International Financial Contagion and the IMF: A Theoretical Framework

September 1, 2001

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Format: Chicago

Peter B. Clark, and Haizhou Huang. International Financial Contagion and the IMF: A Theoretical Framework, (USA: International Monetary Fund, 2001) accessed January 22, 2025

Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary

We provide a model of contagion where countries borrow or lend for consumption smoothing at the market interest rate or a lower IMF rate. Highly indebted countries hit by large negative shocks to output will default. The resulting reduction in loanable funds raises interest rates, increases the vulnerability of other indebted countries, and can generate further rounds of defaults. In this environment the IMF can limit default and internalize the externality generated by contagion through its lending with conditionality. We characterize the IMF's optimal lending decision in mitigating the loss in world consumption.

Subject: Consumption, Financial contagion, Financial crises, Financial institutions, Financial markets, Financial sector policy and analysis, International capital markets, Loans, Moral hazard, National accounts

Keywords: Conditionality, Consumption, Equilibrium interest rate, Financial contagion, Fund conditionality, IMF, IMF charge, IMF subsidy, Interest rate increase, International capital markets, International financial contagion, Loan volume, Loanable funds, Loans, Moral hazard, World capital market, World interest rate, WP

Publication Details

Pages:

31
Volume:

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DOI:

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Issue:

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Series:

Working Paper No. 2001/137
Stock No:

WPIEA1372001
ISBN:

9781451855913
ISSN:

1018-5941

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