In July 1997, the economies of East Asia became embroiled in one of the worst financial crises of the post-war period. Yet, prior to the crisis, these economies were seen as models of economic growth experiencing sustained growth rates that exceeded those earlier thought unattainable. Why did the market not anticipate the crises? To this end, we review the Asian financial crisis from two related perspectives - whether the crisis was precipitated by a failure of the real exchange rate to be aligned with its fundamental determinants and/or whether the crisis was precipitated by a divergence of the foreign debt from its optimal path. The first perspective is based on a coherent theory of the equilibrium real exchange rate - the NATREX model - that shows how "misalignments" lead to currency crises. The second perspective is based on a model of optimal foreign debt ratio - derived from stochastic optimal control - which shows why "divergences" lead to debt crises. The important point here is that these models suggest important variables which may serve as warning signals to predict crises.
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Paper provided by CESifo Group Munich in its series CESifo Working Paper Series with number
CESifo Working Paper No. 1159.
Find related papers by JEL classification: F30 - International Economics - - International Finance - - - General F31 - International Economics - - International Finance - - - Foreign Exchange F32 - International Economics - - International Finance - - - Current Account Adjustment; Short-term Capital Movements F34 - International Economics - - International Finance - - - International Lending and Debt Problems F40 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - General
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