Working Paper: CEPR ID: DP4030
Authors: Olivier Jeanne
Abstract: This Paper explores the hypothesis that the dollarization of liabilities in emerging market economies is the result of a lack of monetary credibility. I present a model in which firms choose the currency composition of their debts so as to minimize their probability of default. Decreasing monetary credibility can induce firms to dollarize their liabilities, even though this makes them vulnerable to a depreciation of the domestic currency. The channel is different from the channel studied in the earlier literature on sovereign debt, and it applies to both private and public debt. The Paper presents some empirical evidence and discusses policy implications.
Keywords: devaluation; financial crisis; foreign currency debt; liability dollarization; monetary credibility
JEL Codes: F31; F36; G32
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Lack of credibility in domestic monetary policy (E59) | Increased dollarization of liabilities among firms (G32) |
| Increased dollarization of liabilities among firms (G32) | Increased vulnerability to currency depreciation (F31) |
| Lack of credibility in domestic monetary policy (E59) | Increased vulnerability to currency depreciation (F31) |
| Perceived risks associated with domestic currency debts (F34) | Increased dollarization of liabilities among firms (G32) |
| Increased devaluation risk (F31) | Increased dollarization of liabilities among firms (G32) |