Working Paper: NBER ID: w1107
Authors: Joshua Aizenman
Abstract: The purpose of this paper is to determine whether a two-tier exchange rate regime is more effective than a fixed rate regime in increasing acountry's ability to pursue an independent monetary policy in the short run.The analysis compares adjustment to a monetary policy and to a devaluation in the two exchange rate regimes in a portfolio model under imperfect asset substitutability. It is shown that the two policies have in the short run larger effects on interest rates under a two-tier regime. The duration of this effect, however, is longer under a fixed rate regime. The analysis is conducted for the case of static and rational expectations, demonstrating that the above results do not depend on the expectation mechanism.
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JEL Codes: No JEL codes provided
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Monetary injection under a twotier exchange rate regime (F31) | Greater short-run effect on interest rates (E43) |
| Monetary injection under a fixed rate regime (E52) | Longer-lasting effects on interest rates (E43) |
| Devaluation in a twotier regime (F31) | Rates of return on financial assets increase (G19) |
| Rates of return on financial assets increase (G19) | Larger current account surplus (F32) |
| Monetary shocks (E39) | Quicker adjustment towards new equilibrium in twotier regime (D50) |
| Cumulative current account adjustment same under both regimes (F32) | Speed of adjustment greater under twotier regime (F16) |
| Rational expectations (D84) | Mitigate short-run deviations of financial rates from long-run levels (E43) |