Exchange-Rate-Based Stabilization under Imperfect Credibility

Abstract

This ¡s u working paper and the author would welcome any comments on the present text. Citations should reter to an unpublished manuscript, mentioning the author und the date of issuance by the International Monetary Fund. The views expressed are those of the author and do not necessarily represent those of the Fund.

An empirical assessment of currency devaluation in East Asian countries

“…Sharp changes in oil prices or capital flows may drive both income and the real exchange rate in opposite directions. In several Latin American countries, exchange rate-based stabilization was a main cause of large capital flows leading to a temporary boom and real appreciation and, as a result, a negative correlation in the two variables (Kiguel and Liviathan, 1992;Calvo and Vegh, 1993). It is thus important to control for macroeconomic conditions and to separate exchange rate changes that may be classified as exogenous policy shocks from those that are reactions to macroeconomic events.…”

Sticky inflation and the real effects of exchange rate-based stabilization

“…Dornbusch and Werner (1994) in the context of Mexico's 1988-94 ERBS plan. By contrast, if price setting is thought to be completely forward looking and expectations rational, and the continued momentum of inflation is explained by the lack of credibility of the exchange rate peg, as in Calvo and Végh (1993), then the preferred policy is to enhance credibility by committing more strongly to the peg-a policy that is at odds with the alternative advice of gradualism or corrective devaluations. This paper follows a two-pronged approach to assess the validity of the imperfect credibility versus sticky-inflation based explanations in matching the stylized facts of ERBS.…”

Interest-rate rules and transitional dynamics in an endogenously growing open economy

“…Indeed, the central bank's policy often involves some kind of credibility problem and it has also received a considerable amount of attention in the literature (see, for instance, Calvo, 1986;Drazen and Helpman, 1988;Calvo and Végh, 1993;Calvo and Drazen, 1998;Lahiri, 2000Lahiri, , 2001 There is a typical example in this context which is that the authorities in many countries often overstate the intended growth target and hence modify their announced policy in the future. This leads the authorities to a loss of credibility with respect to their disposition or ability to commit to their previously announced policies, and thereby gives rise to the imperfect credibility problem.…”

“…In line with Calvo (1986) and Drazen and Helpman (1988), the framework with imperfect credibility of the monetary authority is analyzed. We point out that the economy can enjoy higher growth during the entire transition if the commitment in regard to the growth target policy is imperfectly credible.…”