Currency Crises, Monetary Policy and Balance Sheet Vulnerabilities

33 Pages Posted: 15 Sep 2009

See all articles by Sylvester C. W. Eijffinger

Sylvester C. W. Eijffinger

Tilburg University (CentER) - Department of Economics; CESifo (Center for Economic Studies and Ifo Institute); Centre for Economic Policy Research (CEPR)

Benedikt Goderis

The Netherlands Institute for Social Research|SCP

Date Written: October 1, 2006

Abstract

This paper studies how the exposure of a country’s corporate sector to interest rate and exchange rate changes affects the probability of a currency crisis. To analyze this question, we present a model that defines currency crises as situations in which the costs of maintaining a fixed exchange rate exceed the costs of abandonment. The results show that a higher exposure to interest rate changes increases the probability of crisis through an increased need for output loss compensation and an increased efficacy of monetary policy in stimulating output. A higher exposure to exchange rate changes also increases the need for output loss compensation. However, it lowers the efficacy of monetary policy in stimulating output through the adverse balance sheet effects of exchange rate depreciation. As a result, its effect on the probability of crisis is ambiguous.

Keywords: Currency Crises, Monetary Policy, Short-Term Debt, Foreign Debt, Corporate Balance Sheets

JEL Classification: E52, E58, F34

Suggested Citation

Eijffinger, Sylvester C. W. and Goderis, Benedikt, Currency Crises, Monetary Policy and Balance Sheet Vulnerabilities (October 1, 2006). Available at SSRN: https://ssrn.com/abstract=1473731 or http://dx.doi.org/10.2139/ssrn.1473731

Sylvester C. W. Eijffinger

Tilburg University (CentER) - Department of Economics ( email )

P.O. Box 90153
Tilburg, 5000 LE
Netherlands
+31 13 466 2411 (Phone)
+31 13 466 3042 (Fax)

CESifo (Center for Economic Studies and Ifo Institute)

Poschinger Str. 5
Munich, DE-81679
Germany

HOME PAGE: http://www.CESifo.de

Centre for Economic Policy Research (CEPR)

London
United Kingdom

Benedikt Goderis (Contact Author)

The Netherlands Institute for Social Research|SCP ( email )

Rijnstraat 50
The Hague, 2515
Netherlands

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