Identifying currency crises indicators: the case of Egypt

Abstract

Purpose The purpose of this paper is to identify the indicators of currency crises in Egypt. Using the annual data over the period 1977–2017, the paper attempts to establish which economic variable(s) are more useful in predicting currency crises and to improve the predictability of such crises. Design/methodology/approach Probit analysis is employed to identify the indicators that are most effective in predicting the probability that a currency crisis episode will occur. This is enabled through the estimation of a market turbulence index (MTI) which measures currency crises in terms of eight “threshold” points at which a crisis is detected or not detected. Findings The estimates of the probit model suggest that five variables: the domestic interest rate spread; domestic current account; USA interest rate; real exchange rate; and the real interest rate have the strongest predictive power among the 16 indicators identified in the empirical literature. Research limitations/implications There are a number of limitations associated with this paper. First the data are annual and not monthly which limits the ability of the estimated model to accurately predict the crisis episodes. There is limited open access to monthly data on the Central Bank of Egypt website especially for the period before the 2000s. Were such data available this would allow for much more robust in-sample and out of sample forecasts. Practical implications The analysis and results in the paper suggest that the modelling strategy employed represents a potentially useful tool for Central Banks and policy makers in forecasting currency crises. Social implications There are several such implications but mainly in relation to the possibility of avoiding high social costs resulting from a currency crisis that may have been avoided if forecast correctly. Originality/value The paper builds on previous theoretical and empirical work in this field while adding to the literature in terms of the problems in previous literature and modelling approaches. It also strongly advocates the use of the MTI instead of other indices to identify such crises.