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Currency Crises and the Informational Role of Interest Rates

  • Nikola A. Tarashev

In the late 1990s, Morris and Shin proposed a new theoretical framework of financial crises, which generalised traditional models of strategic complementarity and self-fulfilling beliefs by incorporating idiosyncratic uncertainty about the state. The innovative feature of their framework is expressed by its capacity to account for seemingly unwarranted speculative attacks under equilibrium uniqueness and to thus place policy analysis on a firm footing. The macroeconomic implications of the framework have been questioned, however, because it ignores the issue of information aggregation via market prices. Motivated by such criticism, this paper modifies the Morris-Shin setup by allowing prices to adjust freely to market conditions. It is then shown that all of the appealing characteristics of that setup are preserved even when public information has an endogenously disseminated component. Moreover, the prevailing weak form of strategic complementarity, in conjunction with heterogeneity of private agents' information sets, leads to a less restrictive prerequisite for equilibrium uniqueness. Further, the paper's model delivers new policy implications and suggests a change in the approach of structural currency crisis empirical analysis.

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Paper provided by Bank for International Settlements in its series BIS Working Papers with number 135.

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Length: 22 pages
Date of creation: Sep 2003
Date of revision:
Handle: RePEc:bis:biswps:135
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  1. Amil Dasgupta, 2002. "Coordination, learning, and delay," LSE Research Online Documents on Economics 24955, London School of Economics and Political Science, LSE Library.
  2. Sanford Grossman, 1989. "The Informational Role of Prices," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262572141, August.
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