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How Much Does Trade and Financial Contagion Contribute to Currency Crises? The Case of Korea

Author

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  • Duo Qin

    (Queen Mary and Westfield College, University of London)

Abstract

The prime task of modelling cross-market contagion is to predict the imminence of a pestilent currency crisis. Empirical models are developed here to study the roles and channels of contagion in exchange rate volatilities, in ways which are as economically sound and econometrically simple as possible. Korea is used as the susceptible and eight adjacent economies as the potential infective. Two channels of contagion are investigated -- trade linkage and financial market linkage. Two key features of the latter channel are carefully specified -- the changing degrees of infectiveness of a neighbouring economy due to its changing capital mobility, and the changing intensity of currency speculation in response to the changing vulnerability of the susceptible. By using monthly data prior to the 1997 Korean won crisis, the models predict a looming currency collapse. Since the respective roles of major internal and external factors which propagate shocks to the won rate are carefully identified in the models, it is thus manifest that contagion indeed played a major role in the won collapse, that financial contagion was the main culprit whereas trade contagion played only a minor part, and that the susceptible is especially prone to shocks from economies which are structurally similar to or weaker than it.

Suggested Citation

  • Duo Qin, 2000. "How Much Does Trade and Financial Contagion Contribute to Currency Crises? The Case of Korea," Working Papers 410, Queen Mary University of London, School of Economics and Finance.
  • Handle: RePEc:qmw:qmwecw:wp410
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    File URL: http://www.econ.qmul.ac.uk/media/econ/research/workingpapers/archive/wp410.pdf
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    Cited by:

    1. Martins Kazaks & Duo Qin, 2002. "Short-run lats rate movements: impact of foreign currency shocks via trade and financial markets," UCL SSEES Economics and Business working paper series 26, UCL School of Slavonic and East European Studies (SSEES).
    2. Pretorius, Anmar & de Beer, Jesse, 2004. "Contagion in Africa: South Africa and a troubled neighbour, Zimbabwe," Economic Modelling, Elsevier, vol. 21(4), pages 703-717, July.
    3. Daryl Collins & Shana Gavron, 2005. "Measuring equity market contagion in multiple financial events," Applied Financial Economics, Taylor & Francis Journals, vol. 15(8), pages 531-538.

    More about this item

    Keywords

    Currency crisis; Trade contagion; Financial contagion; Infective; Susceptible; Capital mobility; International financial market; Herding; Heterogeneous trading; Currency speculation; Discrete-state regression;

    JEL classification:

    • D50 - Microeconomics - - General Equilibrium and Disequilibrium - - - General
    • E22 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Investment; Capital; Intangible Capital; Capacity
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • F34 - International Economics - - International Finance - - - International Lending and Debt Problems
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics
    • G20 - Financial Economics - - Financial Institutions and Services - - - General
    • O16 - Economic Development, Innovation, Technological Change, and Growth - - Economic Development - - - Financial Markets; Saving and Capital Investment; Corporate Finance and Governance
    • O23 - Economic Development, Innovation, Technological Change, and Growth - - Development Planning and Policy - - - Fiscal and Monetary Policy in Development

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