Drawing lessons for Latin America Dollarization complicated crisis management

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The trick to learning from history is divining what lessons it tells us. The IMF had that in mind when it set up internal task forces to draw lessons from recent crises that could aid its effort to help manage the crisis in Argentina and the turmoil in Latin America. The product of that work is now available in a new IMF Occasional Paper. The two coordinators of the project, Charles Collyns of the Western Hemisphere Department and Russell Kincaid of the Policy Development and Review Department, speak with the IMF Survey about the findings.

IMF SURVEY: How did the IMF mine its previous experience in crisis management to help it deal with deepening problems in Argentina?

COLLYNS: In early January 2002, the IMF's management asked that a group of staff with relevant country and policy expertise be assembled to look at issues emerging in Argentina.

Management wanted operational recommendations drawn from any direct parallels with earlier crises-notably in the 1990s-and from any differences.When the exercise proved useful, a second task force was put together, in the summer of 2002, to address similar questions for other Latin American countries that werePage 142 beginning to face serious strains.

The task forces found a number of similarities between the then-current and previous crises. Like Asia, many of the affected countries in Latin America had a variety of softpeg exchange regimes-or in the case of Argentina, an ostensibly very hard peg-that cracked under the strain. These economies had to find ways to reestablish a credible nominal anchor, and Asia offered relevant experience for how to do this.

A second parallel was that once the exchange rate began to move, and move substantially, the financial and corporate sectors suffered major balance sheet damage. This phenomenon was at the core of the deep economic disruptions in Asia, and we expected similar difficulties in Latin America-perhaps to a greater extent than in Asia.

But there were important differences, too. In Asia, the crises came after 10 years of rapid growth and low inflation. As a result, the markets had a basic belief in the ability of the authorities to pursue responsible macroeconomic policies. In Latin America, where hyperinflation in the 1980s was followed by persistent weaknesses in fiscal policy in the 1990s, it was much more difficult for the authorities to reestablish credibility.

IMF SURVEY: Were there aspects of what happened in Argentina and Latin America that the IMF had simply not seen before?

KINCAID: Many. One was the abandonment of the currency board in Argentina. After earlier crises, involving essentially soft-peg exchange rate regimes, the received wisdom was that exchange rates should either float-including being lightly managed-or move to a hard peg, like a currency board or dollarization.

Indeed, the resilience of Argentina's currency board in the face of the tequila crisis in Mexico and the Russian crisis seemed to validate this so-called bipolar approach.

The crisis in Argentina and its abandonment of its currency board has called this view into question, though it is still too early for firm conclusions.

Argentina's experience does not necessarily mean that all currency boards are not viable, but it does underscore...