Pegs, Risk Management, and Financial Crises

Pathak, Parag A.; Tirole, Jean

doi:10.2139/ssrn.571083

Cited by 6 publications

(3 citation statements)

References 40 publications

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“…Most obviously, during much of the year they ran down reserves, as should introduce gratuitous volatility, because private financial agents underestimate risk. But the models of Chamon and Hausmann (2005), Chang and Velasco (2004), Jeanne (2005), and Pathak and Tirole (2004) point to this advantage of floating, with only fundamentals-generated uncertainty and rational expectations. Hausmann and Panizza (2003) find empirical support only for an effect of country size on original sin, not for an effect of income level or exchange rate regime.…”

Section: Shifts On the Balance Sheet During The "Procrastination Phase"mentioning

confidence: 99%

Contractionary Currency Crashes in Developing Countries

2005

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To update a famous old statistic: a political leader in a developing country is almost twice as likely to lose office in the 6 months following a currency crash as otherwise. This difference, which is highly significant statistically, holds regardless whether the devaluation takes place in the context of an IMF program. Why are devaluations so costly? Many of the currency crises of the last ten years have been associated with output loss. Is this, as alleged, because of excessive reliance on raising the interest rate as a policy response? More likely it is because of contractionary effects of devaluation. There are various possible contractionary effects of devaluation, but it is appropriate that the balance sheet effect receives the most emphasis. Passthrough from exchange rate changes to import prices in developing countries is not the problem: this coefficient fell in the 1990s, as a look at some narrowly defined products shows. Rather, balance sheets are the problem. How can countries mitigate the fall in output resulting from the balance sheet effect in crises? In the shorter term, adjusting promptly after inflows cease is better than procrastinating by shifting to short-term dollar debt, which raises the costliness of the devaluation when it finally comes. In the longer term, greater openness to trade reduces vulnerability to both sudden stops and currency crashes.

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Section: Shifts On the Balance Sheet During The "Procrastination Phase"mentioning

confidence: 99%

Contractionary Currency Crashes in Developing Countries

2005

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“…In addition, in case that government does not have ability to reassure and win back the trust of investors, this might cause financial crisis to deepen. Pathak and Tirole (2007) stated that government's willingness to implement structural reforms and political support to sustain currency's value were important regarding speculative attacks and risk management. Eijffinger and Goderis (2008) suggests that the effect of monetary policy on exchange rates is related to specific country characteristics during currency crises, adding that raising interest rates is effective in countries with high quality institutions or high external debt, while it is less effective in countries with high capital account openness or high domestic corporate short term debt.…”

Section: Introduction and Literaturementioning

confidence: 99%

Interest rate as the last link of chain during crisis

Kudar

2020

Int. J Fin Econ

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In the literature, there are studies which conclude that interest rates have either positive or negative effect on exchange rates during financial crises in emerging markets. These results are in accordance with the traditional or revisionist views respectively. However, in the literature, there are also researches which result in interest rates not having influence on exchange rates, signalling that there might be an alternative to these two approaches. In this study, it is investigated whether interest rates can be cause of exchange rates by taking stock market into consideration and using the data of 2001 financial crisis in Turkey. In the analysis, ARDL co‐integration, VECM and Granger causality methods are applied and it is reached that the relationship was from stock market and exchange rates to interest rates, not vice versa.

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“…With a fixed exchange rate, such a transaction would be profitable for the domestic financial institution but make it vulnerable to a devaluation of the domestic currency. The issue of why a country would want to peg its exchange rate is not addressed here (see Pathak and Tirole (2004) for a recent analysis), and our focus is very much on the ex post, crisis management angle.…”

Section: Introductionmentioning

confidence: 99%

Liquidity and Twin Crises

Shin¹

2005

Economic Notes

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This paper proposes a simple analytical framework for understanding 'twin crises' -i.e. crises where a currency crisis and banking crisis occur simultaneously and reinforce each other. The distinguishing feature of such crises is the spill-over effects across financial institutions through collateral constraints, declines in market values of assets, currency mismatches on the balance sheet and the endogenous amplification of financial distress through asset sales. We explore the role of liquidity and the role of monetary policy in such crises. In particular, a central question is whether raising interest rates in the face of a twin crisis is the appropriate policy response. Raising interest rates has two countervailing effects. Holding the domestic currency becomes more attractive (other things being equal), but the value of the domestic banking system falls due to the fall in asset prices. When assets are marked to market, there is a potential for endogenously generated financial distress that leads to a collapse of asset prices, as well as the exchange rate. It is thus possible that raising interest rates can have the perverse effect of exacerbating both the currency crisis and the banking crisis.(

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Pegs, Risk Management, and Financial Crises

Cited by 6 publications

References 40 publications

Contractionary Currency Crashes in Developing Countries

Contractionary Currency Crashes in Developing Countries

Interest rate as the last link of chain during crisis

Liquidity and Twin Crises

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