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Are Currency Crises Low-State Equilibria? An Empirical, Three-Interest-Rate Model

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  • Christopher Cornell
  • Raphael Solomon

Abstract

Suppose that the dynamics of the macroeconomy were given by (partly) random fluctuations between two equilibria: "good" and "bad." One would interpret currency crises (or recessions) as a shift from the good equilibrium to the bad. In this paper, the authors specify a dynamic investment-savings-aggregate-supply (IS-AS) model, determine its closed-form solution, and examine numerically its comparative statics. The authors estimate the model via maximum likelihood, using data for Argentina, Canada, and Turkey. Since the data show no support for the multiple-equilibrium explanation of fluctuations, the authors cast doubt on the third-generation models of currency crisis.

Suggested Citation

  • Christopher Cornell & Raphael Solomon, 2006. "Are Currency Crises Low-State Equilibria? An Empirical, Three-Interest-Rate Model," Staff Working Papers 06-5, Bank of Canada.
    • Handle: RePEc:bca:bocawp:06-5
    DOI: 10.34989/swp-2006-5
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    References listed on IDEAS

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    4. Cornell, Christopher M., 2003. "Target zones, reserve crises, and inverted S-curves," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 13(4), pages 313-323, October.
    5. Laurence M. Ball, 1999. "Policy Rules for Open Economies," NBER Chapters, in: Monetary Policy Rules, pages 127-156, National Bureau of Economic Research, Inc.
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    Keywords

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    JEL classification:

    • C62 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Existence and Stability Conditions of Equilibrium
    • E59 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Other
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics

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