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The interest rate - exchange rate nexus: exchange rate regimes and policy equilibria

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Author Info

  • Christoph Himmels

    (Department of Economics, University of Exeter)

  • Tatiana Kirsanova

    (Department of Economics, University of Exeter)

Abstract

We study a credible Markov-perfect monetary policy in an open New Keynesian economy with incomplete financial markets. We demonstrate the existence of two discretionary equilibria. Following a shock the economy can be stabilised either 'quickly' or 'slow', both dynamic paths satisfy conditions of optimality and time-consistency. The model can help us to understand sudden change of the interest rate and exchange rate volatility in 'tranquil' and 'volatile' regimes even under a fully credible 'soft peg' of the nominal exchange rate in developing countries.

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File URL: http://people.exeter.ac.uk/cc371/RePEc/dpapers/DP0904.pdf
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Bibliographic Info

Paper provided by Exeter University, Department of Economics in its series Discussion Papers with number 0904.

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Date of creation: 2009
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Handle: RePEc:exe:wpaper:0904

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Postal: Streatham Court, Rennes Drive, Exeter EX4 4PU
Phone: (01392) 263218
Fax: (01392) 263242
Web page: http://business-school.exeter.ac.uk/about/departments/economics/
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Keywords: Small open economy; Incomplete ?nancial markets; Discretionary Monetary policy; Multiple Equilibria;

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Cited by:
  1. Apostolis Philippopoulos & Petros Varthalitis & Vanghelis Vassilatos, 2013. "Optimal Fiscal Action in an Economy with Sovereign Premia and without Monetary Independence: An Application to Italy," CESifo Working Paper Series 4199, CESifo Group Munich.

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