Averting Currency Crises: The Pros and Cons of Financial Openness

Gus, Garita and Chen, Zhou (2011): Averting Currency Crises: The Pros and Cons of Financial Openness.

Abstract

We identify the benefits and costs of financial openness in terms of currency crises based on a novel quantification of the systemic impact of currency (financial) crises. We find that systemic currency crises mainly exist regionally, and that financial openness helps diminish the probability of a currency crisis after controlling for their systemic impact. To clarify further the effect of financial openness, we decompose it into the various types of capital inflows. We find that the reduction of the probability of a currency crisis depends on the type of capital and on the region. Finally yet importantly, we find that monetary policy geared towards price stability, through a flexible inflation target that takes into account systemic impact, reduces the probability of a currency crisis.

• Item Type: MPRA Paper
• Language: English
• Keywords: Exchange market pressure, systemic risk, capital flows
• Subjects: F - International Economics > F4 - Macroeconomic Aspects of International Trade and Finance > F42 - International Policy Coordination and Transmission; E - Macroeconomics and Monetary Economics > E5 - Monetary Policy, Central Banking, and the Supply of Money and Credit > E52 - Monetary Policy; F - International Economics > F4 - Macroeconomic Aspects of International Trade and Finance > F41 - Open Economy Macroeconomics; F - International Economics > F3 - International Finance > F31 - Foreign Exchange; F - International Economics > F3 - International Finance > F36 - Financial Aspects of Economic Integration

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