Financial Crises, Dollarization, and Lending of Last Resort in Open Economies

Luigi Bocola and Guido Lorenzoni ()

American Economic Review, 2020, vol. 110, issue 8, 2524-57

Abstract: Foreign currency debt is considered a source of financial instability in emerging markets. We propose a theory in which liability dollarization arises from an insurance motive of domestic savers. Since financial crises are associated to depreciations, savers ask for a risk premium when saving in local currency. This force makes domestic currency debt expensive, and incentivizes borrowers to issue foreign currency debt. Providing ex post support to borrowers can alleviate the effect of the crisis on savers' income, lowering their demand for insurance, and, surprisingly, it can reduce ex ante incentives to borrow in foreign currency.

JEL-codes: E21 E42 E44 F34 G01 (search for similar items in EconPapers)
Date: 2020
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Citations: View citations in EconPapers (37)

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Working Paper: Financial Crises, Dollarization, and Lending of Last Resort in Open Economies (2017)
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DOI: 10.1257/aer.20180830

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