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Political Contagion in Currency Crises

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  • Allan Drazen

Abstract

Existing models of contagious currency crises are summarized and surveyed, and it is argued that more weight should be put on political factors. Towards this end, the concept of political contagion introduced, whereby contagion in speculative attacks across currencies arises solely because of political objectives of countries. A specific model of membership' contagion is presented. The desire to be part of a political-economic union, where maintaining a fixed exchange rate is a condition for membership and where the value of membership depends positively on who else is a member, is shown to give rise to potential contagion. We then present evidence suggesting that political contagion may have been important in the 1992-3 EMS crisis.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 7211.

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Date of creation: Jul 1999
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Publication status: published as Political Contagion in Currency Crises , Allan Drazen. in Currency Crises , Krugman. 2000
Handle: RePEc:nbr:nberwo:7211

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  1. Masson, Paul R, 1995. "Gaining and Losing ERM Credibility: The Case of the United Kingdom," Economic Journal, Royal Economic Society, Royal Economic Society, vol. 105(430), pages 571-82, May.
  2. Leonardo Bartolini & Allan Drazen, 1996. "Capital Account Liberalization as a Signal," NBER Working Papers 5725, National Bureau of Economic Research, Inc.
  3. Drazen, Allan & Masson, Paul R, 1994. "Credibility of Policies versus Credibility of Policymakers," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 109(3), pages 735-54, August.
  4. Sushil Bikhchandani & David Hirshleifer & Ivo Welch, 2010. "A theory of Fads, Fashion, Custom and cultural change as informational Cascades," Levine's Working Paper Archive 1193, David K. Levine.
  5. Obstfeld, Maurice, 1986. "Rational and Self-fulfilling Balance-of-Payments Crises," American Economic Review, American Economic Association, American Economic Association, vol. 76(1), pages 72-81, March.
  6. Stefan Gerlach & Frank Smets, 1994. "Contagious speculative attacks," BIS Working Papers 22, Bank for International Settlements.
  7. Bensaid, Bernard & Jeanne, Olivier, 1997. "The instability of fixed exchange rate systems when raising the nominal interest rate is costly," European Economic Review, Elsevier, Elsevier, vol. 41(8), pages 1461-1478, August.
  8. Martin Feldstein, 1997. "The Political Economy of the European Economic and Monetary Union: Political Sources of an Economic Liability," Journal of Economic Perspectives, American Economic Association, American Economic Association, vol. 11(4), pages 23-42, Fall.
  9. Barry Eichengreen & Charles Wyplosz, 1993. "The Unstable EMS," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 24(1), pages 51-144.
  10. Robert J. Barro & David B. Gordon, 1981. "A Positive Theory of Monetary Policy in a Natural-Rate Model," NBER Working Papers 0807, National Bureau of Economic Research, Inc.
  11. Drazen, Allan & Helpman, Elhanan, 1987. "Stabilization with Exchange Rate Management," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 102(4), pages 835-55, November.
  12. Ozkan, F Gulcin & Sutherland, Alan, 1995. "Policy Measures to Avoid a Currency Crisis," Economic Journal, Royal Economic Society, Royal Economic Society, vol. 105(429), pages 510-19, March.
  13. Flood, Robert P. & Garber, Peter M., 1984. "Collapsing exchange-rate regimes : Some linear examples," Journal of International Economics, Elsevier, Elsevier, vol. 17(1-2), pages 1-13, August.
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