Authors: Paolo Pesenti and Cédric Tille
Two theories of the causes of currency crises prevail in the economic literature. The first traces currency instability to countries' structural imbalances and weak policies; the second identifies arbitrary shifts in market expectations as the principal source of instability. The authors of this article contend that only a synthesis of these theories can capture the complexity of the 1997-98 Asian currency crisis. In their view, the crisis resulted from the interaction of structural weaknesses and volatile international capital markets. The authors also cite two other factors that contributed to the severity of the Asia crisis: inadequate supervision of the banking and financial sectors and the rapid transmission of the crisis across countries linked by trade and common credit sources.