5 Conclusions

1. This chapter studied two types of crises. In one, the crisis is driven by unsustainable fiscal policies. In the other, imperfect commitment to a peg can induce speculative attacks.

2. Can We Prevent Crises?
Suggested solutions:
a. Use capital controls to limit speculation. But this deprives the economy of the benefits of international capital markets, and may not be effective in stopping the crisis.
b. Don’t use intermediate regimes. Either float or use rigidly fixed rates (like a currency board).
c. On one extreme, float. But there are some benefits to fixed rates, and developing economies are afraid of floating.
d. On the other extreme, use hard pegs (like Hong Kong). But any peg can be broken.
e. Improve institutions of macroeconomic policymaking and financial markets to minimize risks to pegged rates.
f. Use the IMF as a lender of last resort. But the IMF can be a demanding task master.
g. If none of these are feasible, accumulate reserves as a buffer stock for times of crisis.

Fixed exchange rates exhibit no signs of disappearing. Despite all their potential benefits, however, history shows another persistent feature—the recurrent crises that mark the collapse of fixed regimes.

In this chapter, we studied two kinds of crises. Adverse fiscal conditions can send the money supply out of control. And changes in the real economy can weaken the commitment to a peg. Expectations matter in each case—shifts in investor sentiment can make the crises occur “sooner” (i.e., when economic fundamentals are better), leading to worries that some crises are an unnecessary and undeserved punishment.

Can We Prevent Crises?

Use the following bullet points to guide class discussion about this qurestion.

With these insights, we can now confront the major policy problem: How can these crises be prevented? A number of solutions have been proposed that merit mention:

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After what happened in 1997, some Asian countries may not turn to the IMF again—and with their reserve accumulation, they may not need to.
AP Photo/Hun Jai-hyaung

These two are subsets of the preceding one.