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Currency Crises and the Informational Role of Interest Rates

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  • Nikola A. Tarashev
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    Abstract

    In the late 1990s, Morris and Shin proposed a new theoretical framework of financial crises, which generalised traditional models of strategic complementarity and self-fulfilling beliefs by incorporating idiosyncratic uncertainty about the state. The innovative feature of their framework is expressed by its capacity to account for seemingly unwarranted speculative attacks under equilibrium uniqueness and to thus place policy analysis on a firm footing. The macroeconomic implications of the framework have been questioned, however, because it ignores the issue of information aggregation via market prices. Motivated by such criticism, this paper modifies the Morris-Shin setup by allowing prices to adjust freely to market conditions. It is then shown that all of the appealing characteristics of that setup are preserved even when public information has an endogenously disseminated component. Moreover, the prevailing weak form of strategic complementarity, in conjunction with heterogeneity of private agents' information sets, leads to a less restrictive prerequisite for equilibrium uniqueness. Further, the paper's model delivers new policy implications and suggests a change in the approach of structural currency crisis empirical analysis.

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    Bibliographic Info

    Paper provided by Bank for International Settlements in its series BIS Working Papers with number 135.

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    Length: 22 pages
    Date of creation: Sep 2003
    Date of revision:
    Handle: RePEc:bis:biswps:135

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    Related research

    Keywords: financial crises; currency crises;

    References

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    1. Sanford Grossman, 1989. "The Informational Role of Prices," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262572141.
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    Cited by:
    1. Christian Hellwig & Arijit Mukherji & Aleh Tsyvinski, 2005. "Self-Fulfilling Currency Crises: The Role of Interest Rates," NBER Working Papers 11191, National Bureau of Economic Research, Inc.
    2. Jón Daníelsson & Francisco Peñaranda, 2011. "On The Impact Of Fundamentals, Liquidity, And Coordination On Market Stability," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 52(3), pages 621-638, 08.
    3. Stephen Morris & Hyun Song Shin, 2006. "Endogenous Public Signals and Coordination," Levine's Bibliography 122247000000001309, UCLA Department of Economics.
    4. Christian Hellwig, 2004. "Self-Fulfilling Currency Crises: The Role of Interest Rates (A.E.R., December 2006)," UCLA Economics Online Papers 338, UCLA Department of Economics.
    5. Bernardo Guimaraes & Stephen Morris, 2005. "Risk and Wealth in a Model of Self-Fulfilling Currency Attacks," Levine's Bibliography 122247000000000790, UCLA Department of Economics.
    6. Bernardo Guimaraes & Stephen Morris, 2003. "Risk and Wealth in a Model of Self-fulfilling Currency Crises," Cowles Foundation Discussion Papers 1433R, Cowles Foundation for Research in Economics, Yale University, revised Oct 2004.
    7. Sanne Zwart, 2005. "Liquidity runs with endogenous information acquisition," Economics Working Papers ECO2005/18, European University Institute.

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