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Stock Market‐Induced Currency Crises—A New Type of Twins
Author(s) -
Eichler Stefan,
Maltritz Dominik
Publication year - 2011
Publication title -
review of development economics
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 0.531
H-Index - 50
eISSN - 1467-9361
pISSN - 1363-6669
DOI - 10.1111/j.1467-9361.2011.00604.x
Subject(s) - monetary economics , stock market , economics , currency , stock (firearms) , foreign exchange reserves , emerging markets , capital market , stock market bubble , financial system , stock exchange , business , finance , mechanical engineering , paleontology , horse , biology , engineering
This paper explores the link between currency crises and the stock market in emerging economies. By integrating foreign stock market investors in a currency crisis model, we reveal a new fundamental inconsistency as a potential crisis trigger: since emerging economies' stock markets often have high returns, whereas central bank reserves grow slowly or decline, the amount of reserves foreign investors can deplete when selling their stocks and repatriating the proceeds grows over time and is considerably higher than funds that have been invested in the stock market. Capital withdrawals of foreign stock market investors can trigger currency crises by depleting central bank reserves, particularly in successful countries with booming stock markets and large foreign investment.