A small review of the terms currrencies crisis

Dear readers,

 

According to a following post talking about currency crisis, I would like to explain through the police develop by the Chinese government and the past danger of establishing a fixed exchanges rates of the RMB.

Starting at this end of the 90’s, the Chinese government develops a fixed exchanges rate. However I would like to talk about others emerging countries starting the exact same policy in the exact same time.

In Asia, such as Taiwan, Singapore or in Russia and Argentine, due to potential growth inside the phenomena of seeing in the world the start of BRIC and emerging countries due to high develop of richer countries and also due to the cost of investments and labor force, the GDP of those countries start to increasing by a huge amount and therefore causing in a longer terms some hyperinflation and create discordance inside.From the website (PDF) following, the reasons is : "Indicators such as inflation and unemployment, or inflation and tax rates are the arguments of the social welfare functions usually applied to the analysis of stabilization policies in economies suffering from an “Inflationary bias”." In order to against those risk the emerging countries starting within a fashion policy to establish a fixed exchanges rates policy: what do it mean!

The meaning of establishing this policy is to create an invariable domestic currency value inside the FX market. The tools in order to follow this policy will part, inside expansionary (pinpointed by central bank) of controlling the visible balance of trade or in other world the ratio of the imports and exports and therefore the currents account inside balance of payment. By, in negative visible balance or in other term the country imports more goods than selling it, adding liquidity inside different part of the balance of payment (capital and financial accounts) and more logically my adding value of the reserve of the specific country. But the risk will be, proportionally within the deficit ratio, to increase the cost of maintaining the fixed exchanges rates policies.
in order to have an idea of the structure of the balance of payment, I decided to shown the japenese balance of payment from 2006 to 2009 (http://www.stat.go.jp/english/data/handbook/img/tab11_4.gif)

In the case of china power through population, demographic, population age, cost of investment, and cost of activities after investment… the government had a ratio of visible balance with a huge percentage more than positive. In other word the Chinese government has to make other investments aboard like buying gold and T-bills. Which doesn’t need to be focused on, due to the actual week concerne?

However, due to negative ratio, told before the article, governments in this case had to use investments inside their own capital account (more frequently). There is 3 different types of the currencies crisis which are 1^st, 2^nd, 3^rd generations, defined by:

1^st generation:

The 'first generation' of models of currency crises began with argues that a sudden speculative attack on a fixed exchange rate, even though it appears to be an irrational change in expectations, can result from rational behavior by investors. This happens if investors foresee that a government is running an excessive deficit, causing it to run short of liquid assets or "harder" foreign currency which it can sell to support its currency at the fixed rate. Investors are willing to continue holding the currency as long as they expect the exchange rate to remain fixed, but they flee the currency “en masse” when they anticipate that the peg is about to end.

2^nd generation:

            The 'second generation' of models of currency crises starts with the paper of Obstfeld (1986).^. In these models, doubts about whether the government is willing to maintain its exchange rate peg lead to multiple equilibrium, suggesting that self-fulfilling prophecies may be possible, in which the reason investors attack the currency is that they expect other investors to attack the currency.

3^rd generation:

'Third generation' models of currency crises have explored how problems in the banking and financial system interact with currency crises, and how crises can have real effects on the rest of the economy.
McKinnon & Pill (1996), Krugman (1998), Corsetti, Pesenti, & Roubini (1998) suggested that "over borrowing" by banks to fund moral hazard lending was a form of hidden government debts (to the extent that governments would bail out failing banks).
Radelet & Sachs (1998) suggested that self-fulfilling panics that hit the financial intermediaries, force liquidation of long run assets, which then "confirms" the panics.
Chang and Velasco (2000) argue that a currency crisis may cause a banking crisis if local banks have debts denominated in foreign currency.
Burnside, Eichenbaum, and Rebelo (2001 and 2004) argue that a government guarantee of the banking system may give banks an incentive to take on foreign debt, making both the currency and the banking system vulnerable to attack.
Krugman(1999) suggested another two factors, in an attempt to explain the Asian financial crisis: (1) firms' balance sheets affect their ability to spend, and (2) capital flows affect the real exchange rate. (He proposed his model as "yet another candidate for third generation crisis modeling". However, in his model, banking system plays no role. His model led to the policy prescription: impose a curfew on capital flight which was implemented by Malaysia during the Asian financial crisis.

In conclusion, the specific objective is to understand “why China had the opportunity for the past 20 years to maintain this fixed policy and the risk taken by the government in such a bad time” and to pinpoint “what is the historically and actually the power of this country based on huge investments, demographic, people age, etc establish is power through years!” and more theatrically the macroeconomic terms of currencies crisis”, due to nowadays people think about subprime “a crisis” but don’t understand the actual meaning of the past crisis which is based on the failure of financial system in USA after becoming a global crisis.

picture about the german post-war currency crisis destroying the value of the german currencies at this time deutsche Mark

marketoracle.co.uk

sources of the article is: "international economics theory & policy, pearson 8th edition , Krugman and Obstfeld"

Avialable URL: http://www.eui.eu/Personal/corsetti/research/adr.PDF