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Reserve Volatility and the Identification of Exchange Rate Regimes

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  • Michael Bleaney

    (University of Nottingham)

  • Mo Tian

    (University of Nottingham)

Abstract

Should exchange rate regime classifications be based purely on some measure of exchange rate flexibility, or should such flexibility be judged in proportion to the degree of exchange market pressure (EMP), as reflected in the behaviour of international reserves? Some authors have claimed that the best approach to classifying exchange rate regimes is to estimate to what extent EMP is absorbed in reserve variability rather than exchange rate variability. Empirical evidence is presented on the variability of reserves and exchange rates for 193 countries from 1980 to 2019. Pegged regimes do not display any more reserve volatility than floats. In most regimes there is a small but statistically significant positive correlation between reserve accumulation and exchange rate appreciation in monthly data, but this effect is no stronger in less flexible regimes, where intervention is expected to be greater. A flexibility index is constructed, based on the ratio of exchange rate flexibility to reserve volatility, and is compared to one based solely on exchange rate flexibility by investigating its conformity with the IMF de facto classification. The flexibility index that takes reserves into account does not improve the identification of pegs, but it helps to a limited extent to distinguish free floats from managed floats.

Suggested Citation

  • Michael Bleaney & Mo Tian, 2021. "Reserve Volatility and the Identification of Exchange Rate Regimes," Open Economies Review, Springer, vol. 32(4), pages 701-723, September.
    • Handle: RePEc:kap:openec:v:32:y:2021:i:4:d:10.1007_s11079-021-09617-7
    DOI: 10.1007/s11079-021-09617-7
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    References listed on IDEAS

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