Early detection models of currency crises in Indonesia based on inflation and interest rates indicators

Abstract

The global crisis that occurred in the middle of 1997 showed that the financial crisis had a huge impact on the Indonesian economy. The crisis happened because of several macroeconomic indicators experienced very high fluctuations that were followed by regime changes. The combination of the Markov regime-switching and volatility models are very suitable to explain high fluctuations and regime changes. The inflation and the interest rates indicators, it was obtained that the best model of those indicators was MRS-AR (2,1) and MRS-GARCH (2,2,0), respectively. The MRS-AR (2,1) model can capture crises from August 1997 to December 1998, while the MRS-GARCH (2,2,0) model can capture crises from January to December 1998. The smoothed probability prediction values of the two models, it could be concluded that Indonesia did not experience a currency crisis in 2019.