breaking the triple coincidence in international finance · breaking the triple coincidence in...

Breaking the Triple Coincidence inInternational Finance∗

Hyun Song ShinBank for International Settlements

Keynote speech at seventh conference ofIrving Fisher Committee on Central Bank Statistics

Basel, 5 September 2014

∗Views expressed here are the author’s, not necessarily those of the BIS.

Breaking the Triple Coincidence in International Finance 1

“Economic territory” 1 “Economic territory” 2

Output 1 Output 2

Figure 1. Boundary for national income accounting defines “economic territory”


Economic territory 1 Economic territory 2

A AL L

Figure 2. Boundary for national income accounting defines decision-making unit


Economic territory 1(USD)

Economic territory 2(JPY)

A AL L

USD USD JPY JPY

Figure 3. Boundary for national income accounting defines exchange rates as relative prices across boundary


Economic territory 1(deficit)

Economic territory 2(surplus)

A AL L

Externalclaims

External liabilities

Figure 4. Boundary for national income accounting defines balance of payments and external claims/liabilities


Economic territory 1 Economic territory 2

Central bank 1 Central bank 2

Residents in 1 Residents in 2

Exchangerate

Figure 5. Boundary for national income accounting defines reach of monetary policy; floating exchange ratesensures monetary policy autonomy


“Triple Coincidence”

• Boundary of national income area

• Boundary defining decision-making unit with coherent preferences— Consumption and savings decisions (e.g. “global savings glut”)— Portfolio choice decisions (e.g. preference for “safe assets”)

• Boundary defining currency area— Exchange rate as relative price level


Three Examples

1. “Roundtrip” bank capital flows from United States to Europe and thenback to the United States (2003 - 2008)

2. Offshore issuance of corporate bonds by EM borrowers (2010 - )

3. Cross-border banking and global liquidity (2003 - 2008)


Example 1

“Roundtrip” bank capital flows from Europe to the United States

(2003 - 2008)


A L

United States

Rest of world

“Safe” claims“Risky” claims

Figure 6. Schematic of “safe asset preference” view of global imbalances


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27-Oct-10

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Trilli

on d

olla

rsNet interoffice assets Large time deposits Borrowings from banks in U.S.Borrowings from others Securities Loans and leasesCash assets

Figure 7. Assets and liabilities of foreign banks in the U.S. (Source: Federal Reserve H8 weekly series onassets and liabilities of foreign-related institutions)


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ay-8913-Jun-9010-Jul-9105-Aug-9201-Sep-9328-Sep-9425-O

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ec-9713-Jan-9909-Feb-0007-M

ar-0103-Apr-0230-Apr-0326-M

ay-0422-Jun-0519-Jul-0615-Aug-0710-Sep-0807-O

ct-0903-N

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ov-11

Billio

n do

llars

Net interoffice assets of foreign banks in US

Figure 8. Net interoffice assets of foreign banks in U.S. given by negative of Federal Reserve weekly H8 serieson “net due to related foreign offices of foreign-related institutions”


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(%)

Asia

United States

Other Europe

Other euro area

Belgium, Italy,Spain, Portugal,Ireland, Greece

Figure 9. Amount owed by banks to US prime money market funds (% of total), based on top 10 primeMMFs, representing $755 bn of $1.66 trn total prime MMF assets (Source: IMF GFSR Sept 2011, datafrom Fitch).


Figure 10. Gross external assets and external liabilities of the U.S. banking system (ODC sector) byinstrument (source: Errico et al. (2013))


Figure 11. Counterparties by location of the “Currency and Deposits” component of the U.S. banking system(ODC sector) (Source: Errico et al. (2013))


US Households

USBorrowers

US Banking Sector

EuropeanGlobal Banks

border

Wholesalefunding market

Shadow bankingsystem

Figure 12. European global banks add intermediation capacity for connecting US savers and borrowers(Source: Shin (2012))


Example 2

Offshore issuance of corporate bonds by EM borrowers

(2010 - )


0

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Billio

n US

dol

lars

China (Nationality) China (Residence)

Figure 13. International debt securities outstanding (all borrowers) from China by nationality and by residence(Source: BIS Debt Securities Statistics, Table 11A and 12A)


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n US

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lars

Brazil (Nationality) Brazil (Residence)

Figure 14. International debt securities outstanding (all borrowers) from Brazil by nationality and by residence(Source: BIS Debt Securities Statistics, Table 11A and 12A)


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India (Nationality of Issuer) India (Residence of Issuer)

Figure 15. International debt securities outstanding for non-financial corporates from India by nationalityand by residence (Source: BIS Debt Securities Statistics, Table 11D and 12D)


Multinationalcorporation

AA L

L

Internationalcapital market

US dollars

Border

Localcurrency

A LBank

Localcurrency

Localcurrency

Figure 16. Offshore borrowing by multinational firm from emerging economy


Restricted

Banks and other

intermediaries

Domestichouseholddepositors

Loans Deposits

Firms

Borrowers

Financialclaims

Deposits and short-term

instrumentsForeign banksbond holders

and other claim holders

Firms

Figure 17. Non-financial firms as intermediary. In this diagram, firms with access to internationalcapital markets act as an intermediary for outside funding when the banking sector has restricted access tointernational capital markets.


Figure 18. Source: Philip Turner (2014) BIS working paper 441


Impact on Emerging Economies

• EME local currency bond yields— fell in tandem with advanced economy bond yields— began to move in lock-step with advanced economy bond yields

• Explosion of EME corporate bond issuance activity, especially offshoreissuance

— Implications for domestic monetary aggregates and potential for runsof wholesale deposits

— Currency mismatch on consolidated corporate balance sheets

• Transmission channel is reinforced by exchange rate changes


Elements in Distress Loop

1. Steepening of local currency yield curve

2. Currency depreciation, corporate distress, freeze in corporate CAPEX,slowdown in growth

3. Runs of wholesale corporate deposits from domestic banking sector

4. Asset managers cut back positions in EME corporate bonds citing slowergrowth in EMEs

5. Back to Step 1, and repeat...


Unfamiliar Problems

• Asset managers (not banks) are at the heart of transmission mechanismin the Second Phase of Global Liquidity

• Textbooks say long-term investors are benign, not a force fordestabilization

• How do we adjust to the new world?


Example 3

Cross-border banking and global liquidity(2003 - 2008)


Borrowersin A

Borrowersin B

Borrowersin C

Banksin A

Banksin B

Banksin C

GlobalBanks

WholesaleFundingMarket

Figure 19. Topography of global liquidity


Borrowersin A

Borrowersin B

Borrowersin C

Banksin A

Banksin B

Banksin C

GlobalBanks


Figure 20. Topography of global liquidity


2008Q1

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Trillion dollars

Assets

Liabilities

OtherSwiss FrancYenSterlingEuroUS dollar

Figure 21. Foreign currency claims and liabilities of BIS reporting banks (Source: BIS Locational statistics5A)


Three BIS working papers

• Borio, Claudio (2014) “The International Monetary and Financial System:Its Achilles Heel and What To Do About It” BIS Working Paper 456http://www.bis.org/publ/work456.pdf

• Borio, Claudio, Harold James and Hyun Song Shin (2014)“The International Monetary and Financial System: ACapital Account Historical Perspective” BIS Working Paper 457http://www.bis.org/publ/work457.pdf

• Bruno, Valentina and Hyun Song Shin (2014) “Cross-borderBanking and Global Liquidity” BIS Working Paper 458http://www.bis.org/publ/work458.pdf


Bruno and Shin (2014)

RegionalBank Global Bank

A A LL


Localcorporate

Stage 1Stage 2Stage 3

A L

USD USDUSD USDLocalcurrency USD

Figure 22. Cross-border bank lending in US Dollars


Where to draw the boundary?

The balance sheet chain is consistent with many variants with differentplacement of the border:

• The local bank can be within the border (say, branch of foreign-ownedbank)

• The local bank can be in a neighbouring jurisdiction

• The asset side of the global bank could be in a regional financial centre(Hong Kong or Singapore, say)

• The liabilities side of the global bank could in the United States

• What of the European headquarters? Where does it fit in the picture?


Diversified loan portfolio from region k

Regions

Borrowers

Regional bank in k

k

j Borrower jin region k

Diversified loan portfolioacross regional banks

Global bank

Figure 23. Global and regional banks


Bruno and Shin (2014)

• Demand for dollar credit in regions from corporate borrowers

• Credit risk follows Vasicek (2002), many-borrower extension of Merton(1974)

• Risk-neutral, price taking banks in each region; credit supply determinedby regional bank leverage

• Risk-neutral, price taking global bank with access to US dollar moneymarket funds


Closed Form Solution

Total privatecredit

=Aggregate bank capital (regional + global)

1− spread× regional bankdebt ratio

× global bankdebt ratio

Total cross-border lending

=Global and weighted regional bank capital

1− spread× regional bankdebt ratio

× global bankdebt ratio


Exchange rates and leverage

• Depreciation of US dollar constitutes a loosening of global financialconditions

— US dollar depreciation strengthens local borrowers’ balance sheets— Creates slack in lending capacity of local banks— Creates slack in global bank lending capacity— Expansion of lending; “excess elasticity” (Borio and Disyatat (2011))

• US monetary policy is global factor determining financial conditionsworldwide

Empirical evidence in Gourinchas and Obstfeld (2012), Rey (2013), Miranda-Aggripino and Rey (2013)


Bruno, Kim and Shin (2014)• Panel VAR exercise— 1995 - 2007— US GDP, Fed Funds rate, global bank leverage, VIX, bank capitalflows, nominal exchange rate

— US broker dealer sector leverage as proxy for global bank leverage

• Sample of 46 countries (Claessens, van Horen, Gurcanlar and Mercado(2008)): Argentina, Australia, Austria, Belgium, Brazil, Bulgaria,Canada, Chile, Cyprus, Czech Republic, Denmark, Egypt, Estonia,Finland, France, Germany, Greece, Hungary, Iceland, Indonesia, Ireland,Israel, Italy, Japan, Latvia, Lithuania, Malaysia, Malta, Mexico,Netherlands, Norway, Poland, Portugal, Romania, Russia, Slovakia,Slovenia, South Korea, Spain, Sweden, Switzerland, Thailand, Turkey,Ukraine, United Kingdom and Uruguay.


Empirical Counterparts

Leverage ( =(total liabilities + equity)/equity)

2009Q1

2007Q2

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Figure 24. Leverage of US Securities broker dealer sector (Source: Federal Reserve Flow of Funds)


Dec 2008

Mar 2003 =100

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Brazil

South Africa

Figure 25. Cross-border claims (loans and deposits) of BIS reporting banks on counterparties listed on right(Source: BIS locational banking statistics Table 7A)


Shocks to

Figure 26


Shocks to

Figure 27


Shocks to

Figure 28


Shocks to

Figure 29


Impulse Responses to FFR Shocks

Figure 30


Breaking free from Triple Coincidence

• BIS tradition of consolidated statistics— Identifying the decision maker— Modified suitably; ownership not always same as decision makingboundary (e.g. Santander)

• Balance of payments statistics under the microscope— When is the national income boundary the right one for analysis?

• Global financial system needs new boundaries of analysis

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