Financial Crises

This reference explains one of the causes of financial crises, currency crises, and how fiscal policies play an important role in determining economic outcomes. What are some possible causes of a currency crisis?

Government finances are a key cause of currency crises-but also suffer their effects. Understanding these relationships is crucial to understanding fiscal sustainability.

Recent currency crises have caused severe depreciations of national currencies, even in countries that had budget surpluses or very small deficits before the crises occurred. These depreciations have led some analysts to downplay the role of fiscal policy in causing currency crises. But for several reasons, policymakers should not underestimate the importance of fiscal policy:

  • The realization of large contingent liabilities can quickly and dramatically alter government finances – leading to a currency crisis.
  • The effects of a currency crisis on government finances depend on the structure of government revenue, spending, and debt.
  • The fiscal policies adopted in response to a crisis influence economic outcomes – especially inflation and depreciation.


Source: World Bank, https://openknowledge.worldbank.org/bitstream/handle/10986/11348/multi0page.pdf?sequence=1&isAllowed=y
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