The widespread occurrence of emerging market financial crises in the past two decades has sparked interest among economists and investors in understanding their nature, causes, and consequences. These episodes are often characterized by volatile capital flows, cross-country spillovers (contagion), unsustainable or non-credible commitments to fixed exchange rates, currency mismatches, liquidity mismatches, and weak regulation and supervision of banking systems. The real-side effects of such crises are often substantial (Bordo, Eichengreen, Klingebiel, and Martinez-Peria, 2001; IMF, 1998), which has prompted some policymakers to call for a reform of the international financial architecture (Goldstein, 1998; Eichengreen, 1999).
The global integration of financial markets that has facilitated the virulent nature of recent emerging market crises is not without historical precedent. Indeed, the recent period resembles the late-nineteenth and early-twentieth century in terms of the size of the flows (scaled by GDP) and the absence of barriers which would otherwise impede the flow of capital (Obstfeld and Taylor, 2003, 2004). The similarity in degree of financial integration begs the question as to whether the late-nineteenth century exhibited crises in emerging market similar to those of the 1990s.
To answer this question, this paper turns back the clock and examines the most famous sovereign debt default of the nineteenth century – the Baring Crisis of 1890. The crisis originated in Argentina, and was then transmitted back to London via the House of Baring (an investment bank in London that held large amounts of Argentine debt that could not be placed in the London market). There is a large scholarly literature by economists and historians analyzing the effects of the crisis on the British and Argentine economies, as well as on the Bank of England’s rescue operation and the cooperative assistance provided by the Russian and French central banks. Considerably less attention has been paid to the international effects of Barings. Triner and Wandschneider (forthcoming) examine the effects of Barings on Brazil. Suter (1992) suggests that the Argentine default may have been part of a broader episode of defaults in the 1890s, and Bordo and Murshid (2001) examine cross country correlations in weekly sovereign bond prices for seven countries in the year 1890. Finally, Marichal (1989) has noted that capital flows to Latin American countries dried up in the wake of Barings.
In this paper, we break new ground by thoroughly examining the effects of the Baring Crisis on 28 emerging market borrowers using a new database of over 15,000 weekly sovereign debt prices collected from the Economist. Our goal is to document and quantify the extent to which Barings was a regional or global emerging-market crisis. We focus on bond prices and yield spreads to measure the effects of the crisis since there are limited macroeconomic data for emerging markets during this period.
The empirical analysis of sovereign debt prices and yield spreads suggests that the Baring Crisis had significant effects for emerging market borrowers, but these effects were largely regional. The average sovereign debt price for Latin American countries declined considerably more than 25 percent in the one-year period after the onset of the crisis, and over 40 percent five years after the outbreak of the emerging market crisis. This represented more than a 735 basis point increase in the country risk premium for Latin American countries between 1890 and 1891, and more than a 1,400 basis-point increase in yield spreads between 1890 and 1895. In contrast, bond prices and yield spreads for non-Latin emerging markets and “core” countries (high income European countries and the U.S.) were generally flat or unchanged during this period.
We next construct a panel data set consisting of annual data for 28 sovereign borrowers, which includes macroeconomic indicators, trade variables, political and institutional factors, and other country-specific controls. We include indicators that were widely available to European investors at the time to shed light on the movement of bond yields over the period 1886-95. In particular, we test whether the Baring Crisis can account for the movement in yields in Latin America or whether the movement in the yields of the Latin American countries’ is simply accounted for by “fundamentals” or country specific effects. We also assess the extent to which transmission of the crisis may have come via trade linkages or the gold standard.
The results from the fixed-effect regressions suggest that bond yields in Latin-American countries were between 150-470 basis points higher as a direct result of the Baring Crisis – even after we control for a country’s macroeconomic fundamentals (such as its debt burden, budget deficit, and trade balance) other country-specific effects (including gold-standard membership, whether it was part of a formal empire, and whether it was involved in a conflict). This finding is consistent with literature on modern crises that emphasizes their regional nature (Rose and Spiegel, 1999). We do not find evidence that the crisis was spread by adherence to the gold standard or through trade with England. We speculate that European investors may have experienced a wake-up call and sold or reduced their holdings of Latin American securities in the wake of the Baring Crisis.
In the next section, we provide some historical background on the crisis. Section 3 describes our new database of sovereign debt prices, and presents graphical and summary evidence regarding the effects of the crisis on emerging market borrowers. Section 4 provides an event-study analysis. We perform market tests, exploiting the time-series variation in the individual bond series. Section 5 then examines the evidence concerning the regional nature of the Barings crisis using our panel data. The last section offers some concluding comments about the global nature of the crisis.
Download
PDF Ebook The Baring Crisis and the Great Latin American Meltdown of the 1890s
