The role of domestic and foreign investors in a simple model of speculative attacks.

  • 22 Pages
  • 4.28 MB
  • English
International Monetary Fund, Fiscal Affairs Dept. , Washington, D.C
Foreign exchange futures, Fi
Statementprepared by Dennis P.J. Botman and Cees G.H. Diks
SeriesIMF working paper -- WP/05/205
ContributionsDiks, Cees., International Monetary Fund. Fiscal Affairs Dept.
The Physical Object
Pagination22 p. :
ID Numbers
Open LibraryOL20877092M

We introduce local and foreign investors in a simple model of speculative attacks. Local investors have less tolerance for overvaluation of the fixed exchange rate because they tend to incur lower costs when taking a short position and possess better information, and because of moral hazard created by discriminatory government guarantees.

Finally, the lower the degree of exchange rate pass-through, the more likely domestic investors are tp take the lead during capital flight. The Role of Domestic and Foreign Investors in a Simple Model of Speculative AttacksAuthor: Cees G.

Diks, Dennis P Botman. Fiscal Affairs Department,] -- We introduce local and foreign investors in a simple model of speculative attacks.

Local investors have less tolerance for overvaluation of the fixed exchange rate because they tend to incur lower. This paper proposes a theory of twin banking-currency crises in which both fundamentals and self-fulfilling beliefs play crucial roles.

Fundamentals determine whether crises will occur. Self-fulfilling beliefs determine when they occur. The fundamental that causes ‘twin crises’ is government guarantees to domestic banks' foreign creditors.

This paper explores the role played by government guarantees to banks’ foreign creditors as a root cause of self-fulfilling twin banking-currency crises. We develop a general equilibrium model in which such guarantees lead to these types of crises.

Absent government guarantees, such crises are not possible. The model has three key properties. Before a speculative attack, the domestic high-powered money supply is equal to domestic credit plus the book value of international reserves held by the central bank.

An attack causes international reserves to fall to their lower bound, which we set at zero for simplicity. 10 After the attack, the high-powered money supply is simply equal to Cited by: Using data on currency trading by foreign (large) and local (small) players, we find that foreign players moved last in three attacks on the Norwegian krone during the s.

light of recurring foreign exchange instability has been a source of motivation for this paper. The objective, therefore, is to generate a model aimed at predicting the timing and magnitude of a currency depreciation forced by speculative attacks on the exchange rate system, and to provide an ‘early warning’ of regime fragility.

and the outcome of speculative attacks. This evidence contributes to a small but growing empirical literature on the role of monetary policy during speculative attacks.2 Goldfajn and Gupta () focus on the 2 There is of course a large literature on the effectiveness of interventions in foreign exchange markets (see Edison () for a survey).

The term ‘developmental state’ has been incorrectly used to describe any state presiding over a period of economic development and improvement in living standards.

This essay describes the attributes of the 'developmental state' and explains how they led to highly successful economic development in the Newly Industrialized Countries (NICs). A speculative attack on a currency occurs when 'investors' believe that the value of a currency is over-valued and therefore, they sell that currency in anticipation of it falling and buy another currency (e.g.

sell their holdings of Pound Sterling and buy Euros). They make money by seeing the value of the currency they buy (e.g. Euros) increase. International Monetary Fund A New-Open-Economy Macro Model for Fiscal Policy Evaluation.

The Role of Domestic and Foreign Investors in a Simple Model of Speculative Attacks. exchange rate and foreign reserves (Eichengreen, Rose, and Wyplosz ) to identify historical currency crisis episodes. Including foreign reserves enables the capture of so-called unsuccessful speculative attacks.

In this paper, the foreign reserves variable is not used in identifying crisis episodes as we do not consider unsuccessful by:   Full dollarization, however, is an almost permanent resolution: the country's economic climate becomes more credible as the possibility of speculative attacks on Author: Reem Heakal.

Interest rate dynamics and speculative trading in a fixed exchange rate system. t+k and r f t|t+k the domestic and foreign, k period interest rates at time t.

(nine years)—with the singular advantage of hindsight, speculative attacks on the fixed rule could be executed, de-facto, only at a by: 1.

Traditional arguments against of private foreign investment: Widening gaps-Lower domestic savings and investment rates by 1.

substituting for private savings 2. failing to reinvest profits 3. importing intermediate goods instead of using indigenous firms 4.

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generating domestic incomes for groups with lower savings propensities and. We model a central bank which wishes to maintain a peg, and responds to increases in demand for domestic currency by expanding its balance sheet. In contrast to the classic speculative attacks, which are triggered by the depletion of foreign assets, reverse attacks are triggered by the concern of future balance sheet by: 6.

C) foreign investment in one firm may have beneficial technological spillover effects on other foreign producers that the investing firm does not capture. D) an addition to the home capital stock may reduce domestic unemployment and therefore lead to higher national income. The Economics of Currency Crises and Contagion: exchange rate peg will lead to a depletion of foreign reserves held by the domestic central bank.

More precisely, the rate of speculative attacks. However, there is an important qualification to the above analysis. Since a speculative. The relationship between foreign direct investment (FDI) and domestic investment is a controversial issue in the economic literature.

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One of the main debates is whether FDI crowds in or crowds out domestic investment. On one hand, by creating spillover effects, FDI may lead to new or higher amounts of domestic investment where it would not be File Size: KB. and interest among them, just like Internet stocks were to U.S.

investors in the late s. More importantly, during the periodseveral dozen rms o ered two classes of shares, class A and class B, with identical rights. Untildomestic investors could only buy A shares while foreign investors could only hold B shares.

Investment and Exchange Rate Uncertainty under Different Regimes Estud. Econ., São Paulo, vol, n.3, p, jul.-set. However, from the practical point of view, what matters for the firms is a de facto regime and being this way, the two regimes are identical.5 The basic model is composed by one good, produced by a represen.

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Companies that conduct international business at or near the founding of the firm. They internationalize rapidly - the period from domestic establishement to initial foreign market entry is often three or fewer years.

Born globals are emerging in sizeable numbers worldwide. Product is established for the international market 7 characteristics. domestic interest rates over foreign interest rates. Speculative pressures on the domestic currency are typically associated with sharp but temporary increases in the spread between domestic and foreign interest rates.

We thus define a speculative attack episode as the week in which the spread betweenCited by: Javier Bianchi is a senior research economist at the Federal Reserve Bank of Minneapolis. He is also a faculty research fellow at the National Bureau of Economic Research and an associate editor at the Journal of the European Economic Association, Journal of International Economics, and Review of Economic joining the Federal Reserve Bank of Minneapolis, he was an assistant.

Foreign Currency Reserves are rarely sufficient to target a certain exchange rate. If speculators sell heavily, then a currency will fall despite the best efforts of a Central bank. e.g. the UK lost billions trying to protect the value of Pound when it was in the Exchange Rate Mechanism in Mariano-Florentino Cuéllar • Domestic Security and Foreign Policy 5 Hoover Institution • Stanford University security problem,13 or from launching a diplomatic offensive that may result in increased threat of attacks.

To the extent one believes in the value of a grand strategy, successful terrorist attacks or spikes in violent criminal activity can distract a country. Currency Regimes, Capital Flows, and Crises.

generally grouped by “generation,” reflecting the evolution of approaches to the analysis both of the motives for speculative attacks and the consequences of such attacks.

but Romer is emphasizing the symmetry between domestic investment and net foreign investment, so it makes sense to do Cited by: In a reverse speculative attack, investors believe that the domestic currency will appreciate and thus buy massive amounts of the domestic currency.

The central bank, however, can always supply domestic currency and accumulate foreign reserves; hence, it cannot be forced to abandon its exchange rate policy.

The agenda for the WTO, meanwhile, is simple: pick up the pieces from Seattle and move forward. Otherwise countries will be tempted to strike Author: Robert E. Litan. Economists largely favor adherence to an organized sequence of encouraging foreign direct investment, liberalizing domestic equity capital, and embracing capital outflows and short-term capital mobility only once the country has achieved functioning domestic capital markets and established a sound regulatory framework.Governments also insure poorly regulated domestic financial markets.

Given this policy regime, a variety of internal and external shocks generate capital inflows followed by anticipated speculative attacks. The model suggests that a common shock generated capital inflows to emerging markets in Asia and Latin America after retreated to its domestic U.S.

market) serve as reminders of the difficulty of investing and operating abroad. Companies can enter a foreign market through either exporting or FDI. Exporting is a relatively low-risk and simple vehicle with which to enter a foreign market because it does not involve actual presence in the target market.

WhileFile Size: KB.