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Stochastic Regime Switching and Stabilizing Policies within Regimes

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  • Lewis, Karen K

Abstract

This paper describes a class of stochastic stabilizing policies within asset price regimes; that can be easily incorporated into the framework of regime switching recently proposed by K. A. Froot and M. Obstfeld. In contrast to previous treatments of market-driven fundamentals within the regime, authorities stochastically counteract movements in these fundamentals before asset prices reach boundary points. This paper describes how the stabilizing intra-regime intervention policies can be used to characterize the behaviour of monetary authorities before fixing an exchange rate, as in the cases studied by R. P. Flood and P. Garber. An intervention policy within target zone bands consistent with empirical evidence is also a member of this class of policies. Furthermore, the stylized features of these intervention policies may be matched to actual data in a natural way. Copyright @ 1996 by John Wiley & Sons, Ltd. All rights reserved.

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  • Lewis, Karen K, 1996. "Stochastic Regime Switching and Stabilizing Policies within Regimes," International Journal of Finance & Economics, John Wiley & Sons, Ltd., vol. 1(2), pages 71-85, April.
    • Handle: RePEc:ijf:ijfiec:v:1:y:1996:i:2:p:71-85
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    1. Robert P. Flood & Peter M. Garber, 1991. "The Linkage Between Speculative Attack and Target Zone Models of Exchange Rates," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 106(4), pages 1367-1372.
    2. Nelson, Daniel B., 1990. "ARCH models as diffusion approximations," Journal of Econometrics, Elsevier, vol. 45(1-2), pages 7-38.
    3. Svensson, Lars E. O., 1991. "Target zones and interest rate variability," Journal of International Economics, Elsevier, vol. 31(1-2), pages 27-54, August.
    4. 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.
    5. Giuseppe Bertola & Lars E. O. Svensson, 1993. "Stochastic Devaluation Risk and the Empirical Fit of Target-Zone Models," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 60(3), pages 689-712.
    6. Paul R. Krugman, 1991. "Target Zones and Exchange Rate Dynamics," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 106(3), pages 669-682.
    7. Bertola, Giuseppe & Caballero, Ricardo J, 1992. "Target Zones and Realignments," American Economic Review, American Economic Association, vol. 82(3), pages 520-536, June.
    8. Froot, Kenneth A. & Obstfeld, Maurice, 1991. "Exchange-rate dynamics under stochastic regime shifts : A unified approach," Journal of International Economics, Elsevier, vol. 31(3-4), pages 203-229, November.
    9. Flood, Robert P & Garber, Peter M, 1983. "A Model of Stochastic Process Switching," Econometrica, Econometric Society, vol. 51(3), pages 537-551, May.
    10. Froot, Kenneth A & Obstfeld, Maurice, 1991. "Stochastic Process Switching: Some Simple Solutions," Econometrica, Econometric Society, vol. 59(1), pages 241-250, January.
    11. Krugman,Paul & Miller,Marcus (ed.), 1992. "Exchange Rate Targets and Currency Bands," Cambridge Books, Cambridge University Press, number 9780521435260.
    12. Mussa, Michael, 1982. "A Model of Exchange Rate Dynamics," Journal of Political Economy, University of Chicago Press, vol. 90(1), pages 74-104, February.
    13. Lewis, Karen K, 1995. "Occasional Interventions to Target Rates," American Economic Review, American Economic Association, vol. 85(4), pages 691-715, September.
    14. Smith, Gregor W, 1991. "Solution to a Problem of Stochastic Process Switching," Econometrica, Econometric Society, vol. 59(1), pages 237-239, January.
    15. Paul Krugman & Marcus Miller, 1992. "Exchange Rate Targets and Currency Bands," NBER Books, National Bureau of Economic Research, Inc, number krug92-1, March.
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    Cited by:

    1. Brandner, Peter & Grech, Harald & Stix, Helmut, 2006. "The effectiveness of central bank intervention in the EMS: The post 1993 experience," Journal of International Money and Finance, Elsevier, vol. 25(4), pages 580-597, June.
    2. repec:onb:oenbwp:y::i:55:b:1 is not listed on IDEAS
    3. Lee, Hsiu-Yun & Lai, Hung-Pin, 2011. "A structural threshold model of the exchange rate under optimal intervention," Journal of International Money and Finance, Elsevier, vol. 30(6), pages 931-946, October.

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    More about this item

    JEL classification:

    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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