the dangers inherent in adjustable peg exchange rate systems. it is still far too early to draw the firm conclusion that the only viable exchange rate regimes, in all circumstances, are a free float on the one hand and a currency board or a monetary union on the other. nevertheless, one common characteristic of the main crises of the recent past – mexico, thailand, indonesia, korea, russia, brazil and, for that matter, my own country sweden – has been that the authorities had adopted a more or less rigid exchange rate regime that ultimately proved to be unsustainable. one clear lesson seems to be that, in many circumstances, once a weak peg comes under fire, defending it is often a losing battle, especially if the exchange rate does not properly reflect the development in the real economy. another drawback to a fixed, but adjustable, peg is that it may stimulate excessive short - term capital inflow and thus in itself generate vulnerability because the central bank is seemingly absorbing the exchange rate risk. against this background, a key question is the appropriate exit strategy to another exchange rate regime or a timely adjustment of the pegged exchange rate should the need arise. an additional insight is that the simultaneous occurrence of foreign exchange rate crises and banking crises is probably the single most important reason why some countries have suffered much deeper recessions when their currency pegs collapsed or came under a severe speculative attack. the contractionary shock to most european countries in 1992 - 93 was clearly much smaller than for sweden and finland in the early 1990s and for mexico in 1995 and asian countries in 1997 - 98. thus, authorities in countries that receive capital inflows should prepare for the day when the movement might reverse. countries that are vulnerable in this regard should carefully consider the adequacy of their foreign exchange reserves, particularly in relation to their short - term external debt. since large numbers of countries cannot build up their reserves by increasing their trade surpluses simultaneously, this would seem to argue for greater use of contingent lending facilities provided by the private sector. given such arrangements, recourse to the new imf contingent credit lines would then add public sector to private sector affirmation that the domestic policies being followed by the borrowing country are sensible and sustainable. … but the international dimension should also be recognised to say that the key to avoiding future crises in emerging markets must be found in domestic reforms is not to deny that part of the solution may still lie in measures that change the way in which international financial markets sometimes operate. while

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