Working Paper: NBER ID: w0472
Authors: Rudiger Dornbusch
Abstract: This paper investigates the adjustment process to a reduction in the rate of credit creation in an open, flexible exchange rate economy. The framework of analysis is one of rational expectations with respect to interest rates, inflation and depreciation. The special feature of the model is the role of exchange market intervention and the resulting endogeneity of the money stock. The model is of empirical interest because of the growing experience in countries such as Israel, Spain or Argentina with th fact that monetary disinflation rapidly leads to real appreciation, unemployment and money creation induced by exchange market intervention. With capital flows and induced money creation threatening attempts at stabilization, there is a need to understand the relationship between intervention and inflation.
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Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Reduction in the rate of credit creation (E51) | Real appreciation (Y60) |
| Reduction in the rate of credit creation (E51) | Increased unemployment (J64) |
| Monetary growth driven by intervention (O42) | Expansion of monetary growth (O42) |
| Absence of intervention (I12) | Immediate appreciation of the exchange rate (F31) |
| Absence of intervention (I12) | Rise in unemployment (F66) |
| Reduction in credit creation (E51) | Lower inflation in the long run (E31) |
| Reduction in credit creation (E51) | Depreciation in the long run (D25) |
| Initial conditions (Y20) | Subsequent economic adjustments (F32) |