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From Sudden Stops to Fisherian Deflation: Quantitative Theory and Policy

Author

Listed:
  • Anton Korinek

    (Department of Economics, Johns Hopkins University, Baltimore, Maryland 21218
    National Bureau of Economic Research, Cambridge, Massachusetts 02138)

  • Enrique G. Mendoza

    (Department of Economics, University of Pennsylvania, Philadelphia, Pennsylvania 19104
    National Bureau of Economic Research, Cambridge, Massachusetts 02138)

Abstract

In the 1990s, Sudden Stops in emerging markets were a harbinger of the 2008 global financial crisis. During these Sudden Stops, countries lost access to credit, which caused abrupt current account reversals, and suffered severe recessions. This article reviews a class of models that yield quantitative predictions consistent with these observations, based on an occasionally binding credit constraint that limits debt to a fraction of the market value of incomes or assets used as collateral. Sudden Stops are infrequent events nested within regular business cycles and occur in response to standard shocks after periods of expansion increase leverage ratios sufficiently. When this happens, the Fisherian debt-deflation mechanism is set in motion, as lower asset or goods prices tighten the constraint further, causing further deflation. This framework also embodies a pecuniary externality with important implications for macroprudential policy because agents do not internalize how current borrowing decisions affect collateral values during future financial crises.

Suggested Citation

  • Anton Korinek & Enrique G. Mendoza, 2014. "From Sudden Stops to Fisherian Deflation: Quantitative Theory and Policy," Annual Review of Economics, Annual Reviews, vol. 6(1), pages 299-332, August.
  • Handle: RePEc:anr:reveco:v:6:y:2014:p:299-332
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    File URL: http://www.annualreviews.org/doi/abs/10.1146/annurev-economics-080213-041005
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    More about this item

    Keywords

    financial crises; balance sheet effects; pecuniary externalities; macroprudential regulation;
    All these keywords.

    JEL classification:

    • F34 - International Economics - - International Finance - - - International Lending and Debt Problems
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy

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