Financial Crises, Monetary Policy and Financial Fragility; a Second-Generation Model of Currency Crises

43 Pages Posted: 13 Dec 2002

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: November 2002

Abstract

In this Paper we present a model that combines the second-generation trade-off between costs of maintenance and abandonment with possible balance-sheet problems in the corporate sector. We show how debt levels can move a small economy from a fixed exchange rate to a floating exchange rate equilibrium or vice versa, simply by altering the trade-off faced by the monetary authorities. Even if the monetary authorities still have a substantial amount of foreign reserves available to guarantee the fixed value of the currency, they might choose not to and abandon the fixed exchange rate regime. Although it is often argued that first- and second-generation literature have not been able to explain the crisis in East Asia (1997-98), our model suggests that adding corporate balance sheet positions to second-generation models could substantially improve the explanatory power of these models in the case of the Asian crisis.

Keywords: Financial crises, monetary policy, financial fragility, currency crises, Asian crisis

JEL Classification: E44, E52

Suggested Citation

Eijffinger, Sylvester C. W. and Goderis, Benedikt, Financial Crises, Monetary Policy and Financial Fragility; a Second-Generation Model of Currency Crises (November 2002). Available at SSRN: https://ssrn.com/abstract=361044

Sylvester C. W. Eijffinger (Contact Author)

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

The Netherlands Institute for Social Research|SCP ( email )

Rijnstraat 50
The Hague, 2515
Netherlands

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