Financial Crises, Dollarization, and Lending of Last Resort in Open Economies
- (pp. 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.Citation
Bocola, Luigi, and Guido Lorenzoni. 2020. "Financial Crises, Dollarization, and Lending of Last Resort in Open Economies." American Economic Review, 110 (8): 2524-57. DOI: 10.1257/aer.20180830Additional Materials
JEL Classification
- E21 Macroeconomics: Consumption; Saving; Wealth
- E42 Monetary Systems; Standards; Regimes; Government and the Monetary System; Payment Systems
- E44 Financial Markets and the Macroeconomy
- F34 International Lending and Debt Problems
- G01 Financial Crises