The efficient resolution of capital account crises: how to avoid moral hazard

Gregor Irwin and David Vines
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Gregor Irwin: Bank of England, UK, Postal: Bank of England, UK

International Journal of Finance & Economics, 2005, vol. 10, issue 3, 233-250

Abstract: This paper presents a model of capital account crises and uses it to study resolution mechanisms for both liquidity and solvency crises. It shows that liquidity crises should be dealt with by a standstill combined with IMF lending into arrears, whereas solvency crises should be resolved by debt write-downs. Dealing with solvency crises by lending would require a subsidy and this creates moral hazard, such as incentives for excessive borrowing, for too little equity financing and for investment in projects that are inefficient. The analysis underlines the importance of accurately assessing whether a crisis is rooted in a liquidity or a solvency problem. Copyright © 2005 John Wiley & Sons, Ltd.

Date: 2005
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Working Paper: The efficient resolution of capital account crises: how to avoid moral hazard (2004)
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DOI: 10.1002/ijfe.270

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