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Optimal Renminbi Exchange Rate Policy under Depreciation Anticipation

Author

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  • Mei Li

    (Department of Economics and Finance, University of Guelph, Guelph ON Canada)

Abstract

We establish formal models to study optimal foreign exchange intervention policy for a currency under depreciation pressure when a central bank aims both to discourage speculative capital flows and to reduce exchange rate misalignment. In particular, we study two cases where speculators have complete and incomplete information about the central bank’s long-run equilibrium exchange rate target and arrive at the following results: (1) With complete information, the central bank is better off pre-committing to a specific exchange rate level than deciding it discretionarily. (2) With incomplete information, the central bank cannot credibly reveal its exchange rate target to speculators through “cheap talk”. (3) With incomplete information, any action taken by the central bank will send a signal to speculators about the central bank’s preferences, causing a change in the speculators’ beliefs and subsequently in capital flows.

Suggested Citation

  • Mei Li, 2018. "Optimal Renminbi Exchange Rate Policy under Depreciation Anticipation," Working Papers 1805, University of Guelph, Department of Economics and Finance.
    • Handle: RePEc:gue:guelph:2018-05
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    File URL: http://www.uoguelph.ca/economics/repec/workingpapers/2018/2018-05.pdf
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    More about this item

    Keywords

    foreign exchange intervention; depreciation anticipation; renminbi exchange rate;
    All these keywords.

    JEL classification:

    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • F32 - International Economics - - International Finance - - - Current Account Adjustment; Short-term Capital Movements

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