Working Paper: CEPR ID: DP1944
Authors: Robert P. Flood; Andrew K. Rose
Abstract: Exchange rate regimes differ primarily by the activity of the exchange rate, not observable macroeconomic ?fundamentals?. Fixed exchange rates are typically stable and floating exchange rates are volatile, but macro phenomena are regime-independent. Fundamentals only seem to be relevant for exchange rates at low frequencies or when inflation is high. A basic task of international finance is explaining these cross-regime differences in exchange rate volatility. The evidence suggests that a switch in exchange rate policy is accompanied by a change in market structure; macroeconomic considerations are superfluous. We formalize this observation in a non-linear model with multiple equilibria.
Keywords: Exchange Rate; Volatility; Macroeconomics
JEL Codes: F33; G15
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| exchange rate regime (fixed) (F33) | exchange rate volatility (stability) (F31) |
| exchange rate regime (floating) (F31) | exchange rate volatility (significant volatility) (F31) |
| macroeconomic fundamentals (E66) | exchange rate volatility (no systematic effect) (F31) |
| exchange rate regime shift (F31) | market structure change (D49) |