Working Paper: CEPR ID: DP1646
Authors: Philippe Martin
Abstract: This paper analyses how country size affects exchange rate policy and volatility. A hump-shaped relation between exchange rate variability and the size of countries is generated in the theoretical model: exchange rate variability increases with country size for small countries, but then decreases for large countries. The paper finds that this theoretical prediction holds well for bilateral exchange rates of the OECD countries for the period 1980?95 as well as for a subsample of European exchange rates with respect to the dollar. The results suggest that dollar/euro volatility should be lower than the present dollar/Deutsche Mark volatility, but that the decrease may depend significatively on the size and composition of EMU.
Keywords: exchange rate instability; country size; european monetary integration
JEL Codes: F33; F41; F42
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| size of Economic and Monetary Union (EMU) (F36) | volatility of dollar-euro exchange rate (F31) |
| size of Economic and Monetary Union (EMU) (F36) | exchange rate stability (F31) |
| country size (R12) | strategic monetary policy manipulation (E52) |
| strategic monetary policy manipulation (E52) | exchange rate stability (F31) |
| country size (R12) | exchange rate variability (F31) |