This paper analyses the functioning of the European Exchange Rate Mechanism (ERM). To that end, we apply duration models to estimate an augmented target-zone model, explicitly incorporating political and institutional factors into the explanation of European exchange rate policies. The estimations are based on quarterly data of eight currencies participating in the ERM, covering the complete history of the European Monetary System. Our results suggest that both economic and political factors are important determinants of the ERM currency policies. Concerning economic factors, the money supply, the real exchange rate, the interest in Germany and the central parity deviation would have negatively affected the duration of a given central parity, while credibility and the price level in Germany would have positively influenced such duration. Regarding political variables, elections, central bank independence and left-wing administrations would have increased the probability of maintaining the current regime, while unstable governments would have been associated with more frequent regime changes. Moreover, we show how the political augmented model outperforms, both in terms of explanatory power and goodness of fit, the model which just incorporates pure economic determinants.
Download Info
To download:
If you experience problems downloading a file, check if you have the
proper application to
view it first. Information about this may be contained
in the File-Format links below. In case of further problems read
the IDEAS help
page. Note that these files are not on the IDEAS
site. Please be patient as the files may be large.
Publisher Info
Paper provided by Spanish Chapter of the International Economics and Finance Society in its series Working Papers with number
07-05.
Did you know? You can include your works in the database easily by uploading them on the Munich Personal RePEc Archive (MPRA) if you do not have access to an institutional RePEc archive.