Stock Market-Induced Currency Crises: A New Type of Twins
Stefan Eichler, Dominik Maltritz
Review of Development Economics,
No. 2,
2011
Abstract
This paper explores the link between currency crises and the stock market in emerging economies. By integrating foreign stock market investors in a currency crisis model, we reveal a new fundamental inconsistency as a potential crisis trigger: since emerging economies' stock markets often have high returns, whereas central bank reserves grow slowly or decline, the amount of reserves foreign investors can deplete when selling their stocks and repatriating the proceeds grows over time and is considerably higher than funds that have been invested in the stock market. Capital withdrawals of foreign stock market investors can trigger currency crises by depleting central bank reserves, particularly in successful countries with booming stock markets and large foreign investment.
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Central and Eastern European Countries in the Global Financial Crisis: A Typical Twin Crisis?
Diemo Dietrich, Tobias Knedlik, Axel Lindner
Post-Communist Economies,
No. 4,
2011
Abstract
This paper shows that during the Great Recession, banking and currency crises occurred simultaneously in Central and Eastern Europe. Events, however, differed widely from what happened during the Asian crisis that usually serves as the model case for the concept of twin crises. We look at three elements that help explaining the nature of events in Central and Eastern Europe: the problem of currency mismatches, the relation between currency and banking crises, and the importance of multinational banks for financial stability. It is shown that theoretical considerations concerning internal capital markets of multinational banks help understand what happened on capital markets and in the financial sector of the region. We discuss opposing effects of multinational banking on financial stability and find that institutional differences are the key to understand differing effects of the global financial crisis. In particular, we argue that it matters if international activities are organized by subsidiaries or by cross-border financial services, how large the share of foreign currency-denominated credit is and whether the exchange rate is fixed or flexible. Based on these three criteria we give an explanation why the pattern of the crisis in the Baltic States differed markedly from that in Poland and the Czech Republic, the two largest countries of the region.
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Exchange Rate Expectations and the Pricing of Chinese Cross-listed Stocks
Stefan Eichler
Journal of Banking and Finance,
No. 2,
2011
Abstract
I show that the price discounts of Chinese cross-listed stocks (American Depositary Receipts (ADRs) and H-shares) to their underlying A-shares indicate the expected yuan/US dollar exchange rate. The forecasting models reveal that ADR and H-share discounts predict exchange rate changes more accurately than the random walk and forward exchange rates, particularly at long forecast horizons. Using panel estimations, I find that ADR and H-share investors form their exchange rate expectations according to standard exchange rate theories such as the Harrod–Balassa–Samuelson effect, the risk of competitive devaluations, relative purchasing power parity, uncovered interest rate parity, and the risk of currency crisis.
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Currency Crises and the Stock Market: Empirical Evidence for Another Type of Twin Crisis
Stefan Eichler, Dominik Maltritz
Applied Economics,
No. 29,
2011
Abstract
We explore the dependency between currency crises and the stock market in emerging economies. Our focus is two-fold. First, the risk of a currency crisis rises as the foreign stake in the domestic stock market increases. Successful economies with high capital flows into their booming stock markets especially are prone to stock market-induced currency crises. Second, we apply the dividend growth model to show that stock markets crash in the run-up to a currency crisis. This new type of twin crisis is empirically tested by employing a logit framework using quarterly data for 33 emerging economies for 1994Q1–2007Q4.
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Currency Crisis Prediction Using ADR Market Data: An Options-based Approach
Stefan Eichler, Dominik Maltritz
International Journal of Forecasting,
No. 4,
2010
Abstract
During capital control episodes, large price deviations between American Depositary Receipts (ADR) and their underlying stocks signal that a currency crisis is about to occur. We interpret this price spread as the price of a call option. Using option pricing theory we derive detailed information about both the probability of a currency crisis and the expected magnitude of devaluation. Analyzing daily ADR market data preceding the Venezuelan crisis (1996), our approach predicts crisis probabilities of almost 100% and forecasts the exchange rate after floating quite accurately. During the Argentine crisis (2002), the estimated exchange rates are similar to the actual ones.
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The Role of Rating Agencies in Financial Crises: Event Studies from the Asian Flu
Makram El-Shagi
Cambridge Journal of Economics,
2010
Abstract
Based on case studies from countries that have been hit hardest by the Asian financial crisis of 1997, the present paper shows that the accusation that sovereign ratings led to a severe acceleration of the crisis is unconvincing and that the empirical method often used to support accusations against rating agencies is inappropriate for the problem under analysis. Rather, it must be emphasised that ratings were downgraded in most countries very shortly before the end of the crisis. In some countries, the ratings were even further downgraded after the end of the crisis as countries started to recover. This is not in line with the thesis that the crisis was accelerated by rating agencies.
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Im Fokus: Polen in der globalen Finanz- und Konjunkturkrise – Realwirtschaft trotzt mit IWF-Unterstützung den Finanzmarktturbulenzen
Tobias Knedlik
Wirtschaft im Wandel,
No. 4,
2010
Abstract
Poland’s economy resists turbulences on financial markets
Poland has been affected by the global financial crisis. However, developments in Poland deviated considerably from developments in other middle and eastern European countries. Risk premiums, as measured by credit default swaps, increased by less but more suddenly as compared with other countries of the region. The Polish currency crisis started earlier and lasted longer as in other countries of the region. The developments on financial markets did, however, not result in a recession.
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Potential Effects of Basel II on the Transmission from Currency Crises to Banking Crises – The Case of South Korea
Tobias Knedlik, Johannes Ströbel
Journal of Money,
No. 13,
2010
Abstract
In this paper we evaluate potential effects of the Basel II accord on preventing the transmission from currency crises to banking crises by analyzing the South Korean crisis of 1997. We show that regulatory capital reserves under Basel II would have been lower than those under Basel I, and that therefore Basel II would have had adverse effects on the development of the crisis. Furthermore we investigate whether the behavior of rating agencies has changed since the East Asian crisis. We find no evidence that rating agencies have started to take micro-mismatches into account. Thus, we have reservations concerning the effectiveness of Basel II.
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The ADR Shadow Exchange Rate as an Early Warning Indicator for Currency Crises
Stefan Eichler, Alexander Karmann, Dominik Maltritz
Journal of Banking and Finance,
No. 11,
2009
Abstract
We develop an indicator for currency crisis risk using price spreads between American Depositary Receipts (ADRs) and their underlyings. This risk measure represents the mean exchange rate ADR investors expect after a potential currency crisis or realignment. It makes crisis prediction possible on a daily basis as depreciation expectations are reflected in ADR market prices. Using daily data, we analyze the impact of several risk drivers related to standard currency crisis theories and find that ADR investors perceive higher currency crisis risk when export commodity prices fall, trading partners’ currencies depreciate, sovereign yield spreads increase, or interest rate spreads widen.
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