1. NS4540 Ecuador Dollarization and it’s effects By David Del Valle

2. Ecuador

3. Dollarization $ in emerging economies
Positive?
Negative?

4. Summary When and the reason why Ecuador dollarized?
The effects of dollarization in Ecuador.
Advantages and disadvantages
Long term benefit
Conclusion

5. Ecuador

7. Problems leading up to Dollarization
Ecuador had a slew of problems leading up to the time they dollarized.
Lower oil prices resulted in economic stagnation throughout the 1980s and into the 1990s.
Ecuadorean banks experienced a credit boom in the 1990s.
Lower oil prices resulted in economic stagnation throughout the 1980s and into the 1990s, as oil exports alone accounted for half of the countries total exports and about a third of all government revenue in the late 1990s.
Ecuadorean banks experienced a credit boom in the 1990s, providing high-risk loans to well-connected customers, assuming that the government and Central Bank would bail them out if needed.
Lack of oversight also allowed many banks to engage in lucrative but risky offshore banking in U.S. dollar denominations, creating an informal dollarization of the financial sector, and a vulnerability to fluctuations in the exchange rate.

8. Problems leading up to Dollarization
El Niño in
Several financial crises Globally
Oil prices plunged in 1998.
These shocks created a situation where the public deficit grew uncontrollably.
A severe El Niño in caused heavy rains and flooding that caused widespread crop failures and damaged infrastructure costing approximately 13% of its GDP.
These shocks occurred soon after several financial crises in Asia (1997), Russia (1998), and Brazil (1998), which were damaging to the world economy.
Oil prices plunged in 1998, partly in response to global economic slowdown following the Asian financial crisis, which significantly reduced the government's revenues.
These shocks created a situation where the public deficit grew uncontrollably, as the government had to recover from El Niño damage, but had restricted access to oil revenues and international financing. For example, the public sector deficit increased from 2.6% of GDP in 1997 to 6.2% in 1998.

9. Problems leading up to Dollarization
President’s were changing out quickly as the banking crisis was developing.
The banking crisis started in April 1998
Populist president Abdalà Bucaram, known as "El Loco", was impeached in 1996, and an interim government under Fabián Alarcón was in power until Jamil Mahuad was elected in 1998, just as the banking crisis was developing. Then Gustavo Nobao became president in 2000.
In the private financial sector, banks had given out excessively risky loans, and were struggling to maintain liquidity. The banking crisis started in April 1998 with the failure of a small bank, but the ensuing atmosphere of uncertainty caused excessive withdrawals and triggered more bank failures throughout By August, important bank failures had reached the point where the government could no longer intervene by bailing out and supporting struggling banks.

10. Problems leading up to Dollarization
A new law starting in January 1999 on tax.
The ADG comes into effect.
Sucre hyperinflation
Deposit Freeze exacerbates the problem.
Widespread Bank failures.
Government defaults on external debts.
A new law starting in January 1999 established a 1% tax on any financial transactions, which would discourage withdrawals and raise revenue for the struggling government.
By early 1999, major banks were failing and being taken over and closed by the ADG, while still providing a deposit guarantee.
Increasing consumer prices and the depreciation of the Sucre caused hyperinflation
The government announced a widespread deposit freeze in which deposits would be frozen for a full year.
This did temporarily slow inflation, but it caused the collapse of trust in the banking system and poor economic conditions.
This caused widespread withdrawals and more bank failure, due to a lack of confidence in the banks. By September, the government itself had defaulted on external debts.

11. Ecuador GDP vs Inflation

12. Ecuador Dollarization background
Panama adopted the dollar in 1904, shortly after its independence from Colombia.
Almost a century later, Ecuador and El Salvador followed suit, with Ecuador making the switch in 2000 and El Salvador in 2001.

13. Ecuador Dollarization background
Ecuadorian president Jamil Mahuad announced the adoption of the U.S. dollar as legal tender in January 2000.
Mahuad described the troubles South American governments had with trying to comply with International Monetary Fund regulations in order to receive loans.
Ex-President Jamil Mahuad served the interest of wealthy people and now he portrays himself as the savior of Ecuador for letting Peruvian take most of the Ecuadorian soil in the conflict.
In January 2000, in an environment of social unrest and lacking congressional support for the implementation of structural reforms, then President Jamil Mahuad called for full dollarization to avoid the collapse of the banking system. Days later, Mahuad was deposed. Congress confirmed Gustavo Noboa, the elected vice president, as the new president. Noboa continued with full dollarization to promote a return to economic stability. In this already partially dollarized economy, the exchange rate was set at 25,000 sucres per U.S. dollar.
According to Mahuad, By the time South America began to slowly work its way into the global economy, along came the East Asian economic crisis of People had invested so much in the East Asian economies and individuals and banks lost tons of money.

14. Ecuador Dollarization background
In 2014, Ex-President charged for embezzlement, mishandling of public funds and causing the country's banking crisis in the late 1990s.
In the spring of 2000 the Ecuadorian government began exchanging sucres for dollars at the rate of
$1=25,000 sucres

15. Advantages
Dollarization helps to limit currency and balance of payments crisis.
Reduction on interest rates on foreign borrowing.
Last but not least, full dollarization can improve the local economy by allowing for easier integration towards the U.S. and Global market.
Dollarization helps to limit currency and balance of payments crisis. Without a domestic currency there is no possibility of a sharp depreciation or sudden capital outflows motivated by fears of devaluation.
The diminished risk encourages both local and foreign investors to invest money into the country and the capital market. And the fact that an exchange rate differential is no longer an issue helps reduce interest rates on foreign borrowing.
Last but not least, full dollarization can improve the local economy by allowing for easier integration towards the U.S. and Global market.

16. Disadvantages
A dollarizing country would surrender any possibility of having an independent monetary and exchange rate policy, and will be constrained in the use of central bank credit to provide lender of last resort funding to its banking system in emergencies.
The central bank loses its ability to collect 'seigniorage'
Another disadvantage for a country that opts for full dollarization is that its securities must be bought back in U.S. dollars. If it doesn’t have enough in reserves it will have to borrow.
In a fully dollarized economy, the central bank also loses its role as the lender of last resort for its banking system. While it may still be able to provide short-term emergency funds from held reserves to banks in distress, it would not necessarily be able to provide enough funds to cover the withdrawals in the case of a run on deposits.
What is 'Seigniorage'?
Seigniorage is the difference between the value of money and the cost to produce it — in other words, the economic cost of producing a currency within a given economy or country. If the seigniorage is positive, then the government will make an economic profit; a negative seigniorage will result in an economic loss.
Like the United States, other countries earn seigniorage from issuing domestic currency. Under current arrangements, those that become officially dollarized give up the seigniorage. If Argentina were to replace the peso with the dollar, the U.S. government would receive the seigniorage that the Argentine government now receives. That may be as much as $750 million this year, or around 1.2 percent of Argentina's federal government budget. 

17. Ecuador’s Debt problem

18. Economic costs when dollarizing
1-loss of monetary policy, entirely dependant on other countries economy
2-No seigniorage (capacity to create money)
3-No more lending as last minute result.
Political
1-loss of identity. Loss of patrimony
2- No insurance policy against risk
3-National currency independence is imperative when governments face the possibility of external dependence or threat

19. Current Wages in Ecuador

20. Post dollarization and Challenges Ahead
The elimination of the sucre, which had lost 300% of its value preceding dollarization provided economical stability
Ecuador’s GDP grew an average of 5% annually from 2000 to 2006.
In the last 10 years family income and wages have almost doubled upwards of 50% increase.

21. Ecuador GDP Growth

22. Conclusions The banking systems have benefited from dollarization.
Dollarization has brought economic stability and increase GDP and wages.
Dollarization may promote economic stability in the short term, but structural and institutional problems must also be addressed if a dollarizing country is to achieve long-term economic benefits.
With U.S. interest rates beginning to rise, Ecuador faces an ongoing threat of dollar outflows. 

23. Real Truth
Ecuador’s debt is significantly lower than many other countries, including the U.S. and most of the EU
According to Ministry of Finance information, the country’s debt stood at $40.47 billion at the end of March. Technically, this violates the country’s public finance code which limits debt to 40% of GDP.
The country faces serious borrowing limitations. “First, it cannot print their own money and second, they have bad credit, which makes their interest rates among the highest in the world.”

24. Growth Forecasts

25. Heritage Economic Freedom Index
According to the Heritage Economic Freedom Index, Ecuador fell from “mostly unfree” in 2007 to “repressed” in The World Bank’s measures of governance showed a similar deterioration, while the World Economic Forum’s  Global Competitiveness Index placed the efficiency of Ecuador’s goods market at 124th, labor market at 123rd, and financial market at 113th, out of 138 countries. 

26. Solution
While Ecuador has been attempting to replace the dollar with a new-fangled cryptocurrency, the move is likely to increase investor uncertainty and hasten economic deterioration. At this point, I would argue that Ecuador and El Salvador would be wise to stop the search for magic bullets and do what they should have done from the start — undertake reforms to improve market flexibility, raise productivity and improve governance in order to capture the advantages associated with dollarization. Sometimes, the only path to health is to substitute leafy greens for the empty calories of quick fixes.