The middle way between flexible and fixed exchange rates

Deabes, Tosson (2005): The middle way between flexible and fixed exchange rates. Unpublished.

Abstract

This paper addresses Ihe new-orthodox view that the choice of exchange rate regime lias been hollowed out to a choice between the two comer solutions of firmly fixed and more or less freely floating exchange rates. While conceding that both these regimes have an advantage over intermediate regimes in terms of being less vulnerable to crisis, as well as simplifying the policy assignment, it argues that neither a currency board nor a freely floating exchange rate regime is necessarily crisis-free. More important, neither of them offer the potential advantage of a wellmanaged intermediate regime, notably a BBC (basket, band, and crawl) system, of allowing policy to be addressed to limiting exchange rate misalignments. A number of countries with ostensibly floating currencies are revealing by their actions that they prefer an intermediate regime. While such managed floating may be a reasonable compromise given the pressure from the IMF to float, it suffers three potential disadvantages as compared to an articulated BBC regime: it is not transparent, it precludes some types of policy cooperation (such as the use of a common basket peg by a number of countries with strong trade interdependence), and it foregoes the possibility of inducing stabilizing speculation a la Krugman's analysis of target zones. The paper concludes by describing three softer versions of the BBC regime that would be less vulnerable to crises than traditional intermediate regimes: the reference rate proposal, bands with soft margins, and monitoring bands.

• Item Type: MPRA Paper
• Institution: Modern Academy for Computer Sciences & Management Technology
• Language: English
• Keywords: Fixed; BBC regime; Stabilizing analysis; monitoring bands
• Subjects: F - International Economics > F3 - International Finance > F36 - Financial Aspects of Economic Integration; O - Economic Development, Technological Change, and Growth > O1 - Economic Development > O16 - Economic Development: Financial Markets; Saving and Capital Investment; Corporate Finance and Governance

References

1 Balassa, Bela (1964), "The Purchasing Power Parity Doctrine: A Reappraisal", Journal of Political Economy 72.

2 Bartolini, Leonardo, and Alessandro Prati (1997), "Soft versus Hard Targets for Intervention", Economic Policy, April.

3 ____(1998), "Soft Exchange Rate Bands and Speculative Attacks: Theory, and Evidence from the ERM since August 1993", IMF Working Paper 98/156.

4 Calvo, Guillermo A. (2000), "The Case for Hard Pegs", presentation to a conference on "To Dollarize or not to Dollarize" at the North-South Institute in Ottawa on 4-5 October.

5 Calvo, Guillermo A., and Carmen M. Reinhart (2000a), "Fear of Floating". Mimeo. University of Maryland.

6 ____(2000b), "Fixing for Your Life", paper presented to the Brookings Trade forum 2000, "policy Challenges in the Next Century", Washington, 27-28 April.

7 De Long, J. Bradford, Andrei Shleiffer, Lawrence H. Summers, and Robert J. Waldmann (1987), "The Economic Consequences of Noise Traders", NBER Working Paper no. 2395, October.

8 ____(1988), "The Survival of Noise Traders in Financial Markets", NBER Working Paper no. 2715, September.

9 Dornbusch, Rudigcr, and Yung Chul Park (1999). "Flexibility or Nominal Anchors?", in S." Collignon, J. Pisani-Ferry, and Y.C. Park, eds., Exchange Rate Policies in Emerging Asian Economies. New York: Routledge.

10 Ethier, Wilfred, and Arthur I. Bloomfield (1975), Managing the Managed Float, Princeton Essays in International Finance no. 112.

11 Fratzscher, Marcel (1998), "The Impact of Exchange Rate Regimes and Stability on Macroeconomic Performance: An Empirical Analysis", mimeo.

12 Goodhart, Charles, and P.J.R. Delargy (1998), "Financial Crises: Plus ca Change, plus e'est la Meme Chose", International Finance 1(2), 261-87.

13 Jeanne, Olivier, and Andrew Rose (1999), "Noise Trading and Exchange Rate Regimes", NBER Working Paper no. W7104.

14 Krugman, Paul (1991), "Target Zones and Exchange Rate Dynamics", Quarterly Journal of Economics, 106(3), August.

15 Krugman, Paul, and Marcus Miller (1993), "Why Have a Target Zone?",