Dollarization in Ecuador Miguel F. Ricaurte University of Minnesota Spring, 2008
My name is Miguel F. Ricaurte, and I am from ECUADOR and COSTA RICA: And I studied in Ecuador, Chile, and Kalamazoo, MI!
Content of the Presentation: Ecuador: some facts Exchange rates and dollarization Ecuador's crisis Costs and benefits: real vs. nominal economy Concluding comments
Ecuador: some facts GDP (PPP 2006 est.) Population (Jul. 2006) GDP Per Capita (PPP 2006 est.) Ecuador USA $61.52 billion $13,060 Billion 13,755,680 301,139,947 $4,500 $43,800 Size (sq km) Currency 283,560 incl. Galapagos Is. (Minnesota: 206,000) Before 2000: Sucre After 2000: US Dollar 9,631,420 US Dollar Source: CIA World Fact Book, https://www.cia.gov/library/publications/the-worldfactbook/
Ecuador: some facts Main Exports Main Imports Main trade partners Ecuador Crude Oil Bananas Shrimp, Fish Coffee Flowers Machinery Equipment Fuels Consumer goods US 51.2%, Peru 8.1%, Colombia 4.4% Chile 4.1% USA Capital goods Automobiles Industrial supplies Consumer goods Agricultural products Crude oil Refined petroleum Machinery Automobiles Consumer goods Canada 22.2%, Mexico 12.9%, Japan 5.8%, China 5.8%, UK 4.4% Source: CIA World Fact Book, https://www.cia.gov/library/publications/the-worldfactbook/
Ecuador: some facts One of the poorest countries in S. America: GDP per capita PPP US$ (2006) Argentina 15,200 Chile 12,600 Uruguay 10,900 Brazil 8,800 Colombia 8,600 Venezuela 7,200 Ecuador 4,500 Bolivia 3,100
It has experienced slow growth in the last two decades: GDP per capita, constant 2000 US$ 1,500 1,400 1,300 1,200 1,100 1,000 900 800 1960 1963 1966 1969 1972 1975 1978 1981 1984 1987 1990 1993 1996 1999
and it has been lagging compared to the US: GDP per capita, constant 2000 US$ 40,000 35,000 30,000 USA 25,000 20,000 15,000 10,000 5,000 Ecuador 0 1960 1963 1966 1969 1972 1975 1978 1981 1984 1987 1990 1993 1996 1999
Exchange Rates and dollarization
Exchange rates and dollarization Flexible Floating No intervention US Dirty flotation Some intervention Costa Rica Fixed Pegged to another currency Venezuela, China, EU Inflexible Dollarized No local currency! Ecuador, El Salvador
Exchange rates and dollarization: Unofficial Dollarization (de facto dollarization) refers to the case when a large number of agents keep a significant fraction of their financial wealth in foreign currency, although this currency is not the legal tender. Official Dollarization refers to the case when a country's monetary authority renounces to its own currency and adopts a foreign currency (in particular, the dollar) to use it as legal tender
The Crisis
The Crisis Ecuador suffered a severe shock in 1998-1999: El Niño weather phenomenon affected agricultural sector
The Crisis Ecuador suffered a severe shock in 1998-1999: El Niño weather phenomenon affected agricultural sector Oil price historically low, affected government's budget: In 1998, the government's budget forecasted oil price to be at $14 per barrel, but...
Historically low oil prices were observed in 1998... (effective prices for Ecuador) 70 41.01 60 50 40 20.29 19.16 26.49 30 20 9.20 10 0 Jan-98 Jan-99 Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06
... total government revenues dipped in 98-99 as well as oil revenues as a % of total revenues... 40% 35% 30% 25% 20% 15% 10% 5% 0% Oil revenue (% Tot. Rev.) Total Revenues (mill. US$) 1989 1991 1993 1995 1997 1999 2001 2003 2005 10,000 9,000 8,000 7,000 6,000 5,000 4,000 3,000 2,000 1,000 0
... and the budget deficit was the largest in a decade (government budget as a % of GDP) 4 2 0-2 -4-6 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005
The Crisis Ecuador suffered a severe shock in 1998-1999: El Niño weather phenomenon affected agricultural sector Oil price historically low, affected government's budget Financial crisis in Latin America (triggered in SE Asia) decreased loanable funds available to the government and private banks
The Crisis More than 20 - half - of the banks went bankrupt The government took over them, making its situation even harder The result: The worst economic crisis in Ecuador's history
Real consequences
Real GDP per capita fell 7.65% between 1998 and 1999 (from $1384 to $1279 in 1999 in 2000 US Dollars), and Real GDP fell by 6.3%
Real GDP Growth (Minimum reached in 1998) 8% 6% 7.9% increase 4% 2% 0% -2% -4% -6% -8% 6.3% drop 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005
Employment The magnitude of the crisis resulted in an increase unemployment rate: 16 14 12 10 8 6 4 2 0 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001
Nominal consequences
People didn't trust the Sucre and this caused depreciation (Sucres per US$) 30000 25000 20000 Between Jan 99 - Jan 00: 274% depreciation of the sucre 15000 10000 5000 0 Jan-97 Jul-97 Jan-98 Jul-98 Jan-99 Jul-99 Jan-00 Jul-00
The resulting financial crisis caused affected foreign reserves (International Foreign Reserves, Mill. US$) 2500 2000 1500 1000 500 Sep 97 - Mar 00: Loss more than 50% of reserves 0 Jan-95 Jul-95 Jan-96 Jul-96 Jan-97 Jul-97 Jan-98 Jul-98 Jan-99 Jul-99 Jan-00
... with increasing import prices, inflation jumped... (12-month change in the CPI) 120% 100% Maximum Inflation: 107.9% 80% 60% 40% 20% 0% 1993 1994 1995 1996 1997 1998 1999 2000
... so the Central Bank increased nominal interest rates: (Nominal Interest Rate) 80% 70% 60% 50% 40% 30% 20% 10% 0% Jan-97 Jul-97 Jan-98 Jul-98 Jan-99 Jul-99
An Unofficially Dollarized Economy By the year 2000, Ecuador was unofficially dollarized: Most transactions of durable goods (e.g., cars, housing) as well as rental payments and loans were denominated in US Dollars 40% of broad money (savings and checking deposits, as well as other liquid assets) were held in US Dollars
Dollarization
The Official Dollarization January 11, 2000: official dollarization applied by President Jamil Mahuad The exchange rate fixed at 25,000 Sucres per Dollar January 21, 2000 : Mahuad deposed, Vicepresident, Noboa, ratified his predecessor's decision Central Bank began to exchange Dollars for Sucres March - May 2000: savings and checking deposits were converted to Dollars September 2000: transactions conducted in Dollars
The defunct Sucre
The defunct Sucre
Gave way to the dollar
Costs and benefits
Why dollarize? Decrease inflation, imported goods do not become more expensive in local currency; which in turn causes reduction of nominal rate: i nom = i real + expected inflation No chance of currency a crisis (no depreciation), which in turn causes decrease of local nominal rate: i ECU = i US + country risk+ expected depreciation Promotes fiscal discipline (since printing money cannot be used to finance deficit anymore!)
Why not dollarize? Loss of monetary independence - not a cost when monetary authorities are not responsible - Loss of Seigniorage (for Ecuador: around 7% GDP) Central Bank cannot be lender of last resort - no money printing minimizes this possibility Cost of re-setting accounting systems to Dollars National pride: can be a big thing. For example, England does not want to give away the Pound in exchange for the Euro
Why not dollarize? Additional real flexibility needed, labor market. 16 14 (unemployment rate, main cities) Guayaquil 12 10 8 Quito 6 4 2 Cuenca 0 Jan-01 Oct-01 Jul-02 Apr-03 Jan-04 Oct-04 Jul-05 Apr-06
... unemployment seemed to go down, but informal employment jumped! 60 (informal employment rate, national) 50 40 30 20 10 0 Jan-01 Oct-01 Jul-02 Apr-03 Jan-04 Oct-04 Jul-05 Apr-06
... as well as the exodus of migration... (number of migrans 1996-2001) 60000 50000 40000 Work Tourism Residence Others 30000 20000 10000 0 1996 1997 1998 1999 2000 2001
... as well as the exodus of migration... (total number of migrants 1996-2001) 80000 60000 40000 20000 Reason 0 Work Tourism Residence Others Italy Others Spain United States Destination
As a product of the crisis: 350,000 Ecuadorians migrated between 1996 and 2001. Unofficial figures set at 2 million the number of Ecuadorians abroad! That is: roughly 3% of Ecuadorians left the country. (if 3% of US citizens left the US, that would mean that 8 million people would leave the country!) Migration slowed down in 2002 when Spain enforced a tourist visa for Ecuadorian citizens and the US less lenient in granting visas.
The recovery process
Since then, the economy is now (slowly) recovering:
The economy has recovered (GDP per capita US$, and average growth rate) 1,650 1,600-0.52% -0.02% 3.66% 1,550 1,500 1,450 1,400 1,350 1,300 1,250 1,200 Second oil boom and dollarization 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006
... partially fueled by the inflow of fresh resources: FDI and other transfers (more on this later)... (FDI, millions of US$) 1,600 1,400 1,200 1,000 Pre-Dollarization: $4708 mill. 800 600 400 Post-Dollarization: $6040 mill. 200 0 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004
4,000 3,500 3,000 2,500 2,000 1,500 1,000 500 0... which have strengthened foreign reserves (AIFR, millions of US$) Dec-00 Jun-01 Dec-01 Jun-02 Dec-02 Jun-03 Dec-03 Jun-04 Dec-04 Jun-05 Dec-05 Jun-06 Dic-06 Jun-07
Inflation dropped within a few years... (12-month change CPI) 120% 100% Maximum Inflation: 107.9% 80% 60% 40% Average yearly inflation since December 2001: 4.7% 20% 0% 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006
Nominal interest rates have also dropped... (Nominal Interest Rate) 80% 70% 60% 50% 40% 30% 20% 10% 0% Jan-97 Jan-98 Jan-99 Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06
Since then, the economy is now (slowly) recovering: Major changes in the labor laws were introduced in 2000 to make the market more flexible, but Unemployment and informal employment remain relatively high: o unemployment rate: 10 and 12% o informal employment: 50% Few migrants have returned to Ecuador
Why did Ecuadorians migrate? The real market is inflexible! There were no private or public safety nets o unemployment insurance o private insurance schemes (e.g., family savings) Ecuadorians who could not find jobs sought ways to make money abroad The impact of migrant workers is huge: transfers to Ecuador accounted for more than 8% of Ecuador s private consumption in the last five years.
Workers remittances (transfers) have been very large (Millions of US$ and % of household consumption) Millions of Dollars 3500 3000 2500 2000 1500 1000 9.8 1084 12.9 1317 9.5 1415 % of GDP Worker's Transfers 1432 8.3 1627 8.2 1832 8.3 2454 10.0 2916 1999 2000 2001 2002 2003 2004 2005 2006 10.8 14 13 12 11 10 9 8 7 % of Consumption
What to do next? Ecuador needs to make markets more dynamic; task for both the government (laws, taxes) and the private sector (R&D, efficient management) Guarantee inflow of dollars (through exports and foreign investment), no other way to "print" money Ensure there is political stability