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The Behavior of Real Interest Rates in Exchange-Rate Based Stabilization Programs

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  • Pierre-Richard Agénor
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    Abstract

    This paper examines the behavior of real interest rates in exchange-rate based stabilization programs. The analysis is based on a model with imperfect capital mobility and optimizing agents. A permanent reduction in the devaluation rate is first shown to have an ambiguous effect on real interest rates on impact. The analysis is then extended to consider a stabilization program characterized by an initial reduction in the rate of devaluation of the nominal exchange rate, and the announcement of a future increase in income taxes. The impact effect on real interest rates is shown to depend upon the degree of credibility of the announcement. Real interest rates may fall if agents do not believe that taxes will be raised, and rise if the future tax reform is sufficiently credible.

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    File URL: http://www.imf.org/external/pubs/cat/longres.aspx?sk=746
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    Bibliographic Info

    Paper provided by International Monetary Fund in its series IMF Working Papers with number 94/75.

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    Length: 46
    Date of creation: 01 Jun 1994
    Date of revision:
    Handle: RePEc:imf:imfwpa:94/75

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    Related research

    Keywords: Stabilization programs; Real interest rates; Exchange rates; Economic models; nominal interest rate; bonds; foreign bonds; real money; real interest rate; money stock; inflation; government bonds; domestic bonds; money market; nominal exchange rate; nominal devaluation; discount rate; domestic government bonds; issuance of bonds; foreign currency; present value; domestic interest rates; rational expectations; inflation rate; nominal interest rates; derivative; foreign exchange; real value; high inflation; monetary policy; inflation rates; financial assets; international finance; money supply; partial derivatives; inflationary consequences; reserve requirements;

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    Cited by:
    1. Sergio Rebelo & Carlos A. Vegh, 1995. "Real Effects of Exchange-Rate-Based Stabilization: An Analysis of Competing Theories," NBER Chapters, in: NBER Macroeconomics Annual 1995, Volume 10, pages 125-188 National Bureau of Economic Research, Inc.
    2. Guillermo A. Calvo & Carlos A. Vegh, 1999. "Inflation Stabilization and BOP Crises in Developing Countries," NBER Working Papers 6925, National Bureau of Economic Research, Inc.

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