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Prospective Deficits and the Asian Currency Crises

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Author Info
Burnside, A Craig
Eichenbaum, Martin
Rebelo, Sérgio

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Abstract

This paper argues that the recent Southeast Asian currency crises was caused by large prospective deficits associated with implicit bailout guarantees to failing banking systems. We articulate this view using a simple dynamic general equilibrium model whose key feature is that a speculative attack is inevitable once the present value of future government deficits rises. This is true regardless of the government's foreign reserve position or the initial level of its debt. While the government cannot prevent a speculative attack, it can affect its timing. The longer the delay, the higher inflation will be under flexible exchange rates. In our model we present empirical evidence in support of the three key assumptions: (i) that foreign reserves did not play a special role in the timing of the attack; (ii) that large losses in the banking sector were associated with large increases in governments' prospective deficits; and (iii) that the public knew that banks were in trouble before the currency rate crises.

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Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 2015.

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Date of creation: Nov 1998
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Handle: RePEc:cpr:ceprdp:2015

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Related research
Keywords: Asia; banking Crisis; Currency Crisis; Speculative Attacks;

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Find related papers by JEL classification:
F31 - International Economics - - International Finance - - - Foreign Exchange

This item is featured on the following reading lists:

  1. Canadian Macro Study Group
References listed on IDEAS
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  1. Edward C. Prescott, 1986. "Theory ahead of business cycle measurement," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Fall, pages 9-22. [Downloadable!]
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  2. Guillermo A. Calvo & Carlos A. Vegh, 1999. "Inflation Stabilization and BOP Crises in Developing Countries," NBER Working Papers 6925, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  3. Rebelo, Sergio & Xie, Danyang, 1999. "On the optimality of interest rate smoothing," Journal of Monetary Economics, Elsevier, vol. 43(2), pages 263-282, April. [Downloadable!] (restricted)
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  4. van Wijnbergen, Sweder, 1991. "Fiscal Deficits, Exchange Rate Crises and Inflation," Review of Economic Studies, Blackwell Publishing, vol. 58(1), pages 81-92, January. [Downloadable!] (restricted)
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  5. Obstfeld, Maurice & Rogoff, Kenneth, 1995. "The Mirage of Fixed Exchange Rates," Journal of Economic Perspectives, American Economic Association, vol. 9(4), pages 73-96, Fall. [Downloadable!] (restricted)
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  6. Giancarlo Corsetti & Paolo Pesenti & Nouriel Roubini, 1998. "Paper Tigers? A Model of the Asian Crisis," NBER Working Papers 6783, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  7. Maurice Obstfeld, 1997. "Models of Currency Crises with Self-Fulfilling Features," NBER Working Papers 5285, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  8. Kaminsky, Graciela & Lizondo, Saul & Reinhart, Carmen M., 1997. "Leading indicators of currency crises," Policy Research Working Paper Series 1852, The World Bank. [Downloadable!]
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  9. Flood, Robert P. & Garber, Peter M., 1984. "Collapsing exchange-rate regimes : Some linear examples," Journal of International Economics, Elsevier, vol. 17(1-2), pages 1-13, August. [Downloadable!] (restricted)
  10. Corsetti, G. & Pesenti, P. & Roubini, N., 1998. "What Caused the Asian Currency and Financial Crisis?," Papers 343, Banca Italia - Servizio di Studi.
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  11. Calvo, Guillermo A, 1987. "Balance of Payments Crises in a Cash-in-Advance Economy," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 19(1), pages 19-32, February. [Downloadable!] (restricted)
  12. Thomas J. Sargent & Neil Wallace, 1981. "Some unpleasant monetarist arithmetic," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Fall. [Downloadable!]
  13. Maurice Obstfeld, 1994. "The Logic of Currency Crises," NBER Working Papers 4640, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  14. Atish R. Ghosh & A. Javier Hamann & Timothy D. Lane & Steven Phillips & Marianne Schulze-Gattas & T. M. Tsikata, 1999. "IMF-Supported Programs in Indonesia, Korea and Thailand," IMF Occasional Papers 178, International Monetary Fund. [Downloadable!]
  15. Maurice Obstfeld, 1986. "Rational and Self-Fulfilling Balance-of-Payments Crises," NBER Working Papers 1486, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  16. Krugman, Paul, 1979. "A Model of Balance-of-Payments Crises," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 11(3), pages 311-25, August. [Downloadable!] (restricted)
  17. Maurice Obstfeld, 1986. "Speculative Attack and the External Constraint in a Maximizing Model of the Balance of Payments," NBER Working Papers 1437, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  18. Drazen, Allan & Helpman, Elhanan, 1987. "Stabilization with Exchange Rate Management," The Quarterly Journal of Economics, MIT Press, vol. 102(4), pages 835-55, November. [Downloadable!] (restricted)
  19. Steven Radelet & Jeffrey Sachs, 1998. "The Onset of the East Asian Financial Crisis," NBER Working Papers 6680, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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