This research paper explains dollarization and de-dollarization. Expanding the literature on, discussing the factor that leads to dollarization and its effect. How microeconomic and macroeconomic factors changes. And why there is need arise to enforce de-dollarization. And we further discuss the pros and cons of dollarization. And what is the impact after de-dollarization.
Dollarization, since the early 1970s, has been a topic of special interest in the context of developing countries. During periods of macroeconomic and political uncertainty, many developing countries experienced a partial replacement of their domestic currencies by a foreign currency either as a store of value, unit of account or as a medium of exchange. However, after a flow in economic literature on currency substitution, where the effectiveness of monetary policy was the issue, the efforts to stabilize inflation relegated dollarization to a secondary role. In Uruguay, Turkey, Peru even though the topic never lost its appeal, the apparently never-ending appreciation of the national currency started in the midst made the efforts of the advocates of de-dollarization fade as the debt ratios plummeted. .The development of (dollar) credit observed in the second half of the nineties was the key to the generalized bankruptcy following the 2002 crisis. Additionally, such risk threatens to, become a liability to the taxpayers in an economy. The paper proceeds as follows. We start by surveying the literature on dollarization. We finish by setting up the basis for a strategy to reduce the financial vulnerability of our economy.
Dollarization refers to the use by the residents of one country of assets (or liabilities) denominated in another country's currency and can take many forms. De-dollarization
A successful de-dollarization policy makes the local currency more attractive toresidents than foreign currency. De-dollarization entails a mix of macroeconomic andmicroeconomic policies to enhance the attractiveness of the local currency in economictransactions and to raise awareness of the exchange-risk related costs of dollarization, thusproviding incentives to economic agents to de-dollarize voluntarily. It may also includemeasures to force the use of the domestic currency in tandem with macroeconomicstabilization policies.
Dollarization significantly differs according to-
i) the type of assets (or liabilities) dollarized;
ii) whether the foreign currency has the status of legal tender (official dollarization) or whether there is de-facto dollarization; and iii) The extent of dollarization (full or partial).
Dollarization may be a natural consequence of opening the economy when economies participate into the world economy at the cost of more exposition to shocks which may require some level of dollarization what conduces to the development of domestic financial markets. Dollarization can minimize exchange rate risks for investors in general, increasing their confidence and boosting investment and economic growth in developed economies, like USA and Canada, dollarization is seen as a counterpart to heavy cross-border trade whereas in Latin American countries, dollarization is usually perceived as a hedging strategy against high inflation.
Dollarization can be caused by a number of factors:
(i) Political instability and conflict;
(ii) Economic and financial instability;
(iii) Institutional arrangements, e.g. by according legal tender status to the foreign currency; and (iv) Large donor flows
Possible Effects of Dollarization
CPI Inflation become lower after dollarization
GDP Growth become higher after dollarization
Inflation Uncertainty gets lower after dollarization
In money-Price Relationship Money, becomes endogenous after dollarization
The causes of dollarization:
In countries with financial restrictions on national currency denominated external...
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