Private Sector Involvement and International Financial Crises An Analytical Perspective

by Chui, Michael; Gai, Prasanna; Allen, Franklin

• ISBN13: 9780199267750
• ISBN10: 0199267758
• Format: Hardcover
• Copyright: 2005-03-24
• Publisher: Oxford University Press

Summary

Offering an analytical perspective on the design and reform of the international financial architecture, this book stresses the important role played by creditor co-ordination problems in the origin and management of crises by relating the insights of the new literature on global games toearlier work on currency crises, bank runs, and sovereign debt default. It examines the design of sovereign bankruptcy procedures, the role of the IMF in influencing creditors and debtor countries, and the currency composition of sovereign debt, and draws on recent research and policy work.The book's first part provides a critical synthesis of the literature underpinning the architecture debate. It reviews the traditional distinction between "fundamentals-based" and "sunspot-based" crises before reconciling the two using global game methods. The role of co-ordination problems insparking costly liquidation and influencing the debtor's incentives to repay is then examined in depth and shown to lie at the heart of crisis management policy. The empirical literature on leading indicators of crisis is also critically examined and related to the architecture debate.In its second part the book examines key issues in crisis management. Suggesting that optimal reforms must set the inefficiencies of crisis against the inefficiencies of debtor moral hazard, the authors consider the relative merits of statutory and contractual solutions to sovereign debt workouts.They go on to discuss the role of the IMF in influencing private lending and debtor moral hazard, theoretically and empirically. They argue that there is no simple relationship between ex post crisis management and ex ante moral hazard, implying that the handling of financial crises is a delicateaffair warranting a cautious approach by would-be architects.

Author Biography

Prasanna Gai is a Fellow of the Research School of Pacific and Asian Studies at the Australian National University. He has been a Senior Adviser at the Bank of England (1994-2001), Senior Research Associate in the Financial Markets Group at the London School of Economics, and a Consultant to the Bank of England on international financial affairs (2002-2003). He has held visiting appointments as Visiting Fellow at the Hong Kong Institute of Monetary Research (2003) and Visiting Lecturer at the University of Oxford (2001). Michael Chui is Senior Manager at the Hong Kong Monetary Authority. He has been an Economist in the Directorate General International & European Relations at the European Central Bank (2001-2003), an Economist in the International Finance Division at the Bank of England (1998-2001), and a Research Officer in the Centre for Economic Forecasting at the London Business School (1993-98).

Table of Contents

List of Figures	xi
List of Tables	xiii
Introduction	1	(14)
The modern debate on the international financial architecture	1	(2)
Setting the scene---Korea, 1997--98	3	(6)
Method and plan	9	(6)
PART I. THE ANALYTICS OF CRISIS
Overview: Causes, Costs, and Prediction	15	(8)
Sunspot-Based Models	23	(12)
Basics of coordination games	23	(2)
Currency crises	25	(4)
Bank runs	29	(6)
Fundamentals-Based Models	35	(12)
Timing of crises	35	(3)
Optimal crises	38	(6)
The role of costly liquidation	44	(3)
Reconciling the Two Views	47	(14)
Basics of global games	47	(4)
Sovereign liquidity crises	51	(4)
Costs of coordination failure	55	(6)
Crisis Costs and Incentives to Repay Sovereign Debt	61	(10)
Willingness to pay	61	(2)
Exclusion from future access to credit	63	(2)
Direct sanctions and reputation	65	(6)
Spotting Financial Crises	71	(34)
Early warning models	71	(16)
Evaluation of early warning models	87	(9)
Anticipating crisis spillovers	96	(9)
PART II. REFORMING THE INTERNATIONAL FINANCIAL ARCHITECTURE
Overview: Dealing with Crises	105	(12)
Sovereign Debt Workouts	117	(18)
Balancing crisis costs and moral hazard	117	(3)
The role of the official sector	120	(7)
Contractual mechanisms	127	(8)
Open Issues	135	(32)
Rushes for the exits	135	(10)
Is official lending catalytic?	145	(6)
Effects of international rescues on debtor moral hazard	151	(16)
The `Original Sin' Problem	167	(16)
Reputation and the currency composition of debt	167	(6)
The value of reputation	173	(3)
Building trust	176	(7)
Next Steps in the Debate	183	(12)
Appendix
A Solution to the first-order differential equation	187	(4)
B Conditional distributions	191	(4)
Bibliography	195	(10)
Index	205