David Levine on @paulkrugman forgetting his own paper on financial crises despite rational expectations and efficient markets
15 Aug 2019 Leave a comment
Why Greece joined the Euro
06 Jul 2015 Leave a comment
in applied price theory, applied welfare economics, budget deficits, business cycles, comparative institutional analysis, constitutional political economy, currency unions, economic growth, economic history, Euro crisis, fiscal policy, fisheries economics, global financial crisis (GFC), international economics, macroeconomics, Public Choice, rentseeking Tags: Euro sclerosis, Greece, insurance attacks, sovereign defaults, speculative attacks
The roots of Greece’s crisis are simple. Before Greece joined the Eurozone, investors treated it as a middle-income country with poor governance — which is to say, a credit risk.
After Greece joined the Eurozone, investors thought that Greece was no longer a credit risk — they figured, if push came to shove, other Eurozone members like Germany would bail Greece out. They were wrong.
Michael Dooley put forward a theory of speculative attacks on currencies as insurance attacks on currencies for emerging markets after the East Asian financial crisis:
First generation models of speculative attacks show that apparently random speculative attacks on policy regimes can be fully consistent with rational and well-informed speculative behaviour.
Unfortunately, models driven by a conflict between exchange rate policy and other macroeconomic objectives do not seem consistent with important empirical regularities surrounding recent crises in emerging markets. This has generated considerable interest in models that associate crises with self-fulfilling shifts in private expectations.
In this paper we develop a first generation model based on an alternative policy conflict. Credit constrained governments accumulate reserve assets in order to self-insure against shocks to national consumption. Governments also insure poorly regulated domestic financial markets.
Given this policy regime, a variety of internal and external shocks generate capital inflows to emerging markets followed by successful and anticipated speculative attacks.
We argue that a common external shock generated capital inflows to emerging markets in Asia and Latin America after 1989. Country specific factors determined the timing of speculative attacks. Lending policies of industrial country governments and international organizations account for contagion, that is, a bunching of attacks over time.
His model was not within the context of a currency union but his basic theory is correct.
There are speculative attacks on a currency or a bank run after foreign markets revises their estimates of the available central bank reserves and international lines of credit to bail out the banking systems and/or foreign debt.
Michael Dooley was dealing with the emerging economies of Southeast Asia and their official lines of credit that insure their foreign exchange liabilities and domestic banking system. Greece is about lines of credit for similar purposes to other European union member states.
via 12 charts and maps that explain the Greek crisis – Vox and The Most Important Graphs of 2011 – The Atlantic.
Utopia, you are standing in it! 
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