Currency Attacks with Multiple Equilibria and Imperfect Information: The Role of Wage-setters

Gianluca Femminis

No 3291, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: We consider a dynamic stochastic model of currency attacks, characterised by imperfect information about the fundamental. Agents, who imperfectly know the state of the economy, not only decide whether to attack the peg, but also formulate expectations concerning the probability of future devaluation. The subjective devaluation probabilities influence the inflation expectations, which, in their turn, affects the second period wage level and hence, unemployment. In this way, first period expectations affect the second period fundamental and hence the policymaker?s ability to resist to an attack. We show that equilibrium expectations may be either ?optimistic? or ?pessimistic?. Optimistic (pessimistic) expectations involve a currency attack equilibrium characterised by a low (high) probability of devaluation. This result is due to the fact that agents decide upon next period wage having observed whether the current period currency attack has been successful or not. This publicly available information is sufficient to allow for a coordination effect among agents.

Keywords: Currency attacks; Fixed exchange rate; Multiple equilibria; Asymmetric information; Global games (search for similar items in EconPapers)
JEL-codes: F31 (search for similar items in EconPapers)
Date: 2002-04
New Economics Papers: this item is included in nep-ifn
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Citations: View citations in EconPapers (1)

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Related works:
Journal Article: CURRENCY ATTACKS WITH MULTIPLE EQUILIBRIA AND IMPERFECT INFORMATION: THE ROLE OF WAGE-SETTERS (2007)
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