Richard Hemming, Michael Kell, and Axel Schimmelpfennig
©2003 International Monetary Fund
May 23, 2003
Fiscal problems have long been considered a central feature of financial (i.e., currency, debt, and banking) crises. However, fiscal problems received less attention at the time of the Asian crisis, because financial and corporate sector vulnerabilities were seen to be more important than fiscal vulnerability.1 But the recent crises in Argentina and Turkey illustrate the continuing importance of fiscal problems in precipitating crises. Moreover, whatever their cause, financial crises always have important fiscal dimensions.
This paper focuses on the fiscal aspects of financial crises in emerging market economies. As such, it is intended to complement other IMF work in progress on vulnerability and crises.2 In particular, the paper seeks to provide answers to the following four questions:
Two empirical approaches are followed. First, a large set of fiscal variables for 29 emerging market economies over the period 1970–2000 is used to examine whether: there are systematic patterns in fiscal variables in the periods before and after crises; fiscal variables can improve the performance of existing early warning system (EWS) models in predicting crises; and fiscal variables help to explain the severity of currency crises. Second, detailed case studies of 11 recent crises in emerging market economies focus on some of the structural and institutional dimensions of fiscal vulnerability.
The main conclusions of the paper are the following:
The paper is structured as follows. Section II provides background: it
defines financial crises and fiscal vulnerability; discusses the different
ways in which fiscal vulnerability can be assessed; and reports the main
conclusions from the theoretical and empirical literature on financial
crises. This literature is more extensively reviewed in Appendix I. Section
III describes the dataset constructed for this study, and presents an
event study analysis that summarizes the univariate correlations between
crises and fiscal variables. More details about the dataset and the event
studies are provided in Appendixes II and III. Section IV reports the
main results of econometric analysis that uses fiscal variables to predict
the timing of financial crises and investigates the role of fiscal variables
in explaining the severity of currency crises. Further details of the
methodology and results are contained in Appendix IV. Section V presents
the results from 11 case studies of emerging market crises in the 1990s;
the case studies themselves are in Appendix V. Section VI concludes by
providing answers to the four questions listed above.
1For example, in several recent overviews of the emerging market crises of the 1990s-Beim and Calomiris (2001); Glick, Moreno, and Spiegel (2001); and Feldstein (2002)-the coverage of fiscal issues is marginal at best.
2As reported in IMF (2002a); Allen and others (2002); and Berg, Borensztein, and Pattillo (2003).