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- Title
Macroeconomic tail risk, currency crises and the inter‐war gold standard.
- Authors
Duley, Chanelle; Gai, Prasanna
- Abstract
We introduce macroeconomic tail risk into the canonical global game model of currency crises. The exchange rate peg is attacked if fundamentals reach a critical threshold, or if there is a sufficiently large public shock. Large shocks generate doubt amongst investors about both the state of the world and about what others know, giving rise to multiple equilibria. We find a non‐monotonic relationship between tail risk and the probability of (a fundamentals‐based) crisis and show how this effect depends on the magnitude and direction of public shocks. We consider the implications of policy intervention and identify conditions under which active intervention produces doubt about the level of fundamentals and, hence, how others will respond. Our analysis clarifies how financial contagion in Europe precipitated the sterling crisis of 1931.
- Subjects
EUROPE; INVESTMENT risk; CURRENCY crises; INVESTORS; FOREIGN exchange rates
- Publication
Canadian Journal of Economics, 2023, Vol 56, Issue 4, p1551
- ISSN
0008-4085
- Publication type
Article
- DOI
10.1111/caje.12680