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Macroeconomic Regime Switches and Speculative Attacks

  • Bartosz Mackowiak

This paper explains a currency crisis as an outcome of a switch in how monetary policy and fiscal policy are coordinated. The paper develops a model of an open economy in which monetary policy starts active, fiscal policy starts passive and, in a particular state of nature, monetary policy switches to passive and fiscal policy switches to active. The probability of the regime switch is endogenous and changes over time together with the state of the economy. The regime switch is preceded by a sharp increase in interest rates and causes a jump in the exchange rate. The model predicts that currency composition of public debt affects dynamics of macroeconomic variables. Furthermore, the model is consistent with evidence from recent currency crises, in particular small seigniorage revenues.

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File URL: http://sfb649.wiwi.hu-berlin.de/papers/pdf/SFB649DP2006-025.pdf
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Paper provided by Sonderforschungsbereich 649, Humboldt University, Berlin, Germany in its series SFB 649 Discussion Papers with number SFB649DP2006-025.

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Length: 40 pages
Date of creation: Apr 2006
Date of revision:
Handle: RePEc:hum:wpaper:sfb649dp2006-025
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  1. David Andolfatto & Paul Gomme, 2003. "Monetary Policy Regimes and Beliefs," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 44(1), pages 1-30, February.
  2. Troy Davig & Eric M. Leeper, 2007. "Fluctuating Macro Policies and the Fiscal Theory," NBER Chapters, in: NBER Macroeconomics Annual 2006, Volume 21, pages 247-316 National Bureau of Economic Research, Inc.
  3. Craig Burnside & Martin Eichenbaum & Sergio Rebelo, 1998. "Prospective deficits and the Asian currency crisis," Working Paper Series WP-98-5, Federal Reserve Bank of Chicago.
  4. Burnside, Craig & Eichenbaum, Martin & Rebelo, Sérgio, 2003. "Government Finance in the Wake of Currency Crises," CEPR Discussion Papers 3939, C.E.P.R. Discussion Papers.
  5. Persson, M & Persson, T & Svensson, L-E-O, 1996. "Debt, Cash Flow and Inflation Incentives : A Swedish Example," Papers 613, Stockholm - International Economic Studies.
  6. Hess Chung & Troy Davig & Eric Leeper, 2004. "Monetary and Fiscal Policy Switching," Econometric Society 2004 North American Summer Meetings 274, Econometric Society.
  7. Calvo, Guillermo A, 1988. "Servicing the Public Debt: The Role of Expectations," American Economic Review, American Economic Association, vol. 78(4), pages 647-61, September.
  8. Woodford, Michael, 2001. "Fiscal Requirements for Price Stability," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 33(3), pages 669-728, August.
  9. C.A. Sims, 1999. "The Precarious Fiscal Foundations of EMU," DNB Staff Reports (discontinued) 34, Netherlands Central Bank.
  10. 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.
  11. Uhlig, H.F.H.V.S., 2002. "One Money, But Many Fiscal Policies in Europe : What are the Consequences?," Discussion Paper 2002-32, Tilburg University, Center for Economic Research.
  12. Drazen, Allan & Grilli, Vittorio, 1993. "The Benefit of Crises for Economic Reforms," American Economic Review, American Economic Association, vol. 83(3), pages 598-607, June.
  13. Woodford, Michael, 1995. "Price-level determinacy without control of a monetary aggregate," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 43(1), pages 1-46, December.
  14. Maurice Obstfeld, 1994. "The Logic of Currency Crises," NBER Working Papers 4640, National Bureau of Economic Research, Inc.
  15. Taylor, John B., 1993. "Discretion versus policy rules in practice," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 39(1), pages 195-214, December.
  16. Betty Daniel, 2000. "A Fiscal Theory of Currency Crises," Econometric Society World Congress 2000 Contributed Papers 0535, Econometric Society.
  17. Sims, Christopher A, 1994. "A Simple Model for Study of the Determination of the Price Level and the Interaction of Monetary and Fiscal Policy," Economic Theory, Springer, vol. 4(3), pages 381-99.
  18. Feenstra, Robert C., 1986. "Functional equivalence between liquidity costs and the utility of money," Journal of Monetary Economics, Elsevier, vol. 17(2), pages 271-291, March.
  19. Uhlig, Harald, 2002. "One Money, but Many Fiscal Policies in Europe: What Are the Consequences?," CEPR Discussion Papers 3296, C.E.P.R. Discussion Papers.
  20. Corsetti, Giancarlo & Mackowiak, Bartosz, 2006. "Fiscal imbalances and the dynamics of currency crises," European Economic Review, Elsevier, vol. 50(5), pages 1317-1338, July.
  21. 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.
  22. Leeper, Eric M., 1991. "Equilibria under 'active' and 'passive' monetary and fiscal policies," Journal of Monetary Economics, Elsevier, vol. 27(1), pages 129-147, February.
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