The Role of Institutional Quality in a Currency Crisis Model
IMF Working Papers, January 1, 2008
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Bibliographic details
- Authors: Yi Wu
- Published: January 1, 2008
- Series: IMF Working Papers
- DOI: https://doi.org/10.5089/9781451868678.001
Research question and approach
- The paper is a theoretical study of the impact of institutional quality on currency crises from a public finance point of view.
- Institutional weakness is modeled as an inefficiency of the tax collection system.
- Motivating context: recent empirical studies indicate weak institutions, including high levels of corruption, hinder economic performance; after the East Asian crisis, observers pointed to widespread corruption and crony capitalism as underlying causes.
- The study addresses a gap: limited empirical and especially theoretical studies on the link between institutional quality and currency crises.
Key findings
- Institutional weakness generally increases the likelihood of the existence of a self-fulfilling crisis equilibrium.
- Institutional weakness leads to larger currency devaluation when crises happen.
- The relationship can reverse when institutional weakness is very severe.
Policy-relevant implications (implicit from model results)
- Strengthening tax collection efficiency and institutional quality can reduce the likelihood of self-fulfilling currency crisis equilibria.
- Improvements in revenue administration and reductions in institutional inefficiencies could mitigate the magnitude of currency devaluations in crisis episodes.
- Very severe institutional breakdowns may produce non-monotonic effects, suggesting policy priorities should address both incremental improvements and prevention of extreme institutional deterioration.
Content in this bundle
- 1. Self-fulfilling Currency Crises