Currency Crises and Collapses

• Published in: Brookings papers on economic activity 1995-01, Vol.1995 (2), p.219-293
• Main Authors: Dornbusch, Rudiger, Goldfajn, Ilan, Valdés, Rodrigo O., Edwards, Sebastian, Bruno, Michael
• Format: Article
• Language: English
• Subjects: Currencies; Currency; Currency devaluation; Currency revaluation; Depreciation; Economic models; Economic recessions; Economic reform; Exchange rates; Foreign exchange; Foreign exchange controls; Foreign exchange rates; Gross domestic product; Inflation; Inflation rates; Interest rates; Overvalued currency; Real exchange rates; Statistical analysis; Studies
• ISSN: 0007-2303; 1533-4465; 0007-2303
• DOI: 10.2307/2534613

Four points are emphasized: 1. The real exchange rate is a key relative price. 2. The real exchange rate is in many, though not all, instances a policy variable. 3. An overly accommodating capital market aggravates the potential for mismanaging the exchange rate and amplifies the ultimate costs of a collapse. 4. Inflation has been overemphasized as a policy target. The inertia of the level and rate of change of prices is emphasized as a key aspect of real exchange rate behavior. Because the real exchange rate is sticky downward, policy makers are ill-advised to let it rise in the firms place. At the outset of any stabilization, the nominal exchange rate should play a key role, more so if any economy is coming out of extreme inflation. The situation in Brazil and Argentina are looked at to consider whether a somewhat overvalued currency can be brought down without crisis and, in particular, whether and how nominal devaluation can be effective. The growth performance of Chile and Mexico are compared. It is concluded that Mexico's neglect of a competitive real exchange rate is an important factor in its relatively poorer performance.