Macroeconomic Impulses of Financial Crisis in Armenia King Banaian St. Cloud State University 9.VII.09 1K Banaian, St. Cloud State University

Macroeconomic Impulses of Financial Crisis in Armenia

King BanaianSt. Cloud State University

9.VII.09

1K Banaian, St. Cloud State University

Macroeconomic Impact of the Financial Crisis on Armenia

• Some first principles

• Financial activities in Armenia

• Remittances as a form of contagion or interdependence?

• The economic effects of remittance drops

• Concluding thoughts


Your first econ class had this…

Gov’t

Rest of World


Dividing the balance of payments


Financial sector

• Source of concern over underdevelopment.

• Focus initially on financing SME sector

• Major advances in household services

K Banaian, St. Cloud State University 5

Almost all loan increases in drams for householdsHow much for mortgages and building? How much for consumer/auto loans?Interest rates in dram and forex nearly equal. No sign of expected depreciation of dram.


The “dedollarization” story, in one pictureMental model: The dram is good, and we have promise that it holds value against dollar and euro and ruble. Keep the promise, and we will move the savings there. Inflation targeting helps keep the promise.


Banks increasingly lending long(intermediation begins)


But the music ends…

• Fear of loss – broken mental model• People reverse the flow, hold fewer drams• Banks seeing outflow, concern for valuations,

decide to hold more reserves– Like US, credit crisis the result of bank caution• Regulatory?

• Combination ends boom in lending


Consolidated bank balance sheet


Drop in drams relative to deposits pronouncedAlso note rise in reserves held by banks


Shock? What shock?

• What shock hit the economy then?– Those responses should

be rather fast, so timing appears to be October-November

• No spike in interest rates

• Trade deficit widening – perhaps a sign?


Tale of two reports

• 31 October 2008Rising inflation, high credit

growth, and a widening current account deficit have raised concerns about overheating.

• 3 March 2009Since …November 17,

2008, Armenia has been confronted by a set of external shocks and now faces fading confidence in the currency and financial system.


That same graph, extended 9 months


Two risks

• Intermediation• Exchange rate• Both mean bank risk higher. High capital and

liquidity means on average banks will be fine.– But not all banks are average.


What caused this?

• Construction sector – nice presentation yesterday on end of rise in apartment rents

• Remittances – all talk about, nobody shows• Trade – could mining have done this?– I will only speculate on this: does not seem big

enough– Export decline in 2008 just 7.2%– Imports rose much more


Remittance flows slowed in 2008:IVRussia announces in January that it halves the number of work permits for CIS emigrants in 2009 (Stratfor, 3 Feb 2009)

Expectations of lower income would have changed household behavior


Consumer confidence was already slipping


So that’s three BOP hits

• Foreign output shock reduces export of goods• Shock reduces export of labor, and return flow

of remittances• Imports will fall, but not by as much.• Small open economy – this is element of

increased interdependence of Armenia


How big a shock?

• Two models to use– Appendix in Banaian and Roberts suggests

remittances alone would account for 3.5% decline in GDP• Does not include FDI decline

– Mrktchyan, Dabla-Norris and Stepanyan don’t provide a hard number but model predictions are borne up by the data• Shock to consumption is unambiguously negative, quicker

than a remittance shock.• Again, shock is result of exposure to world economy


And that’s not a bad thing!

• Article in new The Atlantic on Moldova: “What crisis?”

• Per capita income about half Armenia– Complain about corruption and politics but not

finance.– Cash-only economy, but 5th on The Banker “World

Financial Health Index”– Is that good?

• Danger of isolationism


Not contagion but interdependence

• Proper diagnosis is important

• Question is how to make Armenia more stable as it opens to the world economy– Market mechanisms– Diversify


Market mechanisms

• Banks need natural growth– Perhaps too quick push into lending– Don’t addict banks to guarantees– We Americans have some experience with forcing

a secondary mortgage market. It will cost us $384 billion through 2010. Don’t imitate us.

• Exchange rate now generates a price useful as a guide to market evaluation of policy


Diversify

• By globalizing, Armenia exposes itself to new technologies, new goods, better prices

• Labor has opportunity to work for higher return.

• But trade in goods and labor has geographic tendencies.

• You can’t pick your neighbors.– But you can try to diversify


Closing thought

• Contagion sounds like a disease to control• Current crisis is not the result of contagion– Natural response to external shocks

• Armenia’s ‘crisis’ is unique, needs its own medium-term solution

• More stable production AND more stable trade, in goods AND labor, would be my prescription


Documents

Macroeconomic Impulses of Financial Crisis in Armenia King Banaian St. Cloud State University 9.VII.09 1K Banaian, St. Cloud State University