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External discipline and financial stability

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The paper examines the costs and benefits of external discipline (dollarization, foreign short-term debt) from the point of view of the stability of the financial system of an emergent/LDC economy. External discipline solves the time-inconsistency problem of central bank policy to help banks in trouble but at the cost of excessive liquidation of projects. The latter may be quite important when the danger of coordination failure of investors is large.

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