Working Papers N°11: Balance of Payments Crises and Capital Flows: The Role of Liquidity
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Working Papers N°11: Balance of Payments Crises and Capital Flows: The Role of Liquidity
Autor: Ilan Goldfajn , Rodrigo Valdés
Description
A model of external crises is developed focusing on the interaction between liquidity creation by financial intermediaries and foreign exchange collapses. The intermediaries' role of transforming maturities is shown to result in larger movements of capital and a higher probability of crises. This resembles the observed cycle in capital flows: large inflows, crises and abrupt outflows. The model highlights how adverse productivity and international interest rate shocks can be magnified by the behavior of individual foreign investors linked together through their deposits in the intermediaries. An eventual collapse of the exchange rate can link investors' behavior even further.
Working Papers N°11: Balance of Payments Crises and Capital Flows: The Role of Liquidity
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