Contagion and casuality : lessons from the Mexican, Asian, Russian and Brazilian crises

Abstract

Currency crises before the 1990s were considered as events specific and confined to individual countries. However, the 1994 Mexican crisis, 1997 Asian crisis, 1998 Russian crisis and 1999 Brazilian crisis have demonstrated that crises in the 1990s have been very disruptive not only to the crisis-ridden country but also to other countries due to trade, investment and geographical linkages.

This research seeks to explore the changes in the existence and directions of causality of the foreign exchange rate in fourteen Asian and emerging economy countries following the 1994 Mexican crisis, 1997 Asian crisis, 1998 Russian crisis and 1999 Brazilian crisis to draw some inferences on the contagion effect of the currency crises. Data employed in this research is the daily exchange rate against the US dollar for the following currencies: Hong Kong dollar, Japanese yen, South Korean won, Taiwanese new dollar, Chinese renminbi, Indonesian rupiah, Malaysian ringgit, the Philippine peso, Singapore dollar, Thai baht, Argentine peso, Brazilian real, Mexican peso and Russian rouble, over the period of 1994 to 2001. The Augmented-Dickey Fuller unit root test, Engle-Granger cointegration test and Granger causality method are employed in this research.

The results of the Augmented-Dickey Fuller unit root test shows that most of the exchange rate series are non-stationary even with structural break taken into account. For cointegration tests, a number of new long run relationship are found generated by the four major crises investigated especially during 1997 Asian crisis and 1998 Russian crisis.

Comparing across the seven sub-periods, there were already substantial causality relationships among the exchange rate series in the pre-Mexican crisis when the Asian and emerging economies are experiencing significant capital inflows. These causality relationships gradually disappear after the 1994 Mexican crisis but significant changed causality patterns emerged during the 1997 Asian crisis. The 1998 Russian and in particular the 1999 Brazilian crises have further changed the causality relationships especially between Asian and emerging economies exchange rate pairs.