International Overborrowing: A Decomposition of Credit and Currency Risks

Ronald McKinnon and Huw Pill

Working Papers from Stanford University, Department of Economics

Abstract: February 1998

The severity of the financial crises enveloping the ‘tiger’ economies of South East Asia in 1997 came as a surprise to many observers. This paper uses a simple Fisherian model of the ‘overborrowing syndrome’ to compare the Asian crises of 1997 with earlier overborrowing episodes in Mexico and Chile. While important similarities exist, the crises in South East Asia have been exacerbated by the unhedged foreign exchange positions of Asian banks. These open currency positions not only imposed significant additional losses on the banks following devaluation, they also magnified the scale of overborrowing during the cycle’s initial boom phase. Failure to limit the exposure of banks to foreign exchange risk therefore increased the magnitude of the boom - bust overborrowing cycle both ex ante and ex post. The paper highlights the importance of effective regulation and supervision of capital markets, with a focus on limiting the speculative currency positions of banks, especially those that form the core of the domestic payments system and therefore enjoy a (possibly implicit) public guarantee. Improving the institutional infrastructure of financial supervision is the only effective way of mitigating the macroeconomic costs of overborrowing.

JEL Classification: O16, F32, F34, E44.

Keywords: Overborrowing, capital flows, financial crises, sectoral credit.

Keywords: Overborrowing; capital flows; financial crises; sectoral credit (search for similar items in EconPapers)
JEL-codes: E44 F32 F34 O16 (search for similar items in EconPapers)
Date: 1998-02
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (68)

Downloads: (external link)
http://www-econ.stanford.edu/faculty/workp/swp98004.pdf (application/pdf)
Our link check indicates that this URL is bad, the error code is: 404 Not Found (http://www-econ.stanford.edu/faculty/workp/swp98004.pdf [301 Moved Permanently]--> https://www-econ.stanford.edu/faculty/workp/swp98004.pdf [307 Temporary Redirect]--> https://economics.stanford.edu//faculty/workp/swp98004.pdf)

Related works:
Journal Article: International Overborrowing: A Decomposition of Credit and Currency Risks (1998)
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:wop:stanec:98004

Access Statistics for this paper

More papers in Working Papers from Stanford University, Department of Economics Contact information at EDIRC.
Bibliographic data for series maintained by Thomas Krichel ().