Dollarization of Financial Intermediation: Causes and Policy Implications

Author/Editor:

Eduardo Levy Yeyati ; Alain Ize

Publication Date:

March 1, 1998

Electronic Access:

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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:

This paper presents a portfolio model of financial intermediation in which currency choice is determined by hedging decisions on both sides of a bank’s balance sheet. Minimum variance portfolio (MVP) allocations are found to provide a natural benchmark to estimate the scope for dollarization of bank deposits and loans as a function of macroeconomic uncertainty. Dollarization hysteresis is shown to occur when the expected volatility of the inflation rate is high in relation to that of the real exchange rate. The evidence shows that MVP dollarization generally approximates actual dollarization closely for a broad sample of countries, and policy implications are explored.

Series:

Working Paper No. 1998/028

Subject:

Currencies Dollarization Financial institutions Foreign exchange Inflation Loans Monetary policy Money Prices Real exchange rates

English

Publication Date:

March 1, 1998

ISBN/ISSN:

9781451844634/1018-5941

Stock No:

WPIEA0281998

Pages:

48

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