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Preventing Currency Crises in Emerging Markets$
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Sebastian Edwards and Jeffrey A. Frankel

Print publication date: 2002

Print ISBN-13: 9780226184944

Published to Chicago Scholarship Online: February 2013

DOI: 10.7208/chicago/9780226185057.001.0001

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Credit, Prices, and Crashes

Credit, Prices, and Crashes

Business Cycles with a Sudden Stop

Chapter:
(p.335) 7 Credit, Prices, and Crashes
Source:
Preventing Currency Crises in Emerging Markets
Author(s):
Enrique G. Mendoza
Publisher:
University of Chicago Press
DOI:10.7208/chicago/9780226185057.003.0008

This chapter describes the role played by sudden stops (SSs) of capital inflows in triggering a financial crisis. It argues that SS episodes are qualitatively different from standard balance-of-payments crises. Credit frictions are modeled in an exchange economy that abstracts from the existence of money. SSs in the model can be driven by policy uncertainty, by domestic productivity shocks, by foreign shocks affecting the real interest rate, or by a mixture of all three. Persistent changes on the creditworthiness of emerging economies have the perverse impact of resulting to an increased short-run probability of SSs. Policy intervention is worth considering but also that the type of policies that can be effective for managing sudden stops need to be carefully chosen. Thus, this chapter provides a better welfare analysis of sudden stop episodes.

Keywords:   sudden stops, capital inflows, financial crisis, policy intervention, credit, foreign shocks

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