The Politics of Delayed Adjustment and Crisis

Why are some policymakers able to adjust their policies in response to deteriorating economic conditions, while other policymakers delay adjustment as long as possible, a policy path that typically ends with an economic crisis? This project examines this question by focusing on the area of exchange-rate policy, where delayed devaluations frequently end with a currency crisis. The project extends my research on exchange-rate politics and analyses how exchange-rate level preferences interact with institutions to shape monetary and exchange-rate policy outcomes. I am particularly interested in explaining time-inconsistencies in exchange-rate policymaking. The project examines how distributional and electoral concerns can create strong incentives for policymakers to delay adjustment as long as possible. I argue that these incentives are particularly strong when voters are very vulnerable to both exchange and interest rate adjustments. Major currency crashes are particularly likely when voters are highly exposed to exchange rate changes but even more vulnerable to internal adjustment policies, and when electoral incentives prevent timely reform. This project was generously funded by the Fritz-Thyssen Foundation.