Exchange Rate Regimes and Banking Crises: The Channels of Influence Investigated

Claremont Institute of Economic Policy Studies Working Paper No. 2006-07

39 Pages Posted: 18 Nov 2006 Last revised: 15 Jul 2011

Date Written: February 1, 2010

Abstract

We investigate the effects of alternative exchange rate regimes on the probability of banking crises using a new set of classifications from the IMF that allows us to distinguish between hard and soft pegs. We find that this distinction is quite important and helps explain some of the contradictory results of previous studies. We go beyond analysis of the total effects on crises and investigate some of the major mechanisms through which exchange rate regimes can affect a country’s susceptibility to banking crises. These are domestic credit growth, net foreign borrowing, and currency crises: we find stronger linkages for the last two channels than the first. We find evidence that the unstable middle hypothesis applies with respect to banking crises as well as currency crises.

Keywords: Banking Crises, Exchange Rate Regimes, Foreign Borrowing, Domestic Credit Expansion, Currency Crises

JEL Classification: G21, F31, F34

Suggested Citation

Prabha, Apanard Penny and Willett, Thomas D., Exchange Rate Regimes and Banking Crises: The Channels of Influence Investigated (February 1, 2010). Claremont Institute of Economic Policy Studies Working Paper No. 2006-07, Available at SSRN: https://ssrn.com/abstract=945827 or http://dx.doi.org/10.2139/ssrn.945827

Apanard Penny Prabha (Contact Author)

University of Illinois at Springfield ( email )

Springfield, IL 62703
United States

Thomas D. Willett

Independent

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