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The Macroeconomic Theory of Exchange Rate Crises$
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Giovanni Piersanti

Print publication date: 2012

Print ISBN-13: 9780199653126

Published to Oxford Scholarship Online: September 2012

DOI: 10.1093/acprof:oso/9780199653126.001.0001

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Dynamics of Crises

Dynamics of Crises

(p.197) 4 Dynamics of Crises
The Macroeconomic Theory of Exchange Rate Crises

Giovanni Piersanti

Oxford University Press

In order to describe the path followed by major macroeconomic variable around the time of crises, this chapter examines some dynamic models. It thus shows how the dynamic adjustment path of the economy associated with exchange rate based stabilization plan can be linked to currency crisis. How expected changes in future government's policies can affect the timing of attacks. How a run on central bank's foreign reserves can emerge in a context of consistent and flexible policy rules. How policymakers can elude speculative attacks by introducing uncertainty into the speculators' decisions. That the domestic currency often stays overvalued for a long period. That large discrete devaluations occur after the peg is abandoned. That the domestic interest rates tend to rise in the run up to the crisis. That speculative runs often occur in a multi-period context giving rise to alternating phases of “tranquillity” and “distress”. That asset price dynamics plays a critical role in triggering a full-blown financial crisis.

Keywords:   boom‐recession cycle, real exchange rate, budget deficits, bailout guarantee, current account deficits, asset prices, financial crashes, twin crises, speculative attacks, exit strategies, dynamic global games

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