Modeling currency instability: The 1997 Asian crisis re-examined

Inchauspe, Julian (2008): Modeling currency instability: The 1997 Asian crisis re-examined.

Abstract

The 1997 Asian crisis triggered major breakthroughs in ways in which financial vulnerability, and in particular currency crises, are modeled and explained. This paper discusses some of these developments in three steps. First, a stylized simple model explaining self-fulfilling crises is presented. Secondly, this model is used as a framework to analyze hypotheses which are often found in the literature and their implications for financial instability. The third contribution involves the application of Markov-switching multivariate techniques to empirically examine the main model. Inter alia, issues such as information structure, expectations, coordination failure, sunspots, financial regulations and contagion are explored.

• Item Type: MPRA Paper
• Language: English
• Keywords: currency crisis; Asian crisis; self-fulfilling; multiple equilibria; financial instability; Markov-switching.
• Subjects: F - International Economics > F3 - International Finance > F31 - Foreign Exchange; F - International Economics > F3 - International Finance > F34 - International Lending and Debt Problems; G - Financial Economics > G1 - General Financial Markets > G14 - Information and Market Efficiency ; Event Studies ; Insider Trading

References

Alvarez-Plata, P., Schrooten, M., 2003, The Argentinean currency crises: A Markov switching model estimation, DIW Berlin German Institute for Economic Research, Discussion Paper 348.

Andersen, T., 1998, Shocks and the viability of a fixed exchange rate commitment, Open Economies Review, 9 (2), 797-817.

Angeletos, G., Werning, I., 2006, Crises and prices: Information aggregation, multiplicity and volatility, American Economic Review, 95 (5), 1720-1736.

Calvo, G., 1988, Serving the public debt: The role of expectations, American Economic Review, 78 (4) 647-661.

Cole, H., Kehoe, T., 1996, Self-fulfilling debt crises, Federal Reserve Bank of Minneapolis, Staff Report 211.

Fratzscher, M., 2003, On currency crises and contagion, International Journal of Finance and Economics, 8 (2), 109-129.

Gonzalez-Garcia, J., 1999, Pressure in the foreign exchange-rate market and the collapse of the peso, Department of Economics, University of Warwick.

Hansen, B., 1992, The likelihood ratio test under nonstandard conditions: Testing the Markov switching model of GNP, Journal of Applied Econometrics, 7, Supplement: Special Issue on Nonlinear Dynamics and Econometrics, S61-S82.

Hansen, B., 1996, Erratum: The likelihood ratio test under nonstandard conditions: Testing the Markov switching model of GNP, Journal of Applied Econometrics, 11 (2) , 195-198.

Hellwig, C., Mukherji, A., Tsyvinski, A., 2005, Self-fulfilling crises: The role of interest rate, National Bureau of Economic Research, Working Paper 11191.

Jeanne, O., 1997, Are currency crises self-fulfilling? A test, Journal of International Economics, 43 (3-4), 263-286.

Jeanne, O., 2000, Currency crises: A perspective on recent theoretical developments, Special Papers in International Economics, 20, Department of Economics, Princeton University.

Jeanne, O., Masson, P., 1998, Currency crises, sunspots and Markov-switching regimes, Center for Economic Policy Research, Discussion Paper 1990.

Kim, C., Nelson, C., 1999, State space models with regime switching, Massachusetts Institute of Technology Press.

Krolzig, H.-M., 1997, Markov-switching vector autoregressions. Modelling, statistical inference and application to business cycle analysis, Berlin. Springer-Verlag.

Krolzig, H.-M., Toro, J., 1999, A new approach to the analysis of shocks and the cycle in a model of output and employment, European University Institute, Working Paper ECO 99/30.

Martinez Peria, M., 1998, A regime switching approach to the study of speculative attacks: A focus on EMS crisis. In: Hamilton, J., Raj, B., (Eds.), 2002, Advances in Markov switching models. Physica-Verlag.

Morris, S., Shin, H., 1998, Unique equilibrium in a model of self-fulfilling currency attacks, American Economic Review, 88-3, 587-597.

Obstfeld, M., 1986, Rational and self-fulfilling balance-of-payment crises, American Economic Review, 76 (1), 72-81.

Obstfeld, M., 1996, Models of currency crises with self-fulfilling features, European Economic Review, 40 (3-5), 1037-1047.

Ozkan, F. G., Sutherland, A., 1998, A currency crisis model with an optimizing policymaker, Journal of International Economics, 44 (2), 339-364.

Perron, P., 1997, Further evidence on breaking trend functions in macroeconomic variables, Journal of Econometrics, 80 92), 355-385.

Tirole, J., 2002, Financial crises, liquidity, and the international monetary system. Princeton University Press.

Velasco, A., 1996, Financial crises and balance of payment crises: A simple model of the southern cone experience, Journal of Development Economics, 27 (1-2), pp.263-283.

Zwart, S., 2007, The mixed blessing of IMF intervention: Signaling versus liquidity support, Journal of Financial Stability, 3 (2), 149-174.