Abstract

The paper calls into question the proposition that currency boards are a solution in preventing currency crisis. On the basis of a “second generation” model, it shows that, in the presence of unemployment persistence, a currency board system can become vulnerable to a currency crisis, as well. The model underlies the role played in triggering the crisis both by expectations of exchange rate realignments and by fundamentals. As the persistence of unemployment has a feedback effect on subsequent periods’ expectations, the credibility of a currency board may decrease over time, eventually inducing a self-fulfilling crisis.

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