Financial Crises in Emerging Markets: A Canonical Model
We present a simple model that can account for the main features of recent financial crises in emerging markets. The international illiquidity of the domestic financial system is at the center of the problem. Illiquid banks are a necessary and a sufficient condition for financial crises to occur. Domestic financial liberalization and capital flows from abroad (especially of short term) can aggravate the illiquidity of banks and increase their vulnerability to exogenous shocks and shifts in expectations.
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