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On the Fiscal Implications of Twin Crises

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  • Craig Burnside
  • Martin Eichenbaum
  • Sergio Rebelo

Abstract

This paper explores the implications of different strategies for financing the fiscal costs of twin crises for inflation and depreciation rates. We use a first-generation type model of speculative attacks which has four key features: (i) the crisis is triggered by prospective deficits; (ii) there exists outstanding non-indexed government debt issued prior to the crises; (iii) a portion of the government's liabilities are not indexed to inflation; and (iv) there are nontradable goods and costs of distributing tradable goods, so that purchasing power parity does not hold. We show that the model can account for the high rates of devaluation and moderate rates of inflation often observed in the wake of currency crises. We use our model and the data to interpret the recent currency crises in Mexico and Korea. Our analysis suggests that the Mexican government is likely to pay for the bulk of the fiscal costs of its crisis through seignorage revenues. In contrast, the Korean government is likely to rely more on a combination of implicit and explicit fiscal reforms.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 8277.

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Date of creation: May 2001
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Publication status: published as On the Fiscal Implications of Twin Crises , A. Craig Burnside, Martin S. Eichenbaum, Sergio Rebelo. in Managing Currency Crises in Emerging Markets , Dooley and Frankel. 2003
Handle: RePEc:nbr:nberwo:8277

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  1. Dooley, Michael P, 2000. "A Model of Crises in Emerging Markets," Economic Journal, Royal Economic Society, vol. 110(460), pages 256-72, January.
  2. Craig Burnside & Martin Eichenbaum & Sergio Rebelo, 1998. "Prospective deficits and the Asian currency crisis," Working Paper Series WP-98-5, Federal Reserve Bank of Chicago.
  3. Willem H. Buiter, 1986. "Borrowing to Defend the Exchange Rate and the Timing and Magnitude of Speculative Attacks," NBER Working Papers 1844, National Bureau of Economic Research, Inc.
  4. Menzie D. Chinn & Kenneth M. Kletzer, 1999. "International capital inflows, domestic financial intermediation and financial crises under imperfect information," Proceedings, Federal Reserve Bank of San Francisco, issue Sep.
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Cited by:
  1. Frederic S. Mishkin, 2007. "Is Financial Globalization Beneficial?," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 39(2-3), pages 259-294, 03.
  2. Burnside, A Craig & Eichenbaum, Martin & Rebelo, Sérgio, 2003. "Government Finance in the Wake of Currency Crises," CEPR Discussion Papers 3939, C.E.P.R. Discussion Papers.
  3. Burnside, Craig, 2004. "Currency crises and contingent liabilities," Journal of International Economics, Elsevier, vol. 62(1), pages 25-52, January.
  4. Craig Burnside, 2004. "The Research Agenda: Craig Burnside on the Causes and Consequences of Twin Banking-Currency Crises," EconomicDynamics Newsletter, Review of Economic Dynamics, vol. 5(2), April.
  5. Irina Stanga, 2011. "Sovereign and Bank Credit Risk during the Global Financial Crisis," DNB Working Papers 314, Netherlands Central Bank, Research Department.
  6. Corsetti, Giancarlo & Mackowiak, Bartosz, 2006. "Fiscal imbalances and the dynamics of currency crises," European Economic Review, Elsevier, vol. 50(5), pages 1317-1338, July.
  7. Cruz-Rodriguez, Alexis, 2014. "¿Puede un índice de sostenibilidad fiscal predecir la ocurrencia de crisis cambiarias? Evidencias para algunos países seleccionados
    [Can a fiscal sustainability indicator predict the occurrence
    ," MPRA Paper 54103, University Library of Munich, Germany.
  8. Richard Hemming & Axel Schimmelpfennig & Michael Kell, 2003. "Fiscal Vulnerability and Financial Crises in Emerging Market Economies," IMF Occasional Papers 218, International Monetary Fund.
  9. Renu Kohli & Kenneth Kletzer, 2001. "Financial Repression and Exchange Rate Management in Developing Countries," IMF Working Papers 01/103, International Monetary Fund.

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