## _wp10169

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---

### I. Introduction — overview and market-driven de-dollarization
- Dollarization in Peru began with inflation of the mid-70s and peaked during the hyperinflation of 1988−90.
- In 1985 forced conversion of foreign currency deposits to local currency caused capital flight; when restrictions were lifted, re-dollarization was quick.
- By end-1990s, about 80 percent of deposits (and credit) were denominated in foreign currency.
- Since introduction of the inflation targeting (IT) regime in early 2000s, Peru experienced gradual market-driven financial de-dollarization:
  - Dollarization of credit declined by nearly 25 percentage points during 2001−2009 to below 55 percent by end-2009.
  - Dollarization of deposits declined by a similar amount to about 52 percent.
  - Transaction dollarization has declined and is now minimal.

### II. Stylized facts and decomposition of de-dollarization (2001–2009)
- Aggregate trends:
  - De-dollarization gradual since early-2000s.
  - Sharp deposit de-dollarization in late-2007, quickly reversed after Lehman Brothers (2008) collapse.
  - Return to trend in 2008 resulted from an increase in foreign currency deposits while domestic currency deposits remained stable.
- Heterogeneity by loan and deposit type:
  - Dollarization higher for longer maturities: mortgages and commercial loans exceed consumer and small business loans.
  - Demand (vista) and savings deposits less dollarized than time deposits.
- Decomposition (within vs between effects) — credit (2001–2009):
  - commercial: Share in total credit 80.8; Dollarization 66.5; between effect 79.0; within effect 62.8; total effect -10.7 -11.3 -22.0
  - small business: Share 50.3; Dollarization 15.3; between effect 2.6; within effect 6.0; total effect 0.5 -0.9 -0.4
  - consumer: Share 47.8; Dollarization 14.9; between effect 9.0; within effect 17.5; total effect 1.3 -3.0 -1.7
  - mortgage: Share 94.1; Dollarization 59.9; between effect 9.4; within effect 13.7; total effect 2.5 -3.2 -0.7
  - total: Share 78.3; Dollarization 53.5; between effect 100; within effect 100; total effect -6.4 -18.4 -24.8
- Decomposition — deposits (2001–2009):
  - sight: Share 58.7; Dollarization 49.6; between effect 19.1; within effect 29.5; total effect 5.2 -1.7 3.5
  - saving: Share 71.7; Dollarization 46.9; between effect 32.1; within effect 27.6; total effect -2.1 -8.0 -10.1
  - time: Share 84.6; Dollarization 57.1; between effect 48.9; within effect 42.9; total effect -3.4 -13.4 -16.8
  - total: Share 75.5; Dollarization 52.1; between effect 100; within effect 100; total effect -0.3 -23.1 -23.5
- Interpretation:
  - De-dollarization mainly driven by within-sector/maturity changes; commercial sector de-dollarization explains the bulk of total credit de-dollarization except for fishing, mining, and electricity/water/gas.

### III. Contributing factors, macro pre-conditions and measures
- Macro pre-conditions — stabilization policies (2006–08):
  - Government pursued large fiscal surpluses of about 2.0-3.3 percent of GDP per year during 2006-08.
  - Public debt reduced below 30 percent of GDP.
- Inflation targeting and monetary policy:
  - IT framework introduced in 2002: initial target 2.5 percent with a band of ± 1 percent; since 2007 lowered to 2 percent with a band of ± 1 percent.
  - Central bank successfully contained inflation within the target band and anchored expectations.
- International reserves and sovereign risk:
  - Net international reserves increased from US$ 9.6 billion in 2002 to US$ 33.1 billion in 2009.
  - Peru EMBI stands at about 210 bps compared to 410 bps for Latin America as of late-May 2010.
- Credit ratings:
  - Peru granted investment grade by Fitch and Standard & Poor’s in April and July 2008, and by Moody’s in December 2009.
- Prudential measures:
  - Reserve requirements: current level of non-remunerated reserve requirement applied to all deposits is 6 percent.
  - Provisioning: since mid-2006 banks must evaluate currency risks or set up a reserve ranging from 0.25 percent to 1 percent of the credit in foreign currency not evaluated.
  - Liquidity requirements: banks required to hold liquid assets equivalent to at least 8 percent in domestic currency and 20 percent in foreign currency of liabilities maturing during next 12 months.
  - Banks’ net open position limits changed in February 2010 to 75 (long) and 15 (short) percent of capital from a previous 100 and 10 percent.
- Capital market development (soles):
  - 2003 market-making program and subsequent decrees aimed to develop a yield curve in soles and reduce public debt denominated in foreign currency.
  - Fixed-rate “Tasa Fija” bonds represent nearly 90 percent of Soberanos.
  - Longest maturity of fixed-rate government paper in domestic currency is 32 years (figure date not provided).
  - VAC curve extends up to 39-year tenors, but has limited liquidity: total outstanding amount is US$700 million.
  - Issuance of long-term treasuries in soles lowered dollarization of credit by facilitating bank funding and pricing of long-term loans in soles; some sol market instruments increased bank dollarization by competing with bank loans in soles.
- AFP and investor composition:
  - AFP portfolio denominated in dollars: 50 percent in 2000; 32 percent in November 2008; 41 percent in December 2009.
  - Holders of Soberanos: AFPs more than 50 percent; Foreign investors 21 percent; Local banks 15 percent; Insurance companies 4 percent.

### IV. Modeling approach and scope (VAR framework)
- Simultaneous estimation of deposit and credit dollarization to capture banks’ responses.
- Decomposition of drivers across categories by maturity and sector.
- VAR approach (monthly data, 2001−2009) to identify factors boosting de-dollarization:
  - Specification 1 (aggregate): endogenous variables are dollarization of total credit and total deposits, both in first differences.
  - Specification 2 (disaggregated): six endogenous variables (first differences): commercial credit, consumer credit, mortgages, demand deposits (vista), savings, time deposits.
- Methodological notes:
  - Granger causality verified from deposit to credit dollarization.
  - Series valued at constant nominal exchange rate; total credit and deposit dollarization constructed using December 2008 weights.
  - Cointegration tests rejected; dollarization series in first-differences are I(0) processes.
  - Depreciation dummy: equal to 1 if depreciation in t and t-1 exceeds 1 percent; zero otherwise.
  - Appreciation dummy: equal to 1 if appreciation in t and t-1 exceeds 1 percent; zero otherwise.
  - There are 7 episodes of depreciation and 10 episodes of appreciation in the estimation sample of 94 observations.

### V. Empirical findings (aggregate and disaggregated VAR results)
- Aggregate model key findings:
  - Inflation not significant in the aggregate model: "it is not an important driver of dollarization once inflation and expectations are well-contained."
  - Appreciation spikes matter: "An appreciation spike equivalent to appreciations greater than 1 percent for two consecutive months results in a decline of the dollarization rate of 0.5 percentage points over time."
  - After controlling for sharp exchange rate movements, remaining exchange rate variability lowers credit dollarization: "Under historical variability of the exchange rate over the last two years, the decline in credit dollarization will be 2.5 percentage points per year."
  - EMBI changes capture additional macroeconomic stability effects.
  - Development of a sol yield curve (issuance of long-term treasury bonds in soles) fosters de-dollarization by helping bank funding and pricing of long-term credit in soles.
  - Paradox: higher share of private sector bonds issued in domestic currency is associated with higher dollarization of credit—interpreted as private sol instruments competing with bank loans in soles.
- Selected aggregate VAR coefficient entries (Table 4 — preserved):
  - ∆dol_credit_t-1 coefficients: 0.16* ; 0.12 ; 0.08 ; 0.02 (standard errors (0.10) etc.)
  - ∆dol_deposit_t-2 coefficients: -0.08** ; -0.07 ; -0.07 ; -0.03 (standard errors (0.04) etc.)
  - e_t (Sum over t and t-1 of monthly % change of nominal exchange rate) coefficients: -0.09*** ; -0.08** ; -0.09** ; -0.08** (standard errors (0.03) etc.)
  - s_t (Standard deviation of daily % change of nominal exchange rate over 90-days) coefficients: -0.4 ; 0.47 ; -0.47* ; 0.45 ; -0.54* ; 0.36 ; -0.49* ; 0.34 (standard errors (0.27) etc.)
  - ∆ share bonds in soles coefficient: 0.07* ; -0.01 ; 0.06 ; -0.03 (standard errors (0.04) etc.)
  - d_10-15 coefficient: -0.31** for credit (standard error (0.13)); -0.25 for deposits (standard error (0.28))
  - Observations: 105; 94 (across specifications). R-squared reported: 0.27; 0.21; 0.39; 0.83; 0.40; 0.85; 0.39; 0.86.
- Disaggregated (six-variable) VAR key sectoral findings:
  - Exchange rate dynamics:
    - Appreciation spikes foster de-dollarization of commercial credit.
    - Depreciation spikes associated with higher dollarization of mortgages.
    - After controlling for sharp movements, exchange rate volatility lowers dollarization of commercial credit.
  - Prudential variables:
    - Higher RR spreads lower dollarization, specifically for commercial credit.
    - Introduction of higher provisions for foreign currency loans helped lower dollarization of mortgages (result merits further analysis).
  - Capital market development:
    - Issuance of long-term treasury bonds in soles promotes de-dollarization of credit; coefficients for 10−15 and 15−20 year treasuries significant for commercial credit.
    - Increase in share of bonds issued in soles raises dollarization of credit, particularly for commercial sector.
- Selected six-variable VAR coefficient entries (Table 5 — preserved):
  - ∆dol_commercial_t-2: 0.07 ; ∆dol_consumption_t-2: 0.19*** ; ∆dol_mortgage_t-2: 0.41*** ; ∆dol_vista_t-2: -0.28*** ; ∆dol_saving_t-1: 0.28*** ; ∆dol_time_t-1: 0.30*** (standard errors provided in source)
  - s_t coefficients: 1.24*** for commercial ; -1.03*** for mortgage ; -1.66 for vista ; 0.92 for saving ; 0.64 for time (standard errors listed)
  - ∆embi coefficients: 0.23* for commercial ; -0.16* for consumption ; -0.18*** for mortgage ; 0.79** for vista ; -0.39** for saving ; 0.16 for time.
  - ∆ share bonds in soles: 0.15*** for commercial ; -0.05 for consumption ; 0.00 for mortgage ; 0.13 for vista ; -0.02 for saving ; -0.08 for time.
  - d_10-15: -0.53*** for commercial ; 0.20 for consumption ; 0.04 for mortgage ; -0.21 for vista ; -0.61** for saving ; -0.10 for time.
  - Observations: 94 for each equation. R-squared: 0.48; 0.37; 0.75; 0.42; 0.41; 0.31.

### VI. Dynamic multipliers and impulse responses (Figures 8 and 9 — selected entries)
- Aggregate cumulative dynamic multipliers (Figure 8 — selected entries preserved verbatim):
  - inflation steps 0: cdm Lower Upper -0.09 -0.22 0.03 ; for deposits 0.22 -0.06 0.49
  - e (exchange rate) steps 0: -0.08 -0.14 -0.03 ; deposits 0.01 -0.12 0.14
  - d10-15 steps 0: -0.31 -0.52 -0.10 ; deposits -0.25 -0.71 0.21
  - Note: "90 percent confidence interval. Highlighted if statistically significant different from zero."
- Six-variable model dynamic multipliers (Figure 9) show exchange rate, prudential, and capital market impulses across COMMERICAL, CONSUMPTION, MORTGAGE, VISTA, SAVING, TIME responses with step-specific cdm, Lower, Upper entries and 90 percent confidence intervals.

### VII. Policy implications and recommendations
- Three-prong approach supported by empirical findings:
  - Ensuring macroeconomic stability (inflation containment, exchange rate management, sovereign risk reduction) is central to de-dollarization.
  - Prudential regulation (reserve requirements, provisioning, capital charges) can shift banks’ incentives toward soles.
  - Development of attractive local-currency financial instruments (long-term treasuries, mortgage covered bonds, CPI-indexed sol instruments) supports funding and pricing in soles though some private sol instruments may compete with bank loans and have mixed effects.
- Specific policy recommendations and "Next steps":
  - Macro:
    - IT framework and consolidated policy credibility keep inflation expectations anchored—essential to de-dollarization.
    - Some further exchange rate flexibility, while avoiding extreme depreciations, could foster de-dollarization.
  - Prudential:
    - Periodically reassess provisions and capital requirements for foreign currency lending to un-hedged domestic borrowers to ensure foreign exchange credit risk is internalized.
    - Develop mortgage covered bonds in soles to help banks finance mortgages in soles.
  - Capital market development:
    - Deepen long-term funding and pricing in soles: improve the Soberanos yield curve, develop the repo market and the fixed-floating swap curve.
    - Develop long-term sol instruments indexed to the CPI to promote "solarization" of pensions.
    - Note: regulation allows insurance companies to offer pensions in either dollars or soles VAC, but in practice, all pensions (about 95 percent) are denominated in dollars due to limited availability of sol VAC instruments.
- Conclusion:
  - Peru pursued "a market-driven financial de-dollarization during the last decade" based on macro stability, prudential policies, and capital market development in soles.
  - Dollarization ratios of credit and deposit declined across sectors and maturities, with larger declines for commercial credit and time and saving deposits.
  - Road ahead emphasizes greater exchange rate variability within a stable macro framework, additional prudential measures to discourage foreign currency lending and funding, and further development of the domestic currency capital market while acknowledging competition effects.

### VIII. Appendix — sectoral decomposition (commercial and small business, 2001−2009)
- Aggregate commercial and small business dollarization: 79.8 (2001) -> 61.4 (2009) with between effect 8.1; within effect 68.6; total effect -23.0.
- Example sector rows (preserved entries):
  - manufacturing: 84.6 -> 67.5 ; between 22.7 ; within 18.3 ; total effects -3.7 -3.1 -6.8
  - commerce: 68.1 -> 49.3 ; between 18.4 ; within 14.0 ; total effects -3.0 -2.6 -5.6
- Note: credits in foreign currency evaluated at a constant nominal exchange rate.

*Source: IMF staff analysis and figures as presented in the document.*

### References .............................................................................................................

### _wp10169 - References

### I. Introduction
- Dollarization in Peru began with inflation of the mid-70s and peaked during the hyperinflation of 1988−90.
- In 1985 the government forced conversion of foreign currency deposits to local currency, causing capital flight and financial disintermediation; when restrictions were lifted, re-dollarization was quick.
- By end-1990s, about 80 percent of deposits (and credit) were denominated in foreign currency.
- Since introduction of the inflation targeting (IT) regime in early 2000s, Peru experienced gradual market-driven financial de-dollarization:
  - Dollarization of credit declined by nearly 25 percentage points during 2001−2009 to below 55 percent by end-2009.
  - Dollarization of deposits declined by a similar amount to about 52 percent.
  - Transaction dollarization has declined and is now minimal.

### II. De-dollarization — Stylized facts
- Aggregate trends:
  - De-dollarization has been gradual since early 2000s.
  - A sharp deposit de-dollarization occurred in late-2007 and was quickly reversed following the collapse of Lehman Brothers (2008).
  - Return to trend in 2008 resulted from an increase in foreign currency deposits while domestic currency deposits remained stable.
- Heterogeneity by loan and deposit type:
  - Dollarization of loans with longer maturities (mortgages and commercial) is higher than for shorter maturities (consumer and small business).
  - Dollarization of demand and savings deposits (more liquid) is lower than time-deposits.
- Decomposition: within vs between effects (2001–2009)
  - Credit (share in total credit; dollarization; 2001–2009 effect decomposition, in percent)
    - commercial: Share in total credit 80.8; Dollarization 66.5; between effect 79.0; within effect 62.8; total effect -10.7 -11.3 -22.0
    - small business: Share 50.3; Dollarization 15.3; between effect 2.6; within effect 6.0; total effect 0.5 -0.9 -0.4
    - consumer: Share 47.8; Dollarization 14.9; between effect 9.0; within effect 17.5; total effect 1.3 -3.0 -1.7
    - mortgage: Share 94.1; Dollarization 59.9; between effect 9.4; within effect 13.7; total effect 2.5 -3.2 -0.7
    - total: Share 78.3; Dollarization 53.5; between effect 100; within effect 100; total effect -6.4 -18.4 -24.8
  - Deposits (share in total deposits; 2001–2009 decomposition, in percent)
    - sight: Share 58.7; Dollarization 49.6; between effect 19.1; within effect 29.5; total effect 5.2 -1.7 3.5
    - saving: Share 71.7; Dollarization 46.9; between effect 32.1; within effect 27.6; total effect -2.1 -8.0 -10.1
    - time: Share 84.6; Dollarization 57.1; between effect 48.9; within effect 42.9; total effect -3.4 -13.4 -16.8
    - total: Share 75.5; Dollarization 52.1; between effect 100; within effect 100; total effect -0.3 -23.1 -23.5
- Interpretation:
  - De-dollarization has been driven mainly by changes within each type of credit and deposits (within-sector/maturity de-dollarization explains the bulk of aggregate changes).
  - Commercial sector de-dollarization explains the bulk of total credit de-dollarization (with most commercial sub-sectors contributing except fishing, mining, and electricity/water/gas).

### III. Contributing factors and measures
A. Macro pre-conditions — stabilization policies
- Fiscal and macro performance (2006–08):
  - Government pursued large fiscal surpluses of about 2.0-3.3 percent of GDP per year during 2006-08.
  - Public debt reduced below 30 percent of GDP (one of the lowest in the region).
- Inflation targeting and monetary policy:
  - IT framework introduced in 2002: initial target 2.5 percent with a band of ± 1 percent; since 2007 lowered to 2 percent with a band of ± 1 percent.
  - Central bank successfully contained inflation within the target band and anchored expectations.
- International reserves and sovereign risk:
  - Net international reserves increased from US$ 9.6 billion in 2002 to US$ 33.1 billion in 2009.
  - Peru EMBI stands at about 210 bps compared to 410 bps for Latin America as of late-May 2010.
- Credit ratings:
  - Peru granted investment grade by Fitch and Standard & Poor’s in April and July 2008, and by Moody’s in December 2009.

B. Prudential measures
- Reserve requirements (RR):
  - Difference between RR on foreign currency deposits and domestic currency deposits changed during the analysis period; central bank remuneration on reserves changed.
  - Figure references show required reserve requirement rate (in percent) and remuneration rate evolution; current level of non-remunerated reserve requirement applied to all deposits is 6 percent.
- Provisioning requirements:
  - Since mid-2006, banks must evaluate currency risks or set up a reserve ranging from 0.25 percent to 1 percent of the credit in foreign currency not evaluated.
  - As of 2009, additional provisions for foreign currency risk as a percent of total provisions are marginal.
- Other measures (unchanged during analysis period):
  - Liquidity requirements: banks required to hold liquid assets equivalent to at least 8 percent in domestic currency and 20 percent in foreign currency of liabilities maturing during next 12 months.
  - Banks’ net open position: limits and capital requirements on open foreign exchange positions; the limit to banks’ long (short) open position changed to 75 (15) percent of capital in February 2010, from a previous limit of 100 (10) percent of capital.

C. Development of a capital financial market in soles
- Domestic public debt market:
  - 2003 market-making program to develop domestic public debt market, mainly fixed-rate instruments in domestic currency (Ministerial Resolution 106-2003; Supreme Decree 189-2004; Supreme Decree 137-2005).
  - Public debt management aimed to develop a yield curve in soles and reduce share of public debt denominated in foreign currency.
  - Fixed-rate “Tasa Fija” bonds and inflation adjusted “VAC” bonds (Tasa Fija represent nearly 90 percent of Soberanos).
  - Longest maturity of fixed-rate government paper in domestic currency is 32 years, as of February (figure date not provided in source excerpt).
- Private debt market:
  - Private bond issuances in local currency increased substantially in recent years.
- Effects:
  - Issuance of long-term treasuries in soles lowered dollarization of credit (facilitating bank funding and pricing of long-term loans in soles).
  - Some other sol market instruments led to higher bank dollarization—possibly by competing with bank loans in soles and affecting the pool of bank borrowers.

### IV. Modeling approach and scope
- The paper examines simultaneously dollarization of deposits and credits (unlike much literature that focuses only on deposits), estimating deposits and credits simultaneously to capture banks’ responses to different factors.
- It decomposes drivers of de-dollarization across categories of deposits and credits (by maturity and sector).
- Section IV models de-dollarization dynamics using a vector autoregression approach to identify factors boosting de-dollarization.
- Based on empirical findings, section V outlines measures to further deepen and consolidate de-dollarization.

### V. Findings and policy implications
- Empirical findings confirm a three-prong explanation for bank de-dollarization in Peru:
  - Macroeconomic stability (proxied by inflation, measures of exchange rate changes, and sovereign credit risk (EMBI)) had a significant impact on de-dollarization.
  - Prudential measures (introduction of asymmetric reserve requirements and provisions for currency-induced credit risk) affected banks’ incentives to borrow and lend in soles.
  - Development of the local capital market in soles had a mixed impact:
    - Long-term treasuries in soles lowered dollarization of credit.
    - Other sol market instruments increased bank dollarization, possibly by competing with bank loans in soles.
- Policy orientation (from structure of paper):
  - Measures that combine macroeconomic stability, prudential regulation, and development of attractive local-currency financial instruments can support market-driven de-dollarization.
  - Section V of the paper (not fully provided in excerpt) outlines measures to further deepen and consolidate de-dollarization based on empirical findings.

*Source: IMF staff analysis and figures as presented in the document.*

### 2010. It was 5 years in 2003. The VAC curve extends up to 39-year tenors, but has limited liquidity, as the

### _wp10169 - 2010. It was 5 years in 2003. The VAC curve extends up to 39-year tenors, but has limited liquidity, as the

### Domestic debt market and VAC curve
- The VAC curve extends up to 39-year tenors, but has limited liquidity, as the total outstanding amount is US$700 million.
- Availability of domestic debt instruments in soles increased over the 2000s, influencing portfolio composition of local pension funds (AFPs).

### AFP portfolios and investor composition
- AFP portfolio denominated in dollars:
  - 50 percent in 2000
  - Declined to 32 percent in November 2008
  - Increased to 41 percent in December 2009 as limits on AFP foreign investments were raised
- Holders of Soberanos:
  - AFPs: more than 50 percent
  - Foreign investors: 21 percent
  - Local banks: 15 percent
  - Insurance companies: 4 percent

### Private sector bond issuance (figures described)
- Time series plots (2002m1–2010m1) for Peru: Outstanding amount of private sector bonds (millions of Soles) distinguish:
  - Total
  - Issued in domestic currency
  - Issued in foreign currency
- Composition of private sector bonds (percent, 2002m1–2010m1) distinguishes:
  - Domestic currency bonds
  - Nominal bonds
  - Indexed bonds
- Data sources: BCRP; and IMF staff calculations.

### Understanding de-dollarization: conceptual framing
- Dollarization reflects the choice of currency by depositors, borrowers and banks.
- Dollarization of credits and deposits reflects the equilibrium in credit and deposit markets where:
  - Banks supply loanable funds and demand deposits
  - The private sector demands credit and provides funding
  - Banks intermediate between creditors and depositors
- Figure 6 depicts on the vertical axis the ratio of lending (active) rates in foreign to domestic currency.

### Empirical patterns in Peru’s de-dollarization (2001–2009)
- Peru’s de-dollarization process is consistent with a shift of both demand of credit and supply of deposits toward soles.
- The null hypothesis of stable demand would imply that dollarization of credit (deposits) and the ratio of lending (active) rates in foreign to domestic currency negatively covary.
- Shaded areas in Figure 6 appear to be consistent with rejecting the null, indicating a shift in the demand of credit toward soles particularly for commercial loans since 2006.
- Other patterns, particularly in the deposits market, would be consistent with supply shifts.

### Lending and deposit rate patterns (2001–2009)
- Lending rates by sector (2001–2009, in percent) plotted for:
  - commercial, domestic currency
  - small business, domestic currency
  - consumer, domestic currency
  - mortgage, domestic currency
  - commercial, foreign currency
  - small business, foreign currency
  - consumer, foreign currency
  - mortgage, foreign currency
- Deposit rates by maturity (2001–2009, in percent) plotted for:
  - vista, domestic currency
  - saving, domestic currency
  - time, domestic currency
  - vista, foreign currency
  - saving, foreign currency
  - time, foreign currency

### Credit and deposit dollarization relationships (quarterly, 2001:q4–2009:q4)
- Credit dollarization and lending rates by sector (quarterly data) plotted with:
  - ratio of lending rate in US$ to Soles (scale from 0.2 to 1.2)
  - credit dollarization for: commercial, small business, consumer, mortgage
- Deposit dollarization and interest rates by maturity (quarterly data) plotted with:
  - ratio of interest rate in US$ to Soles (scale from 0.1 to 0.9)
  - deposit dollarization for: vista, ahorro, plazo-360

### VAR approach to model dynamics between dollarization of credits and deposits
- Rationale for VAR:
  - Avoids imposing a particular structure to credit and deposit dollarization
  - Permits capturing:
    - (i) simultaneous determination of credit and deposit dollarization
    - (ii) response to exogenous factors that are demand or supply shifters
    - (iii) dynamics of credit and deposit dollarization
- Two VAR specifications estimated using monthly data for the period 2001−2009:
  - First specification:
    - Endogenous variables: dollarization of total credit and total deposits, both in first differences
  - Second specification:
    - Endogenous variables (six, in first differences): dollarization of commercial credit, consumer credit, mortgages, demand deposits, savings deposit, time deposits
- Additional methodological notes:
  - Granger causality was verified from deposit to credit dollarization.
  - All series are valued at constant nominal exchange rate.
  - The series of total credit and deposit dollarization used for the analysis are constructed using December 2008 weights to avoid composition changes among types of credit and among types of deposits.
  - Cointegration tests were performed in both specifications but rejected.
  - Cointegration tests allowing for structural breaks were not performed as the period under analysis is characterized by macroeconomic stability and coincides with the

*Sources: BCRP; and IMF staff calculations.*

### introduction of the IT framework. Dollarization series in first-differences are I(0) processes.

### _wp10169 - introduction of the IT framework. Dollarization series in first-differences are I(0) processes.

### VAR estimation and aggregate model findings
- The VAR estimation results of the aggregate model are presented in Table 4.
- Figure 8 depicts the impact of a unit increase to selected exogenous variables on credit and deposit dollarization over time.
- Key empirical findings:
  - Inflation is not significant in the aggregate model, "suggesting that it is not an important driver of dollarization once inflation and expectations are well-contained—as it has been the case in Peru for the estimation period."
  - Appreciation spikes are important for explaining de-dollarization of credits and deposits: "An appreciation spike equivalent to appreciations greater than 1 percent for two consecutive months results in a decline of the dollarization rate of 0.5 percentage points over time (Figure 8)."
  - After controlling for sharp exchange rate movements, remaining exchange rate variability lowers credit dollarization: "Under historical variability of the exchange rate over the last two years, the decline in credit dollarization will be 2.5 percentage points per year."
  - Inclusion of EMBI changes captures "the impact of macroeconomic stability not reflected in exchange rate movements."
  - Development of a sol yield curve (issuance of long-term treasury bonds in soles) "fosters de-dollarization as the development of a sol yield curve helps bank funding and pricing of long-term credit in soles."
  - Paradoxical result: "as the share of private sector bonds issued in domestic currency increases, dollarization of credit increases too"—interpreted as private sol instruments competing with bank lending in soles, increasing dollarization of banking credit even though "overall credit in soles in the economy increases."

### Disaggregated (six-variable) VAR results and sectoral insights
- The disaggregated VAR specification (Table 5, Figure 9) confirms aggregate findings and provides additional sectoral detail.
- Exchange rate dynamics:
  - Appreciation spikes foster de-dollarization of commercial credit.
  - Depreciation spikes are associated with higher dollarization of mortgages.
  - After controlling for sharp movements, exchange rate volatility lowers dollarization of commercial credit.
- Prudential variables:
  - Higher RR spreads lower dollarization, specifically for commercial credit.
  - "The introduction of higher provisions for foreign currency loans helped lower dollarization of mortgages," but authors note the result "merits further analysis" as the dummy may capture other coincident events (e.g., reduction in the IT band since 2007).
- Capital market development:
  - Issuance of long-term treasury bonds in soles promotes de-dollarization of credit.
  - Coefficients on treasury bonds with terms of 10−15 years and 15−20 years are significant for commercial credit.
  - The increase in the share of bonds issued in soles raises dollarization of credit, particularly for the commercial sector—supporting the competition explanation with private sol instruments.

### Quantitative model specifics and selected coefficients (from tables)
- Table 3: Definitions and processes
  - The exogenous variables are I(0) processes.
  - Depreciation dummy (ondepreciati_t_d): "Dummy equal to 1 if depreciation in t and t-1 exceeds 1 percent; zero, otherwise."
  - Appreciation dummy (onappreciati_t_d): "Dummy equal to 1 if appreciation in t, and t-1 exceeds 1 percent; zero, otherwise."
  - There are "7 episodes of depreciation and 10 episodes of appreciation in the estimation sample consisting of 94 observations."
- Table 4 (aggregate VAR) selected entries (preserve exact numeric entries as reported):
  - ∆dol_credit_t-1 coefficients: 0.16* ; 0.12 ; 0.08 ; 0.02 (with standard errors (0.10) etc.)
  - ∆dol_deposit_t-2 coefficients: -0.08** ; -0.07 ; -0.07 ; -0.03 (standard errors (0.04) etc.)
  - e_t (Sum over t and t-1 of monthly % change of nominal exchange rate) coefficients: -0.09*** ; -0.08** ; -0.09** ; -0.08** with standard errors (0.03) etc.
  - s_t (Standard deviation of daily % change of nominal exchange rate over 90-days) coefficients: -0.4 ; 0.47 ; -0.47* ; 0.45 ; -0.54* ; 0.36 ; -0.49* ; 0.34 (standard errors (0.27) etc.)
  - ∆ share bonds in soles coefficient: 0.07* ; -0.01 ; 0.06 ; -0.03 (standard errors (0.04) etc.)
  - d_10-15 coefficient: -0.31** for credit (standard error (0.13)); -0.25 for deposits (standard error (0.28))
  - Constant values include: -0.07 ; -0.42*** ; -0.02 ; -0.45*** ; 0.00 ; -0.46*** ; 0.03 ; -0.43** (with standard errors)
  - Observations: 105; 94 (as listed across specifications). R-squared values reported: 0.27; 0.21; 0.39; 0.83; 0.40; 0.85; 0.39; 0.86.
- Table 5 (six-variable VAR) selected entries:
  - ∆dol_commercial_t-2: 0.07 ; ∆dol_consumption_t-2: 0.19*** (standard errors shown)
  - ∆dol_mortgage_t-2: 0.41*** ; ∆dol_vista_t-2: -0.28*** ; ∆dol_saving_t-1: 0.28*** ; ∆dol_time_t-1: 0.30*** (with standard errors)
  - s_t coefficients: 1.24*** for commercial ; -1.03*** for mortgage ; -1.66 for vista ; 0.92 for saving ; 0.64 for time (standard errors listed)
  - ∆embi coefficients: 0.23* for commercial ; -0.16* for consumption ; -0.18*** for mortgage ; 0.79** for vista ; -0.39** for saving ; 0.16 for time.
  - ∆ share bonds in soles: 0.15*** for commercial ; -0.05 for consumption ; 0.00 for mortgage ; 0.13 for vista ; -0.02 for saving ; -0.08 for time.
  - d_10-15: -0.53*** for commercial ; 0.20 for consumption ; 0.04 for mortgage ; -0.21 for vista ; -0.61** for saving ; -0.10 for time.
  - Observations: 94 for each equation. R-squared: 0.48; 0.37; 0.75; 0.42; 0.41; 0.31.

### Dynamic and cumulative multipliers (Figures 8 and 9)
- Figure 8: Aggregate model dynamic multipliers show impulse-response dynamics for:
  - depreciation, CREDIT and DEPOSITS;
  - appreciation, CREDIT and DEPOSITS;
  - s (exchange rate volatility), CREDIT and DEPOSITS;
  - dRR and d2006 prudential impulses for CREDIT and DEPOSITS;
  - private bonds in soles and treasuries 10-15 for CREDIT and DEPOSITS.
- Figure 8 cumulative dynamic multipliers table (selected entries preserved verbatim):
  - inflation steps 0: cdmLowerUpper -0.09 -0.22 0.03 ; for deposits 0.22 -0.06 0.49
  - e (exchange rate) steps 0: -0.08 -0.14 -0.03 ; deposits 0.01 -0.12 0.14
  - d10-15 steps 0: -0.31 -0.52 -0.10 ; deposits -0.25 -0.71 0.21
  - 1/ "90 percent confidence interval. Highlighted if statistically significant different from zero."
- Figure 9: Six-variable model dynamic multipliers for exchange rate, prudential, and capital market impulses across COMMERICAL, CONSUMPTION, MORTGAGE, VISTA, SAVING, TIME responses.
- Figure 9 cumulative tables provide numerous step-specific cdm, Lower, Upper entries per exogenous variable and per response (e.g., inflation, s, e, ∆embi, ∆RRt, d2006t, ∆ share bonds in soles, d10-15, d15-20, d20) with 1/ "90 percent confidence interval. Highlighted if statistically significant different from zero."

### Policy recommendations and "Next steps" to deepen de-dollarization
- Macro-economic related:
  - The IT framework and consolidated policy credibility have been "key to keep inflation expectations well anchored, which are essential to the de-dollarization process."
  - Successful policy response during the global financial crisis "has further increased currency credibility."
  - "Some further exchange rate flexibility, while avoiding extreme depreciations, could foster the de-dollarization process."
- Prudential measures:
  - Regulatory measures can promote funding and lending in domestic currency.
  - "Provisions and capital requirements for foreign currency lending to un-hedged domestic borrowers could be periodically reassessed to ensure that the foreign exchange credit risk remains well internalized."
  - Development of mortgage covered bonds in soles "will help banks to finance mortgages in soles."
- Development of a capital market in soles:
  - Deepening long-term funding and pricing in soles will enhance de-dollarization.
  - Policy actions to support this include improving "the Soberanos yield curve, and developing the repo market and the fixed-floating swap curve."
  - Development of long-term sol instruments indexed to the CPI "could promote de-dollarization through the solarization of pensions."
  - Footnote: "Currently, regulation allows insurance companies to offer pensions in either dollars or soles VAC, but in practice, all pensions (about 95 percent) are denominated in dollars since availability of sol VAC instruments in the market is very limited."

### Conclusion (summary of empirical and policy implications)
- Peru has pursued "a market-driven financial de-dollarization during the last decade" based on a three-prong approach:
  - ensuring macroeconomic stability;
  - effective management of reserve requirements and introduction of prudential policies to reflect currency risk;
  - development of a capital market in soles.
- Result: "dollarization ratios of credit and deposit—across all sectors and maturities—have declined, with larger decline for commercial credit and time and saving deposits."
- Road ahead to deepen de-dollarization focuses on:
  - greater exchange rate variability while maintaining macroeconomic stability and credibility;
  - additional prudential measures to discourage foreign currency lending and funding;
  - further development of the domestic currency capital market, acknowledging potential competition with bank loans but overall supporting financial de-dollarization.

### Appendix: sectoral decomposition of commercial and small business de-dollarization (2001−2009)
- During 2001−2009, all commercial and small business sectors de-dollarized except "fishing, mining and electricity/water/gas."
- Chart and decomposition table summary (preserve exact numeric entries where quoted):
  - Total commercial and small businesses dollarization: 79.8 (2001) -> 61.4 (2009) with between effect 8.1, within effect 68.6, total effect -23.0 (table columns labeled as "betweenwithintotal Sector2001200920012009effecteffecteffect" show per-sector numerical decomposition).
  - Example sector rows (as presented):
    - manufacturing: 84.6 -> 67.5 ; between 22.7 ; within 18.3 ; total effects listed -3.7 -3.1 -6.8
    - commerce: 68.1 -> 49.3 ; between 18.4 ; within 14.0 ; total effects -3.0 -2.6 -5.6
  - Note: "Credits in foreign currency are evaluated at a constant nominal exchange rate." Source noted as "SBS; and IMF staff calculations."

*Source: IMF staff calculations as presented in the content unit.*

### References

### _wp10169 - References

### Books and Edited Volumes
- Armas, A., A. Ize, and E. Levy, eds., 2006, “Financial Dollarization—The Policy Agenda” IMF: Palgrave Macmillan, New York.
- Rennhack, R. and M. Nozaki, 2006, “Financial Dollarization in Lain America” in Armas, A., A. Ize, and E. Levy, eds, 2006. “Financial Dollarization—The Policy Agenda” IMF: Palgrave Macmillan, New York.

### IMF Working Papers, Country Reports, and IMF Documents
- Armas, A, N. Batini, and V. Tuesta, 2007, “Peru’s Experience with Partial Dollarization and Inflation targeting,” IMF Country Report 07/53.
- Cayazzo, J. et al., 2006, “Toward and Effective Supervision of Partially Dollarized Banking Systems,” IMF Working Paper 06/32.
- Erasmus, L., J. Leichter, and J. Menkulasi, 2009, “Dedollarization in Liberia—Lessons from Cross-country Experience”. IMF Working Paper 09/37.
- Ize, A. and E. Levy-Yeyati, 2005, “Financial De-dollarization: Is it for Real?” IMF Working Paper 05/187.
- Banco Central Reserva de Peru, 2005, “Fenómeno de la Dolarización” in Reporte de Inflación, May, pp. 42−46.

### Journal Articles and Staff Reports
- De Nicolo, P. Honokan, and A. Ize, 2005, “Dollarization of Bank deposits: Causes and Consequences.” Journal of Banking and Finance 29, pp. 1697−1727.
- Ize, A. and E. Levy-Yeyati, 2003, “Financial Dollarization” Journal of International Economics 59, pp. 323−347.
- Broda, C. and E. Levy-Yeyati, 2003, “Endogeneous Deposit Dollarization” Staff Report 160 (New York: Federal Reserve Bank of New York).

### Country and Policy Studies, Manuscripts, and Discussion Papers
- Castillo, P., and D. Winkelried, 2006, “Dollarizaton Persistence and Individual Heterogeneity” Manuscript.
- Kokenyne, A. and R. Veyrune, 2008, “Dedollarization” Manuscript.
- Moron, E., and Castro, J. F., 2003, “De-dollarizing the Peruvian Economy: A Portfolio Approach” Centro de Investigacion de la Universidad del Pacifico, Documento de Discusion 03/01.
- Quispe, Z, 2000, “Politica monetaria en una economia con dolarizacion parcial: el caso de Peru”. Banco Central Reserva de Peru, Estudios Economicos No. 6.
- Armas, A, N. Batini, and V. Tuesta, 2007, “Peru’s Experience with Partial Dollarization and Inflation targeting,” IMF Country Report 07/53.

### Other
- J.P. Morgan Securities Inc., October 2009, “Local Markets Guide”.

*Source: _wp10169 - References*

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