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Why exchange rate bands? : Monetary independence in spite of fixed exchange rates

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  • E.O. Svensson, Lars

Abstract

The paper argues that real world fixed exchange rate regimes usually have finite bands instead of completely fixed exchange rates between realignments because exchange rate bands, contrary to the textbook result, give central banks some monetary independence even with free international capital mobility. The nature and amount of monetary independence is specified, informally and in a formal model, and quantified with Swedish krona data. The amount of monetary independence thus achieved appears sizeable. For instance, an increase in the Swedish krona band from zero to about +2% may reduce the krona interest rate's standard deviation by about 1/2.

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Bibliographic Info

Article provided by Elsevier in its journal Journal of Monetary Economics.

Volume (Year): 33 (1994)
Issue (Month): 1 (February)
Pages: 157-199

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Handle: RePEc:eee:moneco:v:33:y:1994:i:1:p:157-199

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Web page: http://www.elsevier.com/locate/inca/505566

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References

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  1. Miller, Marcus & Weller, Paul, 1991. "Exchange Rate Bands with Price Inertia," Economic Journal, Royal Economic Society, vol. 101(409), pages 1380-99, November.
  2. Lars E. O. Svensson, 1990. "Target Zones and Interest Rate Variability," IMF Working Papers 90/31, International Monetary Fund.
  3. Krugman, Paul & Miller, Marcus, 1993. "Why have a target zone?," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 38(1), pages 279-314, June.
  4. Goodfriend, Marvin, 1987. "Interest rate smoothing and price level trend-stationarity," Journal of Monetary Economics, Elsevier, vol. 19(3), pages 335-348, May.
  5. Goodfriend, Marvin, 1991. "Interest rates and the conduct of monetary policy," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 34(1), pages 7-30, January.
  6. Andrew K. Rose & Lars E.O. Svensson, 1995. "Expected and Predicted Realignments: The FF/DM Exchange Rate During the EMS," NBER Working Papers 3685, National Bureau of Economic Research, Inc.
  7. Bertola, Giuseppe & Svensson, Lars E O, 1991. "Stochastic Devaluation Risk and the Empirical Fit of Target Zone Models," CEPR Discussion Papers 513, C.E.P.R. Discussion Papers.
  8. Willem H. Buiter & Richard C. Marston, 1985. "International Economic Policy Coordination," NBER Books, National Bureau of Economic Research, Inc, number buit85-1, May.
  9. Flood, Robert P. & Rose, Andrew K. & Mathieson, Donald J., 1991. "An empirical exploration of exchange-rate target-zones," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 35(1), pages 7-65, January.
  10. Gilles Oudiz & Jeffrey Sachs, 1985. "International Policy Coordination In Dynamic Macroeconomic Models," NBER Chapters, in: International Economic Policy Coordination, pages 274-330 National Bureau of Economic Research, Inc.
  11. Lindbecg, H. Soderlind, P., 1992. "Target Zone Models and the Intervention Policy; The Swedish Case," Papers 496, Stockholm - International Economic Studies.
  12. Beetsma, R.M.W.J. & Ploeg, F. van der, 1992. "Exchange rate bands and optimal monetary accomodation under a dirty float," Discussion Paper 1992-13, Tilburg University, Center for Economic Research.
  13. Sutherland, Alan, 1995. "Monetary and real shocks and the optimal target zone," European Economic Review, Elsevier, vol. 39(1), pages 161-172, January.
  14. Paul R. Krugman, 1988. "Target Zones and Exchange Rate Dynamics," NBER Working Papers 2481, National Bureau of Economic Research, Inc.
  15. Ben Bernanke & Frederic Mishkin, 1993. "Central Bank Behavior and the Strategy of Monetary Policy: Observations From Six Industrialized Countries," NBER Working Papers 4082, National Bureau of Economic Research, Inc.
  16. Paul Krugman & Marcus Miller, 1992. "Exchange Rate Targets and Currency Bands," NBER Books, National Bureau of Economic Research, Inc, number krug92-1, May.
  17. Backus, David & Driffill, John, 1986. "The Consistency of Optimal Policy in Stochastic Rational Expectations Models," CEPR Discussion Papers 124, C.E.P.R. Discussion Papers.
  18. Hans Lindberg & Lars E.O. Svensson & Paul Soderlind, 1991. "Devaluation Expectations: The Swedish Krona 1982-1991," NBER Working Papers 3918, National Bureau of Economic Research, Inc.
  19. Daniel Gros, 1990. "Stabilization Policy with Bands," IMF Working Papers 90/49, International Monetary Fund.
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