ABSTRACT
In an open economy, foreign currencies and capital flows enter the picture. Portfolio capital in particular is highly mobile internationally. Consequently, the optimal portfolio with foreign currencies can be a very delicate equilibrium (section 8.1). In open economies with mobile portfolio capital, the nature and the mechanisms of financial crises are different. The financial crisis is now mainly a currency crisis (section 8.2). A divergence between the nominal and the real exchange rate, occurring simultaneously with a widening current account deficit, can be a signal that the onset of a currency crisis is nearing (section 8.3). Some recent currency crises are surveyed in section 8.4. In the worst case, the currency has be rebased in a currency reform (section 8.5).
