##ncies, on both sides of the balance sheet. it was common in the financial crises of the 1990s to discover that banks that thought they had hedged their foreign currency liabilities ( or their foreign - currency denominated liabilities ) by lending in dollars, were not in fact hedged, because their non - exporting borrowers were not able to repay their dollar - denominated loans. indeed, even if the banks thought they had a net long position in foreign - exchange denominated assets, they sometimes discovered that a deep devaluation devastated their balance sheets. thus unless lenders are very cautious in evaluating their borrowers, partial dollarization can severely increase the vulnerability of the banking and financial systems to exchange rate changes. these exchange rate changes could be driven by foreign developments, but in practice they were more often driven by domestically generated shocks, frequently caused by fiscal problems. that is to say : asset and liability dollarization makes the financial system, and thus the economy, more vulnerable to exchange rate shocks. there has been some discussion in the literature of whether dollarization helps create financial depth. the empirical answer seems to be uncertain. but when one takes into account that economic agents will seek safer assets where they can find them, and that capital controls are never totally watertight, the answer must be that dollarization helps preserve a larger domestic financial system than would otherwise exist. for otherwise much of the financial system would move offshore. can monetary policy be effective in a heavily dollarized economy? in one writes down the equation of exchange, mv = py, then it seems that monetary policy can get leverage over prices through the normal quantity theory mechanisms. but there are three qualifications to that answer. first, it is not clear what the relevant m is, and whether the central bank can fully control that m. if the domestic and foreign currencies are close substitutes in terms of what matters for the equation of exchange, the central bank may not have effective control over m. second, in heavily dollarized economies, fiscal policy is likely to be problematic, and to make it difficult for monetary policy to avoid the difficulties associated with fiscal dominance. third, there is the question of what determines interest rates in a highly dollarized economy. if the capital account is open, rates of return on dollarized assets and liabilities in the economy are likely to be significantly affected by foreign interest rates, reducing the leverage of monetary policy on aggregate demand. to the extent that the exchange rate is flexible,

also be switched over to linkage with the cpi. b. the policy of reducing the number of foreign workers, in particular the illegal ones, should be implemented. c. the policy aimed at replacing income support with a program to increase the participation rate in the labor force should be implemented. d. a special work plan should be drawn up to retrain those who have been unemployed for more than a year. e. the programs of support for small and medium - sized businesses should be reviewed and strengthened, with special attention paid to those in outlying areas. f. wages policy should concentrate on the public sector. to carry out the policy of maintaining the real wage, the rules for determining wage drift ( compensation for seniority ; large differentials between grades ; the pace of advancement through the grades ; and other related expenses ) should be amended. 4. dealing with factories in difficulties a governmental approach must be determined to deal with the problems of factories in difficulties : a. a legal framework is necessary ( “ chapter 11 ” ). b. a process must be instituted to distinguish between factories whose continued existence cannot be justified on economic grounds, and those facing temporary difficulties. c. any recovery program for a particular factory should require the participation of the owners ( including investors in the capital market ), creditors, and employees, and not just the government. on the other hand, they are all, including the government, entitled to some benefit if the recovery program proves successful. what is the next step? the professional team and working teams in a meeting called by the minister of finance which took place on 14 november, 2001, with the chairman of the general federation of labour in israel ( the new histadrut ), the president of the manufacturers ’ association, and the governor of the bank of israel, a decision was reached to appoint a professional team. the team ’ s role would be to formulate a work plan such as that which i have outlined above. a work plan is not the same as an operative plan, and working teams must be appointed to go over the details. four such teams can work in parallel : 1. one team will be led by the budget department, and will include representatives of the prime minister ’ s office. this team will formulate the change needed in the budget for 2002, both in the aggregates and in the composition of expenses ; it will also deal with the amendment which will regulate the rules governing private legislation. 2. the second team will include representatives of the new his