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Macroeconomic Impulses of Financial Crisis in Armenia King Banaian St. Cloud State University 9.VII.09 1K Banaian, St. Cloud State University.

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Presentation on theme: "Macroeconomic Impulses of Financial Crisis in Armenia King Banaian St. Cloud State University 9.VII.09 1K Banaian, St. Cloud State University."— Presentation transcript:

1 Macroeconomic Impulses of Financial Crisis in Armenia King Banaian St. Cloud State University 9.VII.09 1K Banaian, St. Cloud State University

2 Macroeconomic Impact of the Financial Crisis on Armenia Some first principles Financial activities in Armenia Remittances as a form of contagion or interdependence? The economic effects of remittance drops Concluding thoughts 2K Banaian, St. Cloud State University

3 Your first econ class had this… Financial system Input markets Firms Output markets Households Govt Rest of World 3K Banaian, St. Cloud State University

4 Dividing the balance of payments Labor and capital Goods and services Export of outputs Import of outputs Import of inputs Export of inputs 4K Banaian, St. Cloud State University

5 Financial sector Source of concern over underdevelopment. Focus initially on financing SME sector Major advances in household services K Banaian, St. Cloud State University5

6 Almost all loan increases in drams for households How much for mortgages and building? How much for consumer/auto loans? Interest rates in dram and forex nearly equal. No sign of expected depreciation of dram. K Banaian, St. Cloud State University6

7 The dedollarization story, in one picture Mental model: The dram is good, and we have promise that it holds value against dollar and euro and ruble. Keep the promise, and we will move the savings there. Inflation targeting helps keep the promise. K Banaian, St. Cloud State University7

8 Banks increasingly lending long (intermediation begins) K Banaian, St. Cloud State University8

9 But the music ends… Fear of loss – broken mental model People reverse the flow, hold fewer drams Banks seeing outflow, concern for valuations, decide to hold more reserves – Like US, credit crisis the result of bank caution Regulatory? Combination ends boom in lending K Banaian, St. Cloud State University9

10 Consolidated bank balance sheet K Banaian, St. Cloud State University10

11 Drop in drams relative to deposits pronounced Also note rise in reserves held by banks K Banaian, St. Cloud State University11

12 Shock? What shock? What shock hit the economy then? – Those responses should be rather fast, so timing appears to be October- November No spike in interest rates Trade deficit widening – perhaps a sign? K Banaian, St. Cloud State University12

13 Tale of two reports 31 October 2008 Rising inflation, high credit growth, and a widening current account deficit have raised concerns about overheating. 3 March 2009 Since …November 17, 2008, Armenia has been confronted by a set of external shocks and now faces fading confidence in the currency and financial system. K Banaian, St. Cloud State University13

14 That same graph, extended 9 months K Banaian, St. Cloud State University14

15 Two risks Intermediation Exchange rate Both mean bank risk higher. High capital and liquidity means on average banks will be fine. – But not all banks are average. K Banaian, St. Cloud State University15

16 What caused this? Construction sector – nice presentation yesterday on end of rise in apartment rents Remittances – all talk about, nobody shows Trade – could mining have done this? – I will only speculate on this: does not seem big enough – Export decline in 2008 just 7.2% – Imports rose much more K Banaian, St. Cloud State University16

17 Remittance flows slowed in 2008:IV Russia announces in January that it halves the number of work permits for CIS emigrants in 2009 (Stratfor, 3 Feb 2009) Expectations of lower income would have changed household behavior K Banaian, St. Cloud State University17

18 Consumer confidence was already slipping K Banaian, St. Cloud State University18

19 So thats three BOP hits Foreign output shock reduces export of goods Shock reduces export of labor, and return flow of remittances Imports will fall, but not by as much. Small open economy – this is element of increased interdependence of Armenia K Banaian, St. Cloud State University19

20 How big a shock? Two models to use – Appendix in Banaian and Roberts suggests remittances alone would account for 3.5% decline in GDP Does not include FDI decline – Mrktchyan, Dabla-Norris and Stepanyan dont provide a hard number but model predictions are borne up by the data Shock to consumption is unambiguously negative, quicker than a remittance shock. Again, shock is result of exposure to world economy K Banaian, St. Cloud State University20

21 And thats not a bad thing! Article in new The Atlantic on Moldova: What crisis? Per capita income about half Armenia – Complain about corruption and politics but not finance. – Cash-only economy, but 5 th on The Banker World Financial Health Index – Is that good? Danger of isolationism K Banaian, St. Cloud State University21

22 Not contagion but interdependence Proper diagnosis is important Question is how to make Armenia more stable as it opens to the world economy – Market mechanisms – Diversify K Banaian, St. Cloud State University22

23 Market mechanisms Banks need natural growth – Perhaps too quick push into lending – Dont addict banks to guarantees – We Americans have some experience with forcing a secondary mortgage market. It will cost us $384 billion through Dont imitate us. Exchange rate now generates a price useful as a guide to market evaluation of policy K Banaian, St. Cloud State University23

24 Diversify By globalizing, Armenia exposes itself to new technologies, new goods, better prices Labor has opportunity to work for higher return. But trade in goods and labor has geographic tendencies. You cant pick your neighbors. – But you can try to diversify K Banaian, St. Cloud State University24

25 Closing thought Contagion sounds like a disease to control Current crisis is not the result of contagion – Natural response to external shocks Armenias crisis is unique, needs its own medium-term solution More stable production AND more stable trade, in goods AND labor, would be my prescription K Banaian, St. Cloud State University25


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