TÀI CHÍNH QUỐC TẾ 11 crisis

Currency Crisis First Generation Crisis Models Second Generation Crisis Models Third Generation Crisis Models Transmission Channels and Contagion Economic Policy Implications 2.. Cu

XI Currency Crisis and Debt Crisis

1 Currency Crisis

First Generation Crisis Models

Second Generation Crisis Models

Third Generation Crisis Models

Transmission Channels and Contagion

Economic Policy Implications

2 International Debt Crisis

1 Currency Crisis

Concept

• A currency crisis is an economic crisis, which triggered

by a sudden devaluation of a free floating currency or by the collapse of an exchange rate peg (as a consequence

of speculative attacks)

• A currency crisis is often linked to bursting bubbles,

financial crisis and economic crises

• The history of economic, currency, and financial crises is

as old as capitalism itself

- England 1720 South Sea Bubble

- Germany 1873 real estate, railway

- The US 1929 stocks (end of the post war boom)

1 Currency Crisis

Characteristics of Currency Crisis

• Crises are often linked to positive expectation and the

influx of liquidity

• Financial and banking crises: collapse of the banking

sector or the financial system

• Currency and balances of payments crises: speculative

attacks against at exchange rate peg, which

subsequently collapses

• Strong volatilities in markets

• Stock and real estate markets sink

• Large exchange rate fluctuations

First Generation Crisis Models

Krugman (1979) Flood và Garber (1984) reasons

• Unsound fundamentals (BWS, Latin America)

• Unsustainable economic policies

Characteristics of the crisis

• Structural deficits are monetarized

• Strong growth of money supply

• Increasing inflation

• Rising current account deficits

• Speculative attacks against the peg

• Loss of foreign reserves

First Generation Crisis Models

Crisis

• When foreign reserves are depleted or the losses are too

large, this causes the central bank to release the peg

• The devaluation destabilizes the financial sector

• Collapse of BWS (1970s) and Latin America

Second Generation Crisis Models

Obstfeld (1986) va (1994) reasons:

• Psychological factors (multiple equilibria) EMS crisis

• Credibility of economic policy

Characteristics of the crisis

• Political trade-off between fixed exchange rate and a

expansionary monetary policy (growth and employment)

• Investors assume the priority of domestic employment

• Reversal of capital inflows triggers and interest rate

increase, which again endangers employment

• Exchange rate peg loses its credibility

Crisis

• The crisis is triggered by expections of the financial

markets (speculation against the Bank of England)

• The crisis is fundamentally unjustified

Third Generation Crisis Models

Krugman (1998) Corsetti/Pesenti/Roubini (1999)

• Sound fundamentals

• But with incentives for speculative investment

• Weak financial system and banking sector

Characteristics of the crisis

• Excessive availability of foreign capital (capital inflow)

(overborrowing)

• Excessive credit growth (overlending)

• Due to implicit public guarantees, potential exchange

rate risk is ignored (moral hazard)

• Speculative bubbles in equity and real estate markets

emerge

Third Generation Crisis Models

Crisis

• Withdrawal of international capital results in bursting

bubbles and the devaluation of the domestic currency

• The currency denomination of foreign credit and term

transformation worsen the crisis

• The Asia Financial Crisis 1997

Moral Hazard and Overinvestment

Concept

• Moral hazard arise because an individual or institution

does not bear the full consequences of its actions,

• and therefore has a tendency to act less carefully than it

otherwise would,

• Leaving another party to bear some responsibility for the

consequences of those actions

Moral Hazard and Overinvestment

Moral hazard and currency crisis

• A fixed exchange rate can suggest that there will be no

currency risk in the future, even if a higher interest level suggest a devaluation

• In case of crisis, the emerging markets‘ banking sector

are bailed out by IMF, which is anticipated

• Implicit guarantees and ignorance of currency risk

contributes to exessive international borrowing and

lending

• This leads to overinvestment

Transmission Channels and Contagion

Usually a crisis does not remain limited to one country, there

are several transmission channels

Spillovers

• In economically integrated markets

• Imports of the crisis country decline (goods market

channel)

• Loans from other countries are defaulting (asset market

channel)

• Even in economically not integrated countries

• Whose fundamentals data suffer from weaknesses

• A reassessment of fundamentals take place (new risk

Economic Policy Implication

Flexible instead of fixed exchange rates (Fisher 2001)

• Since currency crises often happened in countries with

exchange rate pegs (soft pegs), the IMF supports

floating exchange rates in emerging markets to deter

speculative capital inflows

• Emerging markets with fully flexible exchange rates have

to deal with strong appreciations and thereby lower real growth in face of strong capital inflows

• Officially, many East Asia countries moved towards

flexible exchange rates, unofficially there is still a strong tendency to stabilize exchange rates (fear of floating)

• Most countries returned to so-called soft pegs (managed

floats)

2 International Debt Crisis

• Concept

• Characteristics of debt crisis

• Background and origins of the debt crisis

• The emergence of the debt crisis

• The management of the debt crisis