Oslo Summer School in Comparative Social Science Studies 2004


 

Understanding Financial Crises

Dates: 2. - 6. August 2004

Lecturer: Professor Hyun Song Shin,

London School of Economics , London , United Kingdom

The participants:
Ana Babus, Christian Dahlmann, Tijmen Daniels, Johan Eklund, Manuela Goretti, Aaro Hazak, Kim Massey Heide, Fedor Iskhakov, David Lehrer, Silvestro Lizza, Olga Lustsik, Daniele Mariani, Emmi Martikainen, Hans Olav Melberg, Massimo Molinari, Sergey Morgoulis-Jakoushev, Kadri Männasoo, Gabriela Mundaca, Tembisa Leonorah Nguza, Francisco Ramon-Ballester, Thomas Sattler, Haakon Solheim, Markus Stierli, Jonas Söderberg, Tuomas Takalo, Joachim Thøgersen, Kozo Ueda, Ana Maria Daniela Vasiliu, Ulrich Volz, Yulia Vymyatnina, Stefanie Walter, Daniel Wiberg and Professor Hyun Song Shin.

•  Objectives

This short series of lectures will serve as an introduction to the theory of financial crises, with an emphasis on the analysis of coordination failures. In particular, these lectures will outline the theory and applications of so-called 'global games', first introduced by Carlsson and van Damme. These games incorporate the feature that economic agents' actions are mutually complementary, but that they face some uncertainty about the beliefs of others. Many situations in economics and finance conform to this setting, and is particularly appropriate for the analysis of financial crises. The lectures will aim to outline the diverse world views concerning the origin and propagation of financial crises, as well as the many alternative formalizations even within a broadly similar class of explanations.

•  Basic Reading

The perspective gained from some background in the history of international finance and that of financial crises is very valuable in theoretical work. Barry Eichengreen's book Globalizing Capital (Princeton University Press, 1996) is a useful reference for a brief history of the international financial system over the last two hundred years. Students are urged to obtain and read Eichengreen's book in advance of the course.

•  Lecture Outline and Corresponding Readings

Please find readings marked with � in the booklet privided by Oslo Summer School.

Lecture 1

First Generation Models

Readings:

  • Salant, S. and Henderson D. (1978) "Market Anticipation of Government Policies and the Price of Gold", Journalof Political Economy , Vol. 86, pp. 627-648.
  • Krugman, P. (1979) "A Model of Balance of Payments Crises", Journal of Money, Credit and Banking , Vol. 11, pp. 311-325.

Lecture 2

Second Generation Models

Readings:

  • Obstfeld (1996) "Models of currency Crises with Self-fulfilling Features", European Economic Review , Vol. 40, pp. 1037-1047.
  • Flood, R. and Marion, N. (1998) "Perspectives on the Recent currency Crisis Literature", NBER working paper.

Lecture 3

Introduction to Global Games

Readings:

  • Rubinstein, A. (1989) "The Electronic Mail Game: Strategic Behavior under almost Common Knowledge", American Economic Review , Vol. 79, pp. 385�391.
  • �Morris, S. and Shin, H. S. (1997) "Approximate Common Knowledge andCoordination: Some Lessons from Game Theory", Journal of Logic, Language and Information , Vol. 6, pp. 171-190.
  • Morris, S. and Shin, H. S. (2000) "Rethinking Multiple Equilibria in Macroeconomic Modelling", paper prepared for the NBER Macroeconomics Annual , MIT Press.

Lecture 4

Shape of Strategic Uncertainty

Reading:

  • �Morris, S. and Shin, H. S. (2003) "Measuring Strategic Uncertainty".

Lecture 5

Liquidity Black Holes

Reading

  • � Morris, S. and Shin, H. S (2003) "Liquidity Black Holes".

Lecture 6

Creditor Coordination

Reading:

  • �Morris, S. and Shin, H. S (2004) "Coordination Risk and the Price of Debt", European Economic Review , Vol. 48, pp. 133 -153.

Lecture 7

Catalytic Finance

Reading:

  • � Morris, S. and Shin, H. S (2003) "Catalytic Finance: When Does It Work?"

Lecture 8

Analytics of Sovereign Debt Restructuring

Readings:

  • Gai, P., Hayes, S. and Shin, H. S. (2004) "Crisis costs and debtor discipline: the efficacyof public policy in sovereign debtcrises", Journal of International Economics , Vol. 62, pp. 245-262.
  • �Haldane, A., Penalver, A., Saporta, V. and Shin, H. S. (2003) "The Analytics of Sovereign Debt Restructuring".

Lecture 9

Collective Action Clause Thresholds

Reading:

  • � Haldane, A., Penalver, A., Saporta, V. and Shin, H. S. (2003) "Optimal Collective Action Clause Thresholds".

Lecture 10

Liquidity and Contagion

Reading:

  • �Cifuentes, R., Ferrucci, G. and Shin, H. S. (2003) "Liquidity Risk and Contagion".

Additional Recommended Readings

  • "A Simple Two Player Analysis", notes prepared for the lectures.
  • "Model of Bank Runs", notes prepared for the lectures.
  • Allen, F. and Gale, D. (1998) "Optimal Financial Crises", Journal of Finance , Vol. 53, pp. 1245-1284.
  • Allen, F. and Gale, D. (2000) "Financial Contagion", Journal of Political Economy , Vol. 108, pp. 1- 33.
  • Anderson, R. and Sundaresan, S. (1996) "Design and Valuation of Debt Contracts", Review of Financial Studies , Vol. 9, pp. 37-68.
  • Bank of England (1999) Financial Stability Review , November,
  • Blum, J. and Hellwig, M. (1995) "The Macroeconomic Implications of Capital Adequacy Requirements for Banks", European Economic Review , Vol. 39, pp. 739 - 49.
  • Carlsson, H. and van Damme, E. (1993) "Global Games and Equilibrium Selection.", Econometrica , Vol. 61, pp. 989-1018.
  • Cooper, R. and John, A. (1988) "Coordinating Coordination Failures", Quarterly Journal of Economics , Vol. 103, pp. 441-463.
  • Dasgupta, A. (2000) "Financial Contagion through Capital Connections: A Model of the Origin and Spread of Bank Panics", mimeo, LSE.
  • Diamond, D. and Dybvig, P. (1983) "Bank Runs, Deposit Insurance and Liquidity", Journal of Political Economy , Vol. 91, pp. 401-419.
  • Fischer, S. (1999) "On the Need for an International Lender of Last Resort", IMF document,
  • Flood, R. and Garber, P. (1984) "Collapsing Exchange rate Regimes: Some Linear Examples", Journal of International Economics , Vol. 17, pp. 1-13.
  • Flood, R. and Marion, N. (1998) "Perspectives on the Recent currency Crisis Literature", NBER working paper
  • Goldstein, I. and Pauzner, A. (1999) "Endogenous Probability of Bank Runs in a Rational Expectations Model", mimeo, Tel Aviv University.
  • Goldstein, I. and Pauzner, A. (2000) "Contagion of Self-Fulfilling Financial Crises", mimeo, Tel Aviv University.
  • Hellwig, M. (1994) "Liquidity Provision, Banking and the Allocation of Interest Rate Risk", European Economic Review , Vol. 38, pp. 1363 - 1398.
  • Jones, E., Mason, S. and Rosenfeld, E. (1984) "Contingent Claims Analysis of Corporate Capital Structures: an Empirical Analysis", Journal of Finance , Vol. 39, pp. 611-625.
  • Krugman, P. (1979) "A Model of Balance of Payments Crises", Journal of Money, Credit and Banking , Vol. 11, pp. 311-325.
  • Merton, R. C. (1974) "On the Pricing of Corporate Debt: the Risk Structure of Interest Rates", Journal of Finance , Vol. 29, pp. 449-470, reprinted in Continuous Time Finance , Blackwell, Oxford 1990.
  • Milgrom, P. and Roberts, J. (1990) "Rationalizability, Learning and Equilibrium in Games with Strategic Complementarities", Econometrica , Vol. 58, pp. 1255-1278.
  • Morris, S. and Shin, H. S. (1998) "Unique Equilibrium in a Model of Self-Fulfilling Currency Attacks", American Economic Review , Vol. 88, pp. 587 - 597.
  • Morris, S. and Shin, H. S. (1999) "Coordination Risk and the Price of Debt"
  • Morris, S. and Shin, H. S. (2000) "Rethinking Multiple Equilibria in Macroeconomic Modelling", paper prepared for the NBER Macroeconomics Annual, MIT Press, 2001.
  • Obstfeld (1996) "Models of currency Crises with Self-fulfilling Features", European Economic Review , Vol. 40, pp. 1037-1047.
  • Obstfeld, Maurice and Rogo, Kenneth (1997) Foundations of International Macroeconomics , MIT Press, pp.559 - 566, pp. 648-653.
  • Radelet, S. and Sachs, J. (1998) "The Onset of the East Asian Financial Crisis", mimeo, available on: http://www.hiid.harvard.edu/research/newnote#asia.html .
  • Rubinstein, A. (1989) "The Electronic Mail Game: Strategic Behavior under almost Common Knowledge", American Economic Review , Vol. 79, pp. 385-391.
  • Salant, S. and Henderson, D. (1978) "Market Anticipation of Government Policies and the Price of Gold", Journal of Political Economy , Vol. 86, pp. 627-648.

•  The lecturer

Hyun Song Shin is Professor of Finance at the London School of Economics, affiliated with the Department of Accounting and Finance, Financial Markets Group and the Centre for Economic Performance. He is also Senior Research Fellow of Nuffield College, Oxford.