Original Sin Dissipation and Currency Exposures in Emerging Markets

Abstract

In this paper, I construct a dataset that measures the composition of 20 emerging market economies’ external liabilities across different instruments and currencies and at varying time spans from 2004 to 2019. The dataset is constructed from actual rather than synthetic data and shows the currency composition of the debts at the sectoral level. The new dataset confirms that emerging market economies have far less foreign currency exposure than historical averages, as their positions in foreign currencies have improved at both the aggregate and sector levels. External financing sources in emerging markets have shifted from foreign currency debt to foreign direct investment, portfolio equity investments, and local currency debt. At the same time, the countries have accumulated foreign currency assets. Also, only the nonfinancial corporate sectors in emerging markets have significant net foreign currency debt at the sector level. Another important empirical finding is the high correlation between the external liabilities in the form of equity and local currency debt and the depth of capital markets—stock and bond markets. This suggests that the original sin dissipation—local currency external liabilities in emerging economies, as opposed to the Original Sin hypothesis—is related to the growth in capital markets in emerging market economies.