International Monetary Policy and Exchange Rate Dynamics in Dollarized Economies: Evidence from the DR Congo

Wabenga, James Yango and Nlemfu Mukoko, Jean Blaise (2025): International Monetary Policy and Exchange Rate Dynamics in Dollarized Economies: Evidence from the DR Congo.

Abstract

This paper examines the transmission of external monetary disturbances in a highly dollarized small open economy, using the Democratic Republic of Congo (DRC) as a representative case. We develop a tractable open-economy model featuring partial dollarization, incomplete price adjustment, and an endogenous risk premium linked to interest rate differentials. The framework captures the key mechanisms through which foreign financial conditions interact with domestic monetary dynamics. Model simulations indicate that a U.S. interest rate tightening generates an immediate and significant depreciation of the domestic currency, accompanied by rising risk premia and inflationary pressures. Money supply shocks produce amplified exchange rate and price level responses due to weakened real money demand under dollarization, while risk premium shocks generate additional volatility through expectation-driven dynamics. Across all shock types, domestic monetary policy exhibits limited capacity to counteract external disturbances. The results show that dollarization changes how monetary shocks spread by reducing policy independence and increasing the impact of global financial conditions. The analysis provides a quantitative foundation for understanding macroeconomic swings in dollarized economies and indicates that stabilization requires additional tools beyond traditional interest-rate policies.

• Item Type: MPRA Paper
• Language: English
• Keywords: Exchange rate dynamics, dollarization, monetary policy spillovers, Democratic Republic of Congo, commodity prices
• Subjects: E - Macroeconomics and Monetary Economics > E5 - Monetary Policy, Central Banking, and the Supply of Money and Credit > E52 - Monetary Policy; F - International Economics > F3 - International Finance > F31 - Foreign Exchange; F - International Economics > F4 - Macroeconomic Aspects of International Trade and Finance > F41 - Open Economy Macroeconomics; O - Economic Development, Innovation, Technological Change, and Growth > O5 - Economywide Country Studies > O55 - Africa

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