Contagion Phenomena in Financial Crises: Evidence from the Portuguese and Spanish Exchange Rate Crises in the Early 1990s

Based on the experience of the Portuguese and Spanish financial crises in the early 1990s, this paper suggests that the spillover of exchange rate crises may reveal a particular dimension of the financial contagion effect: the presumption of mimetic behaviour by monetary authorities. This paper analyses the evolution of the credibility of the Escudo and the Peseta. We set out to test the existence of a contagion effect: that is, in what way does the polarization of exchange rate expectations in a scenario of devaluation of one currency explain the building up of a similar scenario for the other currency? We also examine the transmission mechanisms of such a scenario. Our results suggest the existence of a one-way contagion effect, of the Escudo by the Peseta. Speculative attacks against the Peseta necessarily give rise to speculative attacks against the Escudo, regardless of the evolution of the ‘fundamentals’ of the Escudo. In this case, the spillover I’m grateful to two anonymous referees and to V. Mendes for valuable comments on an earlier version of this paper. The usual disclaimer applies. r Blackwell Publishing Ltd. 2003, 9600 Garsington Road, Oxford OX4 2DQ, UK and 350 Main Street, Malden, MA 02148, USA International Finance 6:2, 2003: pp. 201–225