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Fundamentals, Contagion and Currency Crises: An Empirical Analysis

  • Kruger, Mark
  • Osakwe, Patrick N.
  • Page, Jennifer

This paper examines the determinants of currency crises in Latin America, Asia and Africa. It asks two basic questions: (a) Are currency crises linked to economic fundamentals? and; (b) Is there any evidence of a contagion effect after controlling for the potential effects of economic fundamentals? Using pooled annual data for 19 developing countries spanning the period 1977-1993, we argue that among the macroeconomic variables considered as causes of currency crises, a measure of lending booms, real exchange rate misalignment and the ratio of M2 to international reserves are the only variables that can be consistently linked to currency crises. Economic fundamentals such as the growth rate of domestic credit and high fiscal and current account deficits are generally not significant. In cases where a significant relationship is found, the result is not robust in the sense that the relationship becomes insignificant when there is either a change in the sample size or the definition of the crisis index. Our paper also provides empirical evidence in support of the idea that currency crises could be contagious. The results from our study suggest that currency crises cannot be explained solely by looking at economic fundamentals and that regional contagion effects as well as the speculative behaviour of investors may be important determinants.

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Paper provided by Bank of Canada in its series Staff Working Papers with number 98-10.

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Length: 36pages
Date of creation: 1998
Date of revision:
Handle: RePEc:bca:bocawp:98-10
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  1. Stefan Gerlach & Frank Smets, 1994. "Contagious speculative attacks," BIS Working Papers 22, Bank for International Settlements.
  2. Graciela L. Kaminsky & Carmen M. Reinhart, 1996. "The twin crises: the causes of banking and balance-of-payments problems," International Finance Discussion Papers 544, Board of Governors of the Federal Reserve System (U.S.).
  3. Graciela Kaminsky & Saul Lizondo & Carmen M. Reinhart, 1998. "Leading Indicators of Currency Crises," IMF Staff Papers, Palgrave Macmillan, vol. 45(1), pages 1-48, March.
  4. William R. Melick, 1996. "Estimation of speculative attack models: Mexico yet again," BIS Working Papers 36, Bank for International Settlements.
  5. Richard A. Meese & Andrew K. Rose, 1997. "Exchange rate instability: determinants and predictability," Pacific Basin Working Paper Series 97-03, Federal Reserve Bank of San Francisco.
  6. Pierre-Richard Agénor & Jagdeep S. Bhandari & Robert P. Flood, 1992. "Speculative Attacks and Models of Balance of Payments Crises," IMF Staff Papers, Palgrave Macmillan, vol. 39(2), pages 357-394, June.
  7. Obstfeld, Maurice, 1996. "Models of currency crises with self-fulfilling features," European Economic Review, Elsevier, vol. 40(3-5), pages 1037-1047, April.
  8. Maurice Obstfeld, 1994. "The Logic of Currency Crises," NBER Working Papers 4640, National Bureau of Economic Research, Inc.
  9. Barry Eichengreen, Andrew K. Rose, and Charles Wyplosz., 1995. "Speculative Attacks on Pegged Exchange Rates: An Empirical Exploration with Special Reference to the European Monetary System," Center for International and Development Economics Research (CIDER) Working Papers C95-046, University of California at Berkeley.
  10. Ramon Moreno, 1995. "Macroeconomic behavior during periods of speculative pressure or realignment: evidence from Pacific Basin economies," Pacific Basin Working Paper Series 95-05, Federal Reserve Bank of San Francisco.
  11. Blackburn, Keith & Sola, Martin, 1993. " Speculative Currency Attacks and Balance of Payments Crises," Journal of Economic Surveys, Wiley Blackwell, vol. 7(2), pages 119-44, June.
  12. Eichengreen, Barry & Rose, Andrew K & Wyplosz, Charles, 1996. "Contagious Currency Crises," CEPR Discussion Papers 1453, C.E.P.R. Discussion Papers.
  13. Pierre-Richard Agenor & Jagdeep S. Bhandari & Robert P. Flood, 1991. "Speculative Attacks and Models of Balance-of-Payments Crises," NBER Working Papers 3919, National Bureau of Economic Research, Inc.
  14. Frankel, Jeffrey A. & Rose, Andrew K., 1996. "Currency crashes in emerging markets: An empirical treatment," Journal of International Economics, Elsevier, vol. 41(3-4), pages 351-366, November.
  15. F. Gulcin Ozkan & Alan Sutherland, . "A Model of the ERM Crisis," EPRU Working Paper Series 93-09, Economic Policy Research Unit (EPRU), University of Copenhagen. Department of Economics.
  16. Blanco, Herminio & Garber, Peter M, 1986. "Recurrent Devaluation and Speculative Attacks on the Mexican Peso," Journal of Political Economy, University of Chicago Press, vol. 94(1), pages 148-66, February.
  17. Krugman, Paul, 1979. "A Model of Balance-of-Payments Crises," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 11(3), pages 311-25, August.
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