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“Incentives from Exchange Rate Regimes in an Institutional Context"

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  • Ashima Goyal

    (Indira Gandhi Institute of Development Research)

Abstract

In a simple open EME macromodel, calibrated to the typical institutions and shocks of a densely populated emerging market economy, a monetary stimulus preceding a temporary supply shock can lower interest rates, raise output, appreciate exchange rates, and lower inflation. Simulations generalize the analytic result with regressions validating the parameter values. Under correct incentives, such as provided by a middling exchange rate regime, which imparts limited volatility to the nominal exchange rate around a trend competitive rate, forex traders support the policy. The policy is compatible with political constraints and policy objectives, but analysis of strategic interactions brings out cases where optimal policy will not be chosen. Supporting institutions are required to coordinate monetary, fiscal policy and markets to the optimal equilibrium. The analysis contributes to understanding the key issues for countries such as India and China that need to deepen markets in order to move to more flexible exchange rate regimes.

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Bibliographic Info

Paper provided by East Asian Bureau of Economic Research in its series Macroeconomics Working Papers with number 22370.

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Date of creation: Jan 2005
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Handle: RePEc:eab:macroe:22370

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Related research

Keywords: exchange rate; hedging; supply shocks; EMEs; incentives; politics;

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References

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  1. Ashima Goyal & A. K. Jha, 2005. "Dictatorship, Democracy and Institutions: Macropolicy in China and India," Working Papers id:264, eSocialSciences.
  2. Robert H. Bates & Avner Greif & Margaret Levi & Jean-Laurent Rosenthal, 1998. "Analytic Narratives," Economics Books, Princeton University Press, Princeton University Press, edition 1, volume 1, number 6355.
  3. Bhattacharya, Utpal & Weller, Paul, 1997. "The advantage to hiding one's hand: Speculation and central bank intervention in the foreign exchange market," Journal of Monetary Economics, Elsevier, Elsevier, vol. 39(2), pages 251-277, July.
  4. Goyal, Ashima, 2002. "Coordinating monetary and fiscal policies: a role for rules?," MPRA Paper 29200, University Library of Munich, Germany.
  5. Goyal, Ashima & Pujari, Ayan Kumar, 2005. "Identifying long run supply curve of India," MPRA Paper 24021, University Library of Munich, Germany.
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