In Latin America, at the end of 2020, Uruguay had the highest level of dollarization with 74% of depositsfollowed by Paraguay, Costa Rica and Peru with 44%, 42% and 39%, respectively, according to a report by the risk rating agency Moody’s. The agency defines dollarization as the percentage of deposits in foreign currency over the total in the domestic banking system.
The phenomenon is more marked in Latin America, Emerging Europe and the Commonwealth of Independent States (CIS) —Ex-Soviet States—. In emerging Europe, Belarus and Azerbaijan top the list with figures of 65% and 56%, with Turkey (47%), Armenia (46%) and Ukraine (38%) also in the top five.
The rating agency does not expect the Uruguayan dollarization rate to fall in the coming years. “High inflation and the continuous depreciation of the peso will continue to lead Uruguayan savers to the safety of dollars,” the agency projected. As a result, “approximately 76% of bank deposits are in dollars as of September 2021“.
What’s more, “deposits from non-residents, especially from Argentine savers, accounted for around 10% of the system’s total. The proportion has fallen in recent years, although it remains higher than in neighboring countries,” the report noted.
For Moody’s high dollarization means long-term risks for banks and is very difficult to reverse. Normally, regaining confidence in the local currency and gradually reducing dollar loans and deposits takes many years of strong policies, even when macroeconomic conditions have stabilized and inflation has subsided.
Nevertheless, for the Uruguayan case there are “several factors that shield the banking system of the risks of high dollarization”. Among them, the rating agency highlighted the large volume of international reserves of the country and a mostly positive trade balance since 2016, which relieves pressure on reserves. He also opined that the last four BCU interest rate increases —which brought the Monetary Policy Rate from 4.5% to 6.5%— will help protect the national currency from depreciation.
The report was prepared based on concern about the effects of the policy to combat inflation in the United States on the most dollarized economies. “As interest rates rise in the US, the flow of capital to emerging economies is likely to slow, negatively impacting economic growth in those countries and weakening their currencies,” the document warned.