Chapter

Crises and Self-Fulfilling Expectations

Giovanni Piersanti

in The Macroeconomic Theory of Exchange Rate Crises

Published in print April 2012 | ISBN: 9780199653126
Published online September 2012 | e-ISBN: 9780191741210 | DOI: http://dx.doi.org/10.1093/acprof:oso/9780199653126.003.0004
Crises and Self-Fulfilling Expectations

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This chapter discusses the basic analytical framework of “second-generation” models of currency crises and their extensions to deal with new characteristics of international financial crises such as the connections between financial fragility and currency instability, government's reputation and credibility, asymmetric information and herding behavior, contagion across markets and countries, financial intermediation and liquidity crises, credit constraints and balance-sheet effects, strategic interaction among agents and equilibrium selection. The most important implication to emerge from this approach is that the run on central bank foreign reserves does not require policy inconsistencies and an adverse trend in the fundamentals before the crisis. The attack itself may induce an optimizing regime-switching choice that makes the crisis self-validating. Thus, the exact timing of a speculative attack turns to be indeterminate and arduous to forecast.

Keywords: monetary policy; public debt; government credibility; self-fulfilling attacks; contagion; bank runs; currency sustainability; financial globalization and herding behavior; liquidity crises; global games

Chapter.  52830 words.  Illustrated.

Subjects: Macroeconomics and Monetary Economics

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