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Prospective Deficits and the Asian Currency Crises

  • Burnside, Craig
  • Eichenbaum, Martin
  • Rebelo, Sérgio

This paper argues that the recent Southeast Asian currency crises was caused by large prospective deficits associated with implicit bailout guarantees to failing banking systems. We articulate this view using a simple dynamic general equilibrium model whose key feature is that a speculative attack is inevitable once the present value of future government deficits rises. This is true regardless of the government's foreign reserve position or the initial level of its debt. While the government cannot prevent a speculative attack, it can affect its timing. The longer the delay, the higher inflation will be under flexible exchange rates. In our model we present empirical evidence in support of the three key assumptions: (i) that foreign reserves did not play a special role in the timing of the attack; (ii) that large losses in the banking sector were associated with large increases in governments' prospective deficits; and (iii) that the public knew that banks were in trouble before the currency rate crises.

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Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 2015.

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Date of creation: Nov 1998
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Handle: RePEc:cpr:ceprdp:2015
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  1. Michael P. Dooley, 1997. "A Model of Crises in Emerging Markets," NBER Working Papers 6300, National Bureau of Economic Research, Inc.
  2. 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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  11. Rebelo, S. & Xie, D., 1996. "On the Optimality of Interest Rate Smoothing," RCER Working Papers 427, University of Rochester - Center for Economic Research (RCER).
  12. Craig Burnside & Martin Eichenbaum & Sergio Rebelo, 2001. "Prospective Deficits and the Asian Currency Crisis," Journal of Political Economy, University of Chicago Press, vol. 109(6), pages 1155-1197, December.
  13. Maurice Obstfeld, 1984. "Rational and Self-Fulfilling Balance-of-Payments Crises," NBER Working Papers 1486, National Bureau of Economic Research, Inc.
  14. Dupor, Bill, 2000. "Exchange rates and the fiscal theory of the price level," Journal of Monetary Economics, Elsevier, vol. 45(3), pages 613-630, June.
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  17. 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.
  18. Guillermo A. Calvo & Carlos A. Vegh, 1999. "Inflation Stabilization and BOP Crises in Developing Countries," NBER Working Papers 6925, National Bureau of Economic Research, Inc.
  19. Calvo, Guillermo A, 1987. "Balance of Payments Crises in a Cash-in-Advance Economy," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 19(1), pages 19-32, February.
  20. Maurice Obstfeld, 1984. "Speculative Attack and the External Constraint in a Maximizing Model of the Balance of Payments," NBER Working Papers 1437, National Bureau of Economic Research, Inc.
  21. Drazen, Allan & Helpman, Elhanan, 1987. "Stabilization with Exchange Rate Management," The Quarterly Journal of Economics, MIT Press, vol. 102(4), pages 835-55, November.
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  23. Feenstra, Robert C, 1985. "Anticipated Devaluations, Currency Flight, and Direct Trade Controls in a Monetary Economy," American Economic Review, American Economic Association, vol. 75(3), pages 386-401, June.
  24. Thomas J. Sargent & Neil Wallace, 1981. "Some unpleasant monetarist arithmetic," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Fall.
  25. Koenig, Evan F, 1987. "The Short-run 'Tobin Effect' in a Monetary Optimizing Model," Economic Inquiry, Western Economic Association International, vol. 25(1), pages 43-53, January.
  26. Flood, Robert P. & Garber, Peter M., 1984. "Collapsing exchange-rate regimes : Some linear examples," Journal of International Economics, Elsevier, vol. 17(1-2), pages 1-13, August.
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