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The Uncertainty Channel of Contagion

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  • Fritzi Koehler-Geib

Abstract

This paper analyzes the impact of uncertainty on the spread of stock market crises, both theoretically and empirically. The effect of uncertainty about the fundamentals on investment decisions is an important cause of financial crises propagating across countries. Firstly, a coordination game on investment illustrates the increasing effect of a surprise crisis in one country on the probability of a crisis in a second country through higher uncertainty there. An anticipated initial crisis generates the opposite effect. Secondly, these theoretical predictions are tested empirically. Fixed effects panel estimations validate the impact of the initial crisis on uncertainty in potentially-affected countries. Subsequently, probit estimations confirm the positive impact of uncertainty on the crisis probability in the affected economy. The results are robust across various specifications.

Suggested Citation

  • Fritzi Koehler-Geib, 2007. "The Uncertainty Channel of Contagion," Working Papers 034, Bavarian Graduate Program in Economics (BGPE).
  • Handle: RePEc:bav:wpaper:034_koehler
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    File URL: http://www.bgpe.de/texte/DP/034_koehler.pdf
    File Function: First version, 2007
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    References listed on IDEAS

    as
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    More about this item

    Keywords

    Capital Flows; Government debt; Sudden Stops; Global Games; Coordination Failure;

    JEL classification:

    • C72 - Mathematical and Quantitative Methods - - Game Theory and Bargaining Theory - - - Noncooperative Games
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • D84 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Expectations; Speculations
    • F21 - International Economics - - International Factor Movements and International Business - - - International Investment; Long-Term Capital Movements
    • F32 - International Economics - - International Finance - - - Current Account Adjustment; Short-term Capital Movements
    • F34 - International Economics - - International Finance - - - International Lending and Debt Problems
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics

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