Speculative attacks, Private Signals and Intertemporal Trade-offs

Nikola Tarashev ()

No 254, BIS Working Papers from Bank for International Settlements

Abstract: Confronted with a speculative attack on its currency peg, an authority weighs the short-term benefit of giving in and fine tuning the economy against the long-term benefit of credibility-enhancing resistance. In turn, speculators with heterogeneous beliefs face strategic uncertainty that peaks at the time of the attack, when the fate of the peg is unclear, and then declines, as the economy settles in a stable currency regime. In this environment, a less conservative authority - i.e. one that stabilises less the exchange rate once a peg is abandoned - may be more likely to withstand an attack on the peg. This result, which strengthens as speculators' risk aversion declines, casts doubt on the conventional wisdom that greater conservatism enhances welfare.

Keywords: Global games of regime change; Strategic uncertainty; Coordination; Currency crises (search for similar items in EconPapers)
Pages: 29 pages
Date: 2008-06
New Economics Papers: this item is included in nep-cba and nep-mon
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