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Regionality Revisited: An Examination of the Direction of Spread of Currency Crisis

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  • Amil Dasgupta
  • Roberto Leon-Gonzalez
  • Anja Shortland

Abstract

What determines the direction of spread of currency crises? We examine data on waves of currency crises in 1992, 1994, 1997, and 1998 to evaluate several hypotheses on the determinants of contagion. We simultaneously consider trade competition, financial links, and institutional similarity to the "ground-zero" country as potential drivers of contagion. To overcome data limitations and account for model uncertainty, we utilize Bayesian methodologies hitherto unused in the empirical literature on contagion. In particular, we use the Bayesian averaging of binary models which allows us to take into account the uncertainty regarding the appropriate set of regressors. We find that institutional similarity to the ground-zero country plays an important role in determining the direction of contagion in all the emerging market currency crises in our dataset. We thus provide persuasive evidence in favour of the "wake up call" hypothesis for financial contagion. Trade and financial links may also play a role in determining the direction of contagion, but their importance varies amongst the crisis periods.

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Bibliographic Info

Paper provided by DIW Berlin, German Institute for Economic Research in its series Discussion Papers of DIW Berlin with number 1023.

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Length: 31 p.
Date of creation: 2010
Date of revision:
Handle: RePEc:diw:diwwpp:dp1023

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Keywords: Financial contagion; exchange rate; institutions; Bayesian model averaging;

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Citations

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Cited by:
  1. Leila Ali & Marie Lebreton, 2013. "The Fall of Bretton Woods: Which Geography Matters?," Economics Bulletin, AccessEcon, vol. 33(2), pages 1396-1419.
  2. Ahnert, Toni & Bertsch, Christoph, 2013. "A wake-up call: information contagion and strategic uncertainty," Working Paper Series 282, Sveriges Riksbank (Central Bank of Sweden), revised 01 Mar 2014.
  3. Geert Bekaert & Michael Ehrmann & Marcel Fratzscher & Arnaud Mehl, 2014. "The Global Crisis and Equity Market Contagion," Discussion Papers of DIW Berlin 1352, DIW Berlin, German Institute for Economic Research.
  4. Manz, Michael, 2010. "Information-based contagion and the implications for financial fragility," European Economic Review, Elsevier, Elsevier, vol. 54(7), pages 900-910, October.

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