Type
Working paper
Title
Destabilizing carry trades
Author(s)
PLANTIN Guillaume - Département d'économie (Author)
SHIN Hyun Song - Princeton University (Author)
Keywords
Currency Carry Trades, Inflation Targeting, Financial Instability
Abstract
EN
We offer a model of currency carry trades in which carry traders generate self-sustained excess returns if they coordinate on supplying excessive capital to a target economy. The interest-rate differential between their funding currency and the target currency is their coordination device. Such self-fulfilling pro table currency trades arise when the central bank of the target economy ignores the impact of carry-trade in flows on domestic asset prices, and responds only to their effect on inflation. We solve for a unique equilibrium that exhibits the classic pattern of the carry-trade recipient currency appreciating for extended periods, punctuated by sharp falls.

BIBLIOGRAPHIC QUOTE
EXPORT