Prospective Deficits and the Asian Currency Crisis
Posted: 28 Jan 2002
This paper argues that a principal cause of the 1997 Asian currency crisis was large prospective deficits associated with implicit bailout guarantees to failing banking systems. The expectation that these future deficits would be at least partially financed by seigniorage revenues or an inflation tax on outstanding nominal debt led to a collapse of the fixed exchange rate regimes in Asia. We articulate this view using a simple model whose key feature is that a speculative attack is inevitable once the present value of future government deficits rises. We present empirical evidence in support of the key assumptions underlying our interpretation of the crisis.
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