The effectiveness of fiscal and monetary policy responses to twin crises

We study how effective fiscal and monetary policy responses are during a twin crisis. Using the dataset provided by Laeven and Valencia (2008), we identify 57 episodes of twin crises. Following the methods proposed in Baldacci <italic>et al</italic>. (2009) and Hutchison <italic>et al</italic>. (2010), we construct the variables measuring the duration and output cost of a twin crisis. We find that fiscal policy does not seem to be associated with the shortening of a twin crisis. Regarding monetary policy, we find that monetary tightening is associated with the lengthening of a twin crisis duration, consistent with the result in Hutchison <italic>et al</italic>. (2010) dealing with a sudden stop crisis. In addition, our results show that while a mild monetary expansion is effective in reducing a twin crisis duration, over-expansionary monetary policy loses its effectiveness.