Working Paper: NBER ID: w0833
Authors: Maurice Obstfeld
Abstract: This paper is a highly selective review of our knowledge about the scope for sterilized intervention in foreign exchange markets under alternative exchange-rate regimes. Section I demonstrates the potential importance of simultaneous-equations bias in single-equation econometric studies of the capital-account offset to monetary policy under fixed exchange rates. The empirical record suggests that, in the case of West Germany, sterilization was a feasible short-run monetary strategy in the 1960s. Section II notes that there is considerable recent evidence of imperfect asset substitutability under the managed float. While limited substitution between bonds of different currency denomination is a precondition for the efficacy of sterilized foreign-exchange intervention, it is no guarantee of efficacy. Whether limited substitutability can in fact be exploited in a predictable manner by central banks is a distinct, and unanswered, question.
Keywords: Sterilized Intervention; Exchange Rates; Monetary Policy; Capital Account
JEL Codes: E52; F31
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Domestic credit expansion (E51) | Capital account response (F32) |
| Sterilization (Y40) | Monetary autonomy (E58) |
| Public's expectations regarding future tax liabilities (H29) | Effectiveness of sterilized intervention (C90) |
| Imperfect asset substitutability (G19) | Effective sterilized intervention (C90) |
| Monetary policy actions (E52) | Capital flows (F32) |