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Riding the Wave: Monetary Responses to Aid Surges in Low-Income Countries

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  • Christopher Adam

Abstract

We focus on the management of highly persistent shocks to aid flows, including HIPC or MDG-related increases in net flows, in the presence of currency substitution by the domestic private sector. Such shocks have beneficient long-run effects, but when currency substitution is high they can produce dramatic macroeconomic management problems in the short run. What is the appropriate mix of money and exchange rate targeting in such cases, and the role of temporary sterilization? We analyze these and related issues in an intertemporal optimizing model that allows a portion of aid to be devoted to reducing the government`s seigniorage requirement. Our results argue that a managed float, with little or no sterilization of increases in the monetary base, is the most attractive approach.

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Bibliographic Info

Paper provided by University of Oxford, Department of Economics in its series Economics Series Working Papers with number WPS/2006-04.

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Date of creation: 01 Jan 2006
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Handle: RePEc:oxf:wpaper:wps/2006-04

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Keywords: Aid; Sterilization; Currency substitution; Seigniorage; Africa;

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References

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  1. Craig Burnside & Domenico Fanizza, 2004. "Hiccups for HIPCs?," NBER Working Papers 10903, National Bureau of Economic Research, Inc.
  2. Christopher Adam & David Bevan, 2003. "Aid, Public Expenditure and Dutch Disease," CSAE Working Paper Series 2003-02, Centre for the Study of African Economies, University of Oxford.
  3. Guillermo A. Calvo & Carmen M. Reinhart, 2000. "Fear of Floating," NBER Working Papers 7993, National Bureau of Economic Research, Inc.
  4. Adam, Christopher S. & Bevan, David L., 2001. "Fiscal Policy Design in Low-Income Countries," Working Paper Series UNU-WIDER Research Paper , World Institute for Development Economic Research (UNU-WIDER).
  5. Reinhart, Carmen & Calvo, Guillermo, 2001. "Fixing for your life," MPRA Paper 13873, University Library of Munich, Germany.
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  7. Reinhart, Carmen & Calvo, Guillermo & Vegh, Carlos, 1994. "Targeting the real exchange rate: Theory and evidence," MPRA Paper 13412, University Library of Munich, Germany.
  8. Adam, Christopher S. & Buffie, Edward & O'Connell, Stephen & Pattillo, Catherine, 2008. "Monetary Policy Rules for Managing Aid Surges in Africa," Working Paper Series RP2008/77, World Institute for Development Economic Research (UNU-WIDER).
  9. Bulir, Ales & Hamann, A. Javier, 2001. "How Volatile and Unpredictable are Aid Flows, and What are the Policy Implications?," Working Paper Series UNU-WIDER Research Paper , World Institute for Development Economic Research (UNU-WIDER).
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  13. Jeffrey A. Frankel, 1997. "Sterilization of money inflows: Difficult (Calvo) or Easy (Reisen)?," Estudios de Economia, University of Chile, Department of Economics, vol. 24(2 Year 19), pages 263-285, December.
  14. C. L. Ramirez-Rojas, 1985. "Currency Substitution in Argentina, Mexico, and Uruguay (Substitution de monnaie en Argentine, au Mexique et en Uruguay) (Sustitución de moneda en Argentina, México y Uruguay)," IMF Staff Papers, Palgrave Macmillan, vol. 32(4), pages 629-667, December.
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  18. David Fielding, 1994. "Money Demand in Four African Countries," Journal of Economic Studies, Emerald Group Publishing, vol. 21(2), pages 3-37, May.
  19. Catherine A. Pattillo & Stephen A. O'Connell & Christopher Adam & Edward F. Buffie, 2004. "Exchange Rate Policy and the Management of official and Private Capital Flows in Africa," IMF Working Papers 04/216, International Monetary Fund.
  20. Benedict J. Clements & Sanjeev Gupta & Emanuele Baldacci & Carlos Mulas-Granados, 2002. "Expenditure Composition, Fiscal Adjustment, and Growth in Low-Income Countries," IMF Working Papers 02/77, International Monetary Fund.
  21. Adam, Christopher, 1999. "Financial Liberalisation and Currency Demand in Zambia," Journal of African Economies, Centre for the Study of African Economies (CSAE), vol. 8(3), pages 268-306, October.
  22. Fedderke, J. W. & Liu, W., 2002. "Modelling the determinants of capital flows and capital flight: with an application to South African data from 1960 to 1995," Economic Modelling, Elsevier, vol. 19(3), pages 419-444, May.
  23. Buffie, Edward F. & O'Connell, Stephen A. & Adam, Christopher, 2010. "Fiscal inertia, donor credibility, and the monetary management of aid surges," Journal of Development Economics, Elsevier, vol. 93(2), pages 287-298, November.
  24. Alfonso Novales & Emilio Dominguez & Javier J. Perez & Jesus Ruiz, 1998. "Solving Non-linear Rational Expectations Models By Eigenvalue-Eigenvector Decompositions," QM&RBC Codes 124, Quantitative Macroeconomics & Real Business Cycles.
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Citations

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Cited by:
  1. Pedro M G Martins, . "Capital Inflows Hinder Competitiveness? The Real Exchange Rate in Ethiopia," Discussion Papers 10/07, University of Nottingham, CREDIT.
  2. Adam, Christopher S. & Buffie, Edward & O'Connell, Stephen & Pattillo, Catherine, 2008. "Monetary Policy Rules for Managing Aid Surges in Africa," Working Paper Series RP2008/77, World Institute for Development Economic Research (UNU-WIDER).
  3. Pedro M. G. Martins, 2010. "Do Capital Inflows Hinder Competitiveness? The Real Exchange Rate in Ethiopia," Working Paper Series 1110, Department of Economics, University of Sussex.
  4. Hisali, Eria, 2010. "Fiscal policy consistency and its implications for macroeconomic aggregates: The case of Uganda," Research Series 113615, Economic Policy Research Centre (EPRC).
  5. Buffie, Edward F. & O'Connell, Stephen A. & Adam, Christopher, 2010. "Fiscal inertia, donor credibility, and the monetary management of aid surges," Journal of Development Economics, Elsevier, vol. 93(2), pages 287-298, November.
  6. Michael Plante, 2013. "The long–run macroeconomic impacts of fuel subsidies," Working Papers 1303, Federal Reserve Bank of Dallas.
  7. Hisali, Eria, 2010. "Fiscal policy consistency and implications for macroeconomic aggregates: the case of Uganda," Research Reports 102489, Economic Policy Research Centre (EPRC).
  8. Rafael Portillo & Andrew Berg & Jan Gottschalk & Luis-Felipe Zanna, 2010. "The Macroeconomics of Medium-Term Aid Scaling-Up Scenarios," IMF Working Papers 10/160, International Monetary Fund.
  9. Michael Plante Author-X-Name-First: Michael Author-X-Name-Last: Plante, 2013. "TheLong-RunMacroeconomicImpactsofFuelSubsidies," Caepr Working Papers 2013-002, Center for Applied Economics and Policy Research, Economics Department, Indiana University Bloomington.

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