Hedging and Financial Fragilities in Fixed Exchange Rate Regimes
Currency crises that coincide with banking crises tend to share four elements. First, governments provide guarantees to domestic and foreign bank creditors. Second, banks do not hedge their exchange rate risk. Third, there is a lending boom before the crises. Finally, when the currency/banking collapse occurs interest rates rise and there is a persistent decline in output. This paper proposes an explanation for these regularities.
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