Aghion, Philippe, Patrick Bolton, and Mathias Dewatripont (1999), “Contagious Bank Failures,” mimeo, University College London, Princeton University and ECARE.
Chang, Roberto and Andres Velasco (1998), “Financial Crises in Emerging Markets: A Canonical Model,” Federal Reserve Bank of Atlanta Working Paper 98-10.
Diamond, Douglas, and Phillip Dybvig (1983), “Bank Runs, Liquidity, and Deposit Insurance,” Journal of Political Economy 91:401-419.
Diamond, Douglas, and Raghuram G. Rajan (1998), “Liquidity Risk. Liquidity Creation and Financial Fragility: A Theory of banking,” mimeo, Graduate School of Business, University of Chicago.
Fischer, Stanley (1999), “On the Need for an International Lender of Last Resort,” Speech Given at the Joint Luncheon of the American Economic Association and the American Finance Association, New York, January 3.
Goldfajan, Ilan and Rodrigo Ο. Valdes (1998), The Twin Crises and the Role of Financial Intermediation, mimeo, International Monetary Fund..
Goodhart, Charles A.E., and Haizhou Huang (1999), “A Model of the Lender of Last Resort,” Working Paper WP/99/39, International Monetary Fund, and FMG Discussion Paper 313, London School of Economics.
Huang, Haizhou, and Chenggang Xu (1998), “Financing Institutions, Financial Contagion, and Financial Crises,” mimeo, International Monetary Fund and London School of Economics.
Morris, Stephen and Hyun Song Shin (1999), “Coordination Risk and the Price of Debt,” mimeo, Yale University and Nuffield College, Oxford.
Prati, Alessandrro and Garry J. Schinasi (1999), “Financial Stability in European Economic and Monetary Union,” Princeton Studies in International Finance, Aug.
Charles A.E. Goodhart is the Norman Sosnow Professor of Banking and Finance at the London School of Economics, and a member of the Monetary Policy Committee, Bank of England. Haizhou Huang is an Economist in the Monetary and Exchange Affairs Department. The authors would like to thank William E. Alexander, Patrick Bolton, Peter B. Clark, Tito Cordelia, Mathias Dewatripont, Edward Frydl, Curzio Giannini, Olivier Jeanne, R. Barry Johnston, Alessandro Prati, and Chenggang Xu for useful conversations and comments. All remaining errors are our own.
This is a simpler mechanism than Huang and Xu (1998), in which the collapse of interbank market is due to the information asymmetry problem in their model.
Why each economy started with a pegged exchange rate is outside our model.
We will stick to the standard deposit contract for the sake of simplicity, although we are aware of some criticisms about the use of such a standard deposit contract.