Currency Mismatches, Debt Intolerance, and Original Sin
Currency Mismatches, Debt Intolerance, and Original Sin
Why They Are Not the Same and Why It Matters
This chapter explores the role of balance sheet effects in financial crises. The data suggest that original sin is robustly associated with country size and with countries' status as financial centers, advanced economies, or emerging markets, but that it is only weakly related to institutional variables like rule of law and measures of policy like inflation and fiscal history. Countries with high levels of original sin do in fact hold significantly larger international reserves, other things being equal. A strong negative correlation between original sin and credit ratings is observed. The debt intolerance school traces the problem to institutional weaknesses of emerging market economies that in turn result in weak and unreliable policies. It indicates that emerging market economies are volatile because they find it difficult to denominate their obligations in units that better track their capacity to pay, such as the domestic currency or the domestic consumption basket.
Keywords: balance sheet effects, financial crises, original sin, markets, international reserves, credit ratings, debt intolerance
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