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Dollarization and the conquest of hyperinflation in divided societies

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Author Info
Russell W. Cooper
Hubert Kempf.

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Abstract

This study argues that the delegation of monetary policy control by one country to another can reduce inflation in the delegating country. Hyperinflation is common in a divided society, one in which special interest groups can pressure a weak central government to issue money to finance their own demands while neglecting the country’s overall welfare. A commitment device like dollarization or a currency board, which gives control of the divided country’s money supply to another country, can eliminate this inflation bias. This is illustrated by Argentina’s experience with inflation and a currency board which, in effect, gave control of Argentina’s money supply to the United States. This argument is made precise using a two-country overlapping generations model to study the effects of delegation. The study also finds that a dollarization treaty between the two countries can be welfare-improving for both

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Publisher Info
Article provided by Federal Reserve Bank of Minneapolis in its journal Quarterly Review.

Volume (Year): (2001)
Issue (Month): Sum ()
Pages: 3-12
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Handle: RePEc:fip:fedmqr:y:2001:i:sum:p:3-12:n:v.25no.3

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Keywords: Dollarization;

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References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
  1. Francois R. Velde & Marcelo Veracierto, 2000. "Dollarization in Argentina," Economic Perspectives, Federal Reserve Bank of Chicago, issue Q I, pages 24-37. [Downloadable!]
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  2. Russell Cooper & Hubert Kempf, 1998. "Establishing a Monetary Union," Boston University - Institute for Economic Development 88, Boston University, Institute for Economic Development.
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  3. Lucas, Robert E, Jr, 1973. "Some International Evidence on Output-Inflation Tradeoffs," American Economic Review, American Economic Association, vol. 63(3), pages 326-34, June.
  4. Sebastian M. Saiegh & Mariano Tommasi, 1999. "Why is Argentina’s Fiscal Federalism so Inefficient? Entering the Labyrinth," Journal of Applied Economics, Universidad del CEMA, vol. 0, pages 169-209, May. [Downloadable!]
  5. Kareken, John & Wallace, Neil, 1981. "On the Indeterminacy of Equilibrium Exchange Rates," The Quarterly Journal of Economics, MIT Press, vol. 96(2), pages 207-22, May. [Downloadable!] (restricted)
  6. Aizenman, Joshua, 1992. "Competitive Externalities and the Optimal Seigniorage," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 24(1), pages 61-71, February. [Downloadable!] (restricted)
  7. Sebastian Edwards & Guido Tabellini, 1992. "Explaining Fiscal Policies and Inflation in Developing Countries," NBER Working Papers 3493, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  8. Atish R. Ghosh & Anne-Marie Gulde & Holger C. Wolf, 2000. "Currency boards: More than a quick fix?," Economic Policy, CEPR, CES, MSH, vol. 15(31), pages 269-335, October. [Downloadable!] (restricted)
  9. V. V. Chari & Patrick J. Kehoe, 1998. "On the need for fiscal constraints in a monetary union," Working Papers 589, Federal Reserve Bank of Minneapolis.
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  10. Kydland, Finn E & Prescott, Edward C, 1977. "Rules Rather Than Discretion: The Inconsistency of Optimal Plans," Journal of Political Economy, University of Chicago Press, vol. 85(3), pages 473-91, June. [Downloadable!] (restricted)
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Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Hsing, Y., 2004. "Responses of Argentine Output to Shocks to Monetary Policy, Fiscal Policy and Exchange Rates: A VAR Model," Applied Econometrics and International Development, Euro-American Association of Economic Development, vol. 4(1). [Downloadable!]
  2. Björn Fischer & Petra Köhler & Franz Seitz, 2004. "The demand for euro area currencies," Working Paper Series 330, European Central Bank. [Downloadable!]
  3. V.V. Chari & Larry E. Jones & Ramon Marimon, 2004. "Strategic Delegation in Monetary Unions," Economics Working Papers 842, Department of Economics and Business, Universitat Pompeu Fabra. [Downloadable!]
    Other versions:
  4. Russell Cooper & Hubert Kempf, 2002. "Overturning Mundell: fiscal policy in a monetary union," Staff Report 311, Federal Reserve Bank of Minneapolis. [Downloadable!]
    Other versions:
  5. Cristina Arellano & Jonathan Heathcote, 2007. "Dollarization and financial integration," International Finance Discussion Papers 890, Board of Governors of the Federal Reserve System (U.S.). [Downloadable!]
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  6. V.V. Chari & Patrick J. Kehoe, 2003. "On the desirability of fiscal constraints in a monetary union," Staff Report 330, Federal Reserve Bank of Minneapolis. [Downloadable!]
    Other versions:
  7. Aloisio Araujo & Marcia Leon, 2002. "Speculative Attacks on Debts, Dollarization and Optimum Currency Areas," Working Papers Series 40, Central Bank of Brazil, Research Department. [Downloadable!]
  8. Araújo, Aloísio Pessoa de & Leon, Márcia Saraiva, 2002. "Speculative Attacks on Debts, Dollarization and Optimum Currency Areas," Economics Working Papers (Ensaios Economicos da EPGE) 446, Graduate School of Economics, Getulio Vargas Foundation (Brazil). [Downloadable!]
  9. Cooper, R. & Kempf, H. & Peled, D., 2007. "Regional Debt in Monetary Unions: Is it Inflationary?," Documents de Travail 186, Banque de France. [Downloadable!]
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  10. Owen F. Humpage, 2002. "An incentive-compatible suggestion for seigniorage sharing with dollarizing countries," Policy Discussion Papers, Federal Reserve Bank of Cleveland, issue Jun. [Downloadable!]
  11. Russell Cooper & Hubert Kempf & Dan Peled, 2005. "Is it is or is it ain't my obligation? Regional debt in a fiscal federation," Working Papers 05-07, Federal Reserve Bank of Dallas. [Downloadable!]
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