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Currency Substitution in Russia

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  • Fridman Alla

    ()

  • Verbetsky Aleksey

    ()

Abstract

Due to high inflation and the lack of financial instruments, the Russian economy is currently highly dollarized. The share of dollars in the total amount of cash circulating in the Russian economy constitutes about 80%. What is the degree of this currency substitution phenomenon? What are the implications of dollarization for the possibility of inflationary financing of the budget deficit and for welfare? These questions are studied by the authors using estimations obtained from the Ramsey – Lucas model, which uses two types of money in the utility function. In this paper, the authors use dynamic money in the utility function model, in which money services are produced both by domestic and foreign money balances, to empirically investigate currency substitution between Russian rubles and U.S. dollars in the Russian economy during the period 1995 to mid 2000. Data supports the hypothesis that foreign currency enters as a variable in the representative consumer's utility function. Our findings indicate considerable currency substitution: most estimates of elasticity of substitution are between 2 and 3. Based on estimated parameters, it is shown that simulated steady state seignorage revenues are close to actual ones for different inflationary periods. The effect of a change in the degree of dollarization on the seignorage/GDP ratio appears to be strong if the economy is highly dollarized. The estimates also demonstrate a sizable welfare impact of inflation and dollarization.

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Bibliographic Info

Paper provided by EERC Research Network, Russia and CIS in its series EERC Working Paper Series with number 01-05e.

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Length: 35 pages
Date of creation: 12 Dec 2001
Date of revision:
Handle: RePEc:eer:wpalle:01-05e

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Postal: EERC Research Network, Russia and CIS, 1, Mazepy Str., suite 202, Kyiv, 01010 Ukraine
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Related research

Keywords: Russia; currency substitution; dollarization; welfare analysis; seignorage;

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Citations

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Cited by:
  1. John Duffy & Maxim Nikitin, 2004. "Dollarization Traps," Econometric Society 2004 Latin American Meetings, Econometric Society 196, Econometric Society.
  2. Georgy Idrisov & Lev Freinkman, 2009. "Modeling the Currency Structure of Bank Deposits: Does the Ratchet Effect Matter?," Working Papers, Gaidar Institute for Economic Policy 0005, Gaidar Institute for Economic Policy, revised 2009.
  3. Olga Aslanidi, 2008. "Dollarization in Transition Economies: New Evidence from Georgia," CERGE-EI Working Papers, The Center for Economic Research and Graduate Education - Economic Institute, Prague wp366, The Center for Economic Research and Graduate Education - Economic Institute, Prague.
  4. William C. Gruben & Darryl McLeod, 2004. "Currency competition and inflation convergence," Center for Latin America Working Papers, Federal Reserve Bank of Dallas 0204, Federal Reserve Bank of Dallas.

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