) 313,016 71, ,550 A4. FX rae deviaion from he UIP (Pε) (771) 121 (649) B1. Scenario A1 + A2 551,283 (1,737,893) (1,186,610) B2. Scenario A1 + A3 551,283 68, ,477 B3. Scenario A1 + A4 551,283 3, ,659 MH a he bank and in l levels benefis a counry MH a he corporae level hurs he counry 23

24 Conclusion Model Esimaion 1. Moral hazard problems, ogeher wih capial flows, fuel as well as desabilize an economy. During he boom, capial flows via banks are used o finance firms excessive invesmen and banks cumulaive losses. When banks cumulaive losses and foreign borrowing keep increasing, he economy will never be a he seady sae & a sudden sop will surely occur. 2. Some changes in he qualiy of insiuions and policies benefi while some hur he economy. Improved banking supervision and foreign invesors esimaion of risks reduce bailou coss & oupu losses significanly Reducion in governmen subsidies hurs he economy since he cos from lower oupu ouweighs he benefi from lower bailou cos 24

25 Thank You 25