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Up from Sin: A Portfolio Approach to Salvation

February 1, 2004

A study for presentation to the XVIII G24 Technical Group Meeting, March 8-9, 2004, Palais des Nations, Geneva

Randall Dodd, Director, Financial Policy Forum
Shari Spiegel, Executive Director, Initiative for Policy Dialogue

This study develops a proposal that has the potential to greatly improve the ability of developing countries to reduce their exposure to other countries' interest rate and exchange rate volatility and to lower their cost of raising capital abroad by borrowing in their own local currency. The key to achieving these goals is the creation of portfolio of emerging market local currency government debt securities that employs the risk management technique of diversification to generate a return-to-risk that competes favorably with other major capital market security indices. This study shows, based on data from the mid-90s through the end of 2000, that a portfolio of local currency debt can generate rates of return relative to risk that compete with that of major securities indices in international capital markets. It is noteworthy that this period includes several shocks to international capital markets including the crises in East Asian, Russia, the failure of Long Term Capital Management and Brazil. The study also provides an analysis of the implications of deploying such a policy for attracting capital to developing countries, the impact on the stability of their financial systems, their costs of borrowing and the implications for future developing of local capital markets.

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Read More: Debt, Development, Economy, Finance, Global

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