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Do High Interest Rates Defend Currencies During Speculative Attacks? New evidence

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  • Benedikt Goderis
  • Vasso P. Ioannidou

Abstract

A recent paper by Kraay (2003) documents the lack of any systematic association between monetary policy and the outcome of a speculative attack. This paper extends Kraay’s work by introducing an improved measure of monetary policy and an additional country-specific fundamental, short-term corporate debt, to capture balance sheet vulnerabilities emphasized by the recent currency crises literature. The results show that for low levels of short-term corporate debt, raising interest rates lowers the probability of a successful attack. This effect decreases and eventually reverses for higher levels of debt. These findings contrast earlier empirical evidence and imply a fundamental reconsideration of the role of monetary policy during currency crises.

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File URL: http://www.csae.ox.ac.uk/workingpapers/pdfs/2006-11text.pdf
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Bibliographic Info

Paper provided by Centre for the Study of African Economies, University of Oxford in its series CSAE Working Paper Series with number 2006-11.

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Date of creation: 2006
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Handle: RePEc:csa:wpaper:2006-11

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Keywords: speculative attacks; currency crises; monetary policy; short-term debt;

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  1. Kraay, Aart, 2003. "Do high interest rates defend currencies during speculative attacks?," Journal of International Economics, Elsevier, Elsevier, vol. 59(2), pages 297-321, March.
  2. Lestano & Jan Jacobs & Gerard H. Kuper, 2004. "Indicators of financial crises do work! An early-warning system for six Asian countries," International Finance, EconWPA 0409004, EconWPA.
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  12. Goderis, Benedikt & Ioannidou, Vasso P., 2008. "Do high interest rates defend currencies during speculative attacks New evidence," Journal of International Economics, Elsevier, Elsevier, vol. 74(1), pages 158-169, January.
  13. Zettelmeyer, Jeromin, 2004. "The impact of monetary policy on the exchange rate: evidence from three small open economies," Journal of Monetary Economics, Elsevier, Elsevier, vol. 51(3), pages 635-652, April.
  14. Flood, Robert P. & Jeanne, Olivier, 2005. "An interest rate defense of a fixed exchange rate?," Journal of International Economics, Elsevier, Elsevier, vol. 66(2), pages 471-484, July.
  15. Giancarlo Corsetti & Bernardo Guimaraes & Nouriel Roubini, 2003. "International Lending of Last Resort and Moral Hazard: A Model of IMF's Catalytic Finance," NBER Working Papers 10125, National Bureau of Economic Research, Inc.
  16. Amartya Lahiri & Carlos A. Vegh, 2003. "Delaying the Inevitable: Interest Rate Defense and Balance of Payments Crises," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 111(2), pages 404-424, April.
  17. Cukierman, Alex & Webb, Steven B & Neyapti, Bilin, 1992. "Measuring the Independence of Central Banks and Its Effect on Policy Outcomes," World Bank Economic Review, World Bank Group, World Bank Group, vol. 6(3), pages 353-98, September.
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