Are currency crises predictable?

CEPAL Review

Brookings Papers on Economic Activity, 1995

Bankers' adage THE COLLAPSE of the Mexican peso in late 1994 remains a topic of controversy. To some observers it appeared that the bungling of a new administration had brought about a disaster where there was no problem and every reason to expect stability and prosperity. In fact, some even argue that the damage could be undone by raising the peso to its initial level. The notion that the devaluation was a blunder or worse was shared by the Wall Street Journal's editorial board, some members of the U.S. Congress, and other advocates of hard money, including exposed investors. In the Financial Times Jude Wanniski referred to "currency devaluationists," and "currency debauchery" at the hands of Lawrence Summers and Stanley Fischer. ' To others, the ultimate collapse seemed inevitable and the only issue was one of timing. In this view currency alignment-devaluation or floating-was long overdue and had it been accomplished earlier, much

1999

The problem is to evaluate the likelihood that a country will face a currency or balance of payments crisis over a given horizon. When is it rational for market participants to expect a depreciation of the currency? On the basis of considerable empirical studies we know that in both banking and currency crises, there is a multitude of weak and deteriorating economic fundamentals. Our theme is that there is an economic logic to medium and longer-term movements in exchange rates, within the context of a consistent dynamic stock-flow model. The equilibrium real exchange rate is a trajectory, not a point. We provide objective measures of the real fundamentals that determine the moving equilibrium real exchange rate, and explain the dynamic economic mechanism whereby the actual exchange rate converges to this moving equilibrium exchange rate, called the NATREX.

In recent years, the frequency of currency crises in developing countries seems to have increased. Moreover, the consequences of these financial crises have probably worsened, not only for the country concerned, but also for other countries in the region, due to increased international trade and capital flows. This has encouraged research on the prediction of currency crises. In this paper, this research is summarised and a new approach to modelling currency crises is proposed.

2005

This Working Paper should not be reported as representing the views of the IMF. The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate. This paper takes a step in empirically testing the implications of a number of theoretical models that attempt to highlight the dynamics behind currency crises. By focusing on countries with broadly disparate economic and political arrangements, the study attempts to determine the extent to which these variables matter in affecting the probabilities of currency crises occurring. The empirical findings provide support for the view that, in general, a deterioration in economic fundamentals and the pursuit of lax monetary policy can contribute to currency crises. The experiences of several emerging market economies suggests that the sustainability of exchange rate policy depends both on adequate policy responses to the shocks to the economy and on the fragility of the economic, financial, and political system.

IMF Working Papers, 2002

This paper studies how uncertainty about fundamentals contributed to currency crises from both a theoretical and an empirical perspective. We find evidence-based on a monthly dataset of Consensus forecasts for six Asian countries in the period January 1995-May 200 I-confirming the theoretical predictions (from both unique-and multiple-equilibria models) that: (i) speculative attacks depend not only on actual and expected fundamentals but also on the variance of speculators' expectations about them; and (ii) the sign of the effect of the variance depends on whether expected fundamentals are "good" or "bad." These results are robust to the definition of exchange rate pressure indices, the estimation sample (precrisis vs. full sample), the method chosen to avoid spurious correlations, and possible time-varying coefficients for the mean, the variance, and the threshold separating good from bad expected fundamentals.

IMF Working Papers, 2005

This Working Paper should not be reported as representing the views of the IMF. The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate. This paper takes a step in empirically testing the implications of a number of theoretical models that attempt to highlight the dynamics behind currency crises. By focusing on countries with broadly disparate economic and political arrangements, the study attempts to determine the extent to which these variables matter in affecting the probabilities of currency crises occurring. The empirical findings provide support for the view that, in general, a deterioration in economic fundamentals and the pursuit of lax monetary policy can contribute to currency crises. The experiences of several emerging market economies suggests that the sustainability of exchange rate policy depends both on adequate policy responses to the shocks to the economy and on the fragility of the economic, financial, and political system.

Economic Systems, 2003

Journal of International Money and Finance, 2006

The plethora of currency crises around the world has fueled many theories on the causes of speculative attacks. The first-generation models focus on fiscal problems while the second-generation models emphasize countercyclical policies and self-fulfilling crises. In the 1990s, models pinpoint to financial excesses. With the crisis of Argentina in 2001, models of sovereign default have become popular again. While the theoretical literature has emphasized variety, the empirical literature has supported the ''one size fits all'' models. This paper contributes to the empirical literature by assessing whether the crises of the last 30 years are of different varieties.

1999

In this paper, a new method is introduced to predict currency crises. The method models a continuous crisis index, based on depreciations and reserve losses. The fact that during currency crises, the behaviour of market participants differs from normal circumstances is modelled by means of model with two regimes, one for troubled, and one for normal times. Both the probability

Journal of Risk and Financial Management, 2022

In this study we develop an early warning system (EWS) to forecast currency crises in emerging countries in Asia and Latin America, using logit regression on monthly data from 1992 to 2011. We found that macroeconomic and institutional variables are valuable indicators for forecasting crises. Our results show that a low level of export growth, current account surplus/GDP, GDP growth, a high level of real exchange rate growth, import growth, and short-term debt/reserves can explain the advent of a possible currency crisis. We found that a poor law and order scenario and high external conflict can lead to a currency crisis. Additional findings include high government stability and the absence of internal conflict, which contribute to an absence of democracy, ultimately leading to a currency crisis. The policy-makers can consider taking the effective pre-emptive actions to prevent the currency crises occurring in the future.

With this conference, held nineteen years after the appearance of Krugman's pathbreaking article on speculative attacks, the literature on this subject can be said to have passed through adolescence and reached maturity (in, one hopes, all senses of the word). Like any maturing subject, this one evinces changing preoccupations. The early literature on speculative attacks focused on conflicts between the stance of monetary and fiscal policies on the one hand and the authorities' exchange rate commitment on the other. An attack was assumed to occur when excessively expansionary monetary and fiscal policies gradually depleted the central bank's international reserves. It was triggered when those reserves fell to a critical threshold at which they were abruptly exhausted by currency speculators. This model was attuned to the time in the sense that inflation and, by implication, excessively expansionary monetary and fiscal policies were widespread problems, creating chronically overvalued currencies, and in that capital markets were less than fully liberalized, limiting the

Once one recognizes that governments borrow international reserves and exercise other policy options to defend fixed exchange rates during currency crises, the question arises: What factors determine a government's decision to abandon a currency peg or hang on? In a setting of purposeful action by the authorities, the possibility of self-fulfilling crises becomes important.

2000