Precautionary Demand for Foreign Assets in Sudden Stop Economies: An Assessment of the New Merchantilism

ByEnrique G. Mendoza, Ceyhun Bora Durdu, Marco Terrones

June 1, 2007

Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary

Financial globalization was off to a rocky start in emerging economies hit by Sudden Stops in the 1990s. The surge in foreign reserves since then is viewed as a New Merchantilism in which reserves are a war-chest for defense against Sudden Stops. We conduct a quantitative assessment of this argument using a framework in which precautionary savings affect foreign assets via business cycle volatility, financial globalization, and endogenous Sudden Stops. Our results show that financial globalization and Sudden Stop risk are plausible explanations of the surge in reserves but cyclical volatility, which has declined in the globalization period, is not.

Subject: Balance of payments, Consumption, External position, Foreign assets, Globalization, National accounts, Precautionary savings, Sudden stops

Keywords: business cycle, business cycle volatility, Consumption, D. baseline result, debt limit, effects of Volatility, Foreign assets, Global, globalization period, precautionary demand, Precautionary savings, Sudden Stop economy, Sudden stops, WP

Pages:
54
Volume:
2007
DOI:
https://doi.org/10.5089/9781451867107.001
Issue:
146
Series:
Working Paper No. 2007/146
Stock No:
WPIEA2007146
ISBN:
9781451867107
ISSN:
1018-5941

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