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The Art of Gracefully Exiting a Peg

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  • Ahmet Asici

    (Graduate Institute of International Studies)

  • Charles Wyplosz

    (Graduate Institute of International Studies and CEPR)

Abstract

The wave of liberalization of capital movements, which swept Europe in the 1980s and the emerging market countries in the 1990s, has given rise to the two-corner strategy. According to this view only two exchange rate regimes are sustainable: hard pegs and fully flexible rates. Soft pegs in the middle are seen as doomed, open to irresistible and unpredictable speculative attacks and historical evidence shows clearly that increasing number of countries have exited the soft middle ground, mostly towards the flexible end of the spectrum. However, not all the exits from hard pegs to flexible arrangements are happy. Most countries hesitate to leave the peg when it is working properly, and consider exit option only when they are facing speculative pressure, and then it often is too late. This paper aims to analyze the factors contributing to peaceful exits, that is exiting without a significant loss in the value of the domestic currency. It seeks to find conditions that need to be satisfied to ensure an exit without significant economic costs. Historical record of exchange rate classification comes from Reinhart and Rogoff's path-breaking study on this subject, where they classified regimes on the basis of observed, de facto, currency movements rather than the announced, de jure, official rates. Some interesting results we have found may be put as follows: Cold-blooded exits enacted when the macroeconomic conditions are favorable, that is countries planning to leave a peg are advised to do it when it is least necessary and least expected. Another surprising result is that, efficient and deep financial markets do not help with exits. Countries encouraged to exit pegs before they fully liberalize their financial account and deepen their markets. The study covers the period 1975-2001. Our choice criteria provide 55 cases of exits, 27 of which is peaceful and the rest 28 cases troubled ones. We estimate non-structural probit models with monthly and annual data.

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Bibliographic Info

Article provided by Economic and Social Studies in its journal Economic and Social Review.

Volume (Year): 34 (2003)
Issue (Month): 3 ()
Pages: 211–228

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Handle: RePEc:eso:journl:v:34:y:2003:i:3:p:211-228

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References

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  1. Sergio Rebelo & Carlos A. Vegh, 2006. "When Is It Optimal to Abandon a Fixed Exchange Rate?," NBER Working Papers 12793, National Bureau of Economic Research, Inc.
  2. Jeffrey A. Frankel & Andrew K. Rose, 1996. "Currency crashes in emerging markets: an empirical treatment," International Finance Discussion Papers 534, Board of Governors of the Federal Reserve System (U.S.).
  3. Reinhart, Carmen & Rogoff, Kenneth, 2004. "The modern history of exchange rate arrangements: A reinterpretation," MPRA Paper 14070, University Library of Munich, Germany.
  4. Guillermo A. Calvo & Carmen M. Reinhart, 2002. "Fear Of Floating," The Quarterly Journal of Economics, MIT Press, vol. 117(2), pages 379-408, May.
  5. Favero, Carlo A. & Giavazzi, Francesco, 2002. "Is the international propagation of financial shocks non-linear?: Evidence from the ERM," Journal of International Economics, Elsevier, vol. 57(1), pages 231-246, June.
  6. Levine, Ross, 1992. "Financial structures and economic development," Policy Research Working Paper Series 849, The World Bank.
  7. Roberto Chang & Andrés Velasco, 2000. "Liquidity Crises in Emerging Markets: Theory and Policy," NBER Chapters, in: NBER Macroeconomics Annual 1999, Volume 14, pages 11-78 National Bureau of Economic Research, Inc.
  8. Barry J. Eichengreen & Inci Ötker & A. Javier Hamann & Esteban Jadresic & R. B. Johnston & Hugh Bredenkamp & Paul R. Masson, 1998. "Exit Strategies," IMF Occasional Papers 168, International Monetary Fund.
  9. Roberto Rigobon, 1999. "On the Measurement of the International Propagation of Shocks," NBER Working Papers 7354, National Bureau of Economic Research, Inc.
  10. Graciela L. Kaminsky & Carmen M. Reinhart, 1996. "The twin crises: the causes of banking and balance-of-payments problems," International Finance Discussion Papers 544, Board of Governors of the Federal Reserve System (U.S.).
  11. Beck, T.H.L. & Demirgüç-Kunt, A. & Levine, R., 2000. "A new database on financial development and structure," Open Access publications from Tilburg University urn:nbn:nl:ui:12-3125518, Tilburg University.
  12. Stanley Fischer, 2001. "Exchange Rate Regimes: Is the Bipolar View Correct?," Journal of Economic Perspectives, American Economic Association, vol. 15(2), pages 3-24, Spring.
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Citations

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Cited by:
  1. Ahmet Asici; Nadezhda Ivanova; Charles Wyplosz, 2005. "How to Exit From Fixed Exchange Rate Regimes?," IHEID Working Papers 03-2005, Economics Section, The Graduate Institute of International Studies.
  2. Ahmed Atil Asici, 2008. "Parametric and Non-Parametric Approaches to Exits from Fixed Exchange Rate Regimes," Working Papers 401, Economic Research Forum, revised May 2008.
  3. M. Frömmel, 2007. "Volatility Regimes in Central and Eastern European Countries’ Exchange Rates," Working Papers of Faculty of Economics and Business Administration, Ghent University, Belgium 07/487, Ghent University, Faculty of Economics and Business Administration.
  4. Hans Genberg & Alexander K. Swoboda, 2005. "Exchange Rate Regimes: Does What Countries Say Matter?," IMF Staff Papers, Palgrave Macmillan, vol. 52(si), pages 8.
  5. Sébastien Wälti, 2005. "The duration of fixed exchange rate regimes," Trinity Economics Papers 2000518, Trinity College Dublin, Department of Economics.
  6. Sfia, Mohamed Daly, 2007. "Régimes de change: Le chemin vers la flexibilité," MPRA Paper 4085, University Library of Munich, Germany.
  7. Enrica Detragiache & Eisuke Okada & Ashoka Mody, 2005. "Exits From Heavily Managed Exchange Rate Regimes," IMF Working Papers 05/39, International Monetary Fund.
  8. Gerlach-Kristen, Petra, 2006. "Internal and external shocks in Hong Kong: Empirical evidence and policy options," Economic Modelling, Elsevier, vol. 23(1), pages 56-75, January.
  9. Lin, Shu & Ye, Haichun, 2011. "The role of financial development in exchange rate regime choices," Journal of International Money and Finance, Elsevier, vol. 30(4), pages 641-659, June.
  10. Sean Barrett, 2005. "Risk Equalisation and Competition in the Irish Health Insurance Market," Trinity Economics Papers 200058, Trinity College Dublin, Department of Economics.
  11. Emilija Beker, 2006. "Exchange rate arrangements from extreme to normal," Panoeconomicus, Savez ekonomista Vojvodine, Novi Sad, Serbia, vol. 53(1), pages 31-49, March.
  12. repec:tcd:wpaper:tep8 is not listed on IDEAS
  13. Bersch, Julia & Klüh, Ulrich H., 2007. "When countries do not do what they say: Systematic discrepancies between exchange rate regime announcements and de facto policies," Discussion Papers in Economics 2072, University of Munich, Department of Economics.
  14. Gilda Fernandez & Cem Karacadag & Rupa Duttagupta, 2004. "From Fixed to Float," IMF Working Papers 04/126, International Monetary Fund.
  15. Pierre-Richard Agenor, 2004. "Orderly exits from adjustable pegs and exchange rate bands," Journal of Economic Policy Reform, Taylor & Francis Journals, vol. 7(2), pages 83-108.

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