Is exchange-market pressure contagious among transition economies?

Abstract

The recent financial crisis led to such macroeconomic turmoil in transition economies that the ability of some countries to maintain their euro pegs was called into question. Others, such as Russia and Ukraine, were forced to devalue their currencies. How likely is it that one country's crisis could spread to its neighbours? To answer this question, monthly indices of Exchange Market Pressure (EMP) are constructed for seven transition economies. Impulse–Response functions and other tests show that Russia is a less likely source of a contagious currency crisis than are smaller, more advanced euro candidates such as Hungary.

Notes

¹ M1 is the narrowest measurement that is available for this time period for the countries n this sample. Due to data limitations, there are two exceptions: M2 is used for Russia (Source: IFS) and ‘Base Money’ is used for Latvia (Source: the Latvian National Bank's web site).

² Lithuania underwent a switch from a dollar peg to a euro peg in 2002; however, an analysis of the EMP components indicates that much of the measure is due to reserve changes.

³ This is true even when the threshold of two SDs is applied. Calculations are available upon request.