Managing financial crises WIDER 2016 Conference, Helsinki The - PowerPoint PPT Presentation

Seppo Honkapohja Member of the Board, Bank of Finland Managing financial crises WIDER 2016 Conference, Helsinki The views expressed are my own and do not necessarily represent the position of the Bank of Finland. 23.9.2016 Unrestricted 1

I. Introduction  Financial crises arise when some financial institutions or assets suddenly lose a large part of their value.  Different types of crises: – Banking crises (runs or related difficulties) – Speculative bubbles and crashes (stock markets, real estate) – Currency crises ; isolated crises and contagion  Systemic crises : a large number of institutions or assets behave in a non-sustainable way.  The frequency of financial crisis doubled in the period since 1973 in comparison to 1945-71. – Excluding the current global crisis, six out of ten biggest bubbles have occurred since 1970s (Table). 23.9.2016 Seppo Honkapohja Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted 2

The big ten financial bubbles (from Kindleberger and Aliber 2005) 1. The Dutch Tulip Bulb Bubble 1636 2. The South Sea Bubble 1720 3. The Mississippi Bubble 1720 4. The late 1920s stock price bubble 1927–29 5. The surge in bank loans to Mexico and other developing countries in the 1970s 6. The bubble in real estate and stocks in Japan 1985–89 7. The 1985–89 bubble in real estate and stocks in Finland, Norway and Sweden 8. The bubble in real estate and stocks in Thailand, Malaysia, Indonesia and several other Asian countries 1992–97 9. The surge in foreign investment in Mexico 1990–93 10. The bubble in over-the counter stocks in the United States 1995–2000 Source: C.P. Kindleberger and R. Z. Aliber: Manias, Panics and Crashes, A History of Financial Crises, 2005 23.9.2016 Seppo Honkapohja Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted 3

II. Empirical Overview II.1 The Current Crisis Note 1: Comparison to the average of the ”Big Five” crises in advanced economies: – Nordics (Finland, Norway, Sweden) in 1990s, Spain in 1980s, Japan in 1990s. Note 2: T represents the year of start of the financial crisis in the next figures . 23.9.2016 Seppo Honkapohja Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted 4

GDP GDP 120 115 110 105 100 95 90 T-4 T-3 T-2 T-1 T T+1 T+2 T+3 T+4 EA USA Big 5 NORDICS 23.9.2016 Seppo Honkapohja Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted 5

Current account/GDP Current Account/GDP 3 2 1 0 T-4 T-3 T-2 T-1 T T+1 T+2 T+3 T+4 -1 -2 -3 -4 -5 -6 -7 Euroalue USA Big 5 23.9.2016 Seppo Honkapohja Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted 6

Public Debt Public Debt / GDP 200 150 100 50 0 T-4 T-3 T-2 T-1 T T+1 T+2 T+3 T+4 EA USA Big 5 23.9.2016 Seppo Honkapohja Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted 7

Stock Market index Stock market index 200 180 160 140 120 100 80 60 T-4 T-3 T-2 T-1 T T+1 T+2 T+3 T+4 EA USA Big 5 23.9.2016 Seppo Honkapohja Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted 8

House prices House Prices 140 130 120 110 100 90 80 T-4 T-3 T-2 T-1 T T+1 T+2 T+3 T+4 EA USA Big 5 23.9.2016 Seppo Honkapohja Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted 9

II.3 Emerging markets in 2000-2015 Growth of GDP in various regions, 2000-2007 12 10 8 6 % 4 2 0 -2 2000 2001 2002 2003 2004 2005 2006 2007 Emerging market and developing economies Commonwealth of Independent States Emerging and developing Asia Emerging and developing Europe Latin America and the Caribbean Middle East and North Africa Source: IMF Sub-Saharan Africa 23.9.2016 Seppo Honkapohja Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted 10

GDP growth 2008-16 in different regions and in selected Asian countries 12 12 10 10 8 8 6 6 4 4 % 2 2 Emerging market and 0 0 developing economies Commonwealth of Independent States -2 Emerging and -2 developing Asia Emerging and developing Europe -4 -4 Latin America and the Caribbean China Hong Kong SAR India Middle East and North -6 -6 Africa Indonesia Korea Lao P.D.R. Sub-Saharan Africa Source: IMF Malaysia Philippines Vietnam -8 -8 2008 2009 2010 2011 2012 2013 2014 2015 2016 2008 2009 2010 2011 2012 2013 2014 2015 2016 23.9.2016 Seppo Honkapohja Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted 11

Post-GFC economic recovery has been marked by current account deficits in many regions 15 10 5 %/GDP 0 -5 -10 2008 2009 2010 2011 2012 2013 2014 2015 2016 Emerging market and developing economies Commonwealth of Independent States Emerging and developing Asia Emerging and developing Europe Latin America and the Caribbean Middle East and North Africa Sub-Saharan Africa Source: IMF 23.9.2016 Seppo Honkapohja Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted 12

Developing Economies International Debt Securities USD bn 2 500 Asia & Pacific Latin America & Caribbean Europe Africa & Middle East 2 000 1 500 1 000 500 0 1990 1995 2000 2005 2010 2015 Source: BIS International Debt Securities Statistics 23.9.2016 Seppo Honkapohja Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted 13

Developing Economies Portfolio Investment Liabilities USD bn 4 000 Equities Long term debt securities Short term debt securities 3 000 2 000 1 000 0 2002 2004 2006 2008 2010 2012 2014 Source: IMF 23.9.2016 Seppo Honkapohja Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted 14

III. Causes of financial crises  Fragility of financial systems – Strategic complementarities – Asset-liability mismatches  Asset price collapse  Amplifying factors – Imperfect knowledge and limitations in human reasoning – High leverage  Regulatory failures 23.9.2016 Seppo Honkapohja Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted 15

IV. Crisis management IV.1 Prevention of major crisis  How to diagnose a coming crisis?  Political-economy reasons can be a major obstacle in crisis prevention. IV.2 Crisis management  Maintaining confidence in the banking system is crucial  The role of macroeconomic policy: – Coordinated macroeconomic response in the global crisis – Liquidity provision etc. by central banks  Restructuring of the banking system - Capital injections to banks, Improving efficiency of banks - Government policies to direct restructuring 23.9.2016 Seppo Honkapohja Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted 16

Thank you! 23.9.2016 Seppo Honkapohja Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted 17

Unemployment rate Unemployment rate 14 12 10 8 6 4 2 0 T-4 T-3 T-2 T-1 T T+1 T+2 T+3 T+4 EA USA Big 5 23.9.2016 Seppo Honkapohja Suomen Pankki – Finlands Bank – Bank of Finland Unrestricted 18