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Chronicle of currency collapses: re-examining the effects on output

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Abstract

The impact of currency collapses (i.e. large nominal depreciations or devaluations) on real output remains unsettled in the empirical macroeconomic literature. This paper provides new empirical evidence on this relationship using a dataset for 108 emerging and developing economies for the period 1960-2006. We provide estimates of how these episodes affect growth and output trend. Our main finding is that currency collapses are associated with a permanent output loss relative to trend, which is estimated to range between 2% and 6% of GDP. However, we show that such losses tend to materialise before the drop in the value of the currency, which suggests that the costs of a currency crash largely stem from the factors leading to it. Taken on its own (i.e. ceteris paribus) we find that currency collapses tend to have a positive effect on output. More generally, we also find that the likelihood of a positive growth rate in the year of the collapse is over two times more likely than a contraction, and that positive growth rates in the years that follow such episodes are the norm. Finally, we show that the persistence of the crash matters, i.e. one-time events induce exchange rate and output dynamics that differ from consecutive episodes. JEL Classification: E32, F31, F41, F43.

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Bibliographic Info

Paper provided by European Central Bank in its series Working Paper Series with number 1226.

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Length: 52 pages
Date of creation: Jul 2010
Date of revision:
Handle: RePEc:ecb:ecbwps:20101226

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Keywords: currency crisis; nominal devaluations; nominal depreciations; exchange rates; real output growth; recovery from crises.;

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References

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  1. Valerie Cerra & Sweta Chaman Saxena, 2007. "Growth dynamics: the myth of economic recovery," BIS Working Papers 226, Bank for International Settlements.
  2. Sergio Rebelo & Ariel Burstein & Martin Eichenbaum, 2004. "Large Devaluations and the Real Exchange Rate," 2004 Meeting Papers 137, Society for Economic Dynamics.
  3. Gian-Maria Milesi-Ferretti & Assaf Razin, 1998. "Current Account Reversals and Currency Crisis-Empirical Regularities," IMF Working Papers 98/89, International Monetary Fund.
  4. Ariel Burstein & Martin Eichenbaum & Sergio Rebelo, 2005. "Modeling Exchange Rate Passthrough After Large Devaluations," RCER Working Papers 514, University of Rochester - Center for Economic Research (RCER).
  5. Reinhart, Carmen & Rogoff, Kenneth, 2004. "The modern history of exchange rate arrangements: A reinterpretation," MPRA Paper 14070, University Library of Munich, Germany.
  6. Bahmani-Oskooee, Mohsen & Miteza, Ilir, 2002. "Do nominal devaluations lead to real devaluations in LDCs?," Economics Letters, Elsevier, vol. 74(3), pages 385-391, February.
  7. Hausmann, Ricardo & Pritchett, Lant & Rodrik, Dani, 2004. "Growth Accelerations," CEPR Discussion Papers 4538, C.E.P.R. Discussion Papers.
  8. Ricardo Bebczuk & Arturo Galindo & Ugo Panizza, 2006. "An Evaluation of the Contractionary Devaluation Hypothesis," Department of Economics, Working Papers 064, Departamento de Economía, Facultad de Ciencias Económicas, Universidad Nacional de La Plata.
  9. Gupta, Poonam & Mishra, Deepak & Sahay, Ratna, 2007. "Behavior of output during currency crises," Journal of International Economics, Elsevier, vol. 72(2), pages 428-450, July.
  10. Shaghil Ahmed & Christopher J. Gust & Steven B. Kamin & Jonathan Huntley, 2002. "Are depreciations as contractionary as devaluations? A comparison of selected emerging and industrial economies," International Finance Discussion Papers 737, Board of Governors of the Federal Reserve System (U.S.).
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Cited by:
  1. Mohammad Karimi & Marcel-Cristian Voia, 2011. "Empirics of Currency Crises: A Duration Analysis Approach," Carleton Economic Papers 11-11, Carleton University, Department of Economics.
  2. Brei, Michael & Charpe, Matthieu, 2012. "Currency depreciations, financial transfers, and firm heterogeneity," Emerging Markets Review, Elsevier, vol. 13(1), pages 26-41.
  3. Camilo E Tovar, 2010. "Currency collapses and output dynamics: a long-run perspective," BIS Quarterly Review, Bank for International Settlements, June.
  4. Kappler, Marcus & Reisen, Helmut & Schularick, Moritz & Turkisch, Edouard, 2011. "The macroeconomic effects of large exchange rate appreciations," ZEW Discussion Papers 11-016, ZEW - Zentrum für Europäische Wirtschaftsforschung / Center for European Economic Research.
  5. Giuseppe Bertola & John Driffill & Harold James & Hans-Werner Sinn & Jan-Egbert Sturm & Ákos Valentinyi, 2013. "Chapter 2: European Imbalances," EEAG Report on the European Economy, CESifo Group Munich, vol. 0, pages 55-72, 02.

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