Should government smooth exchange rate risk?
AbstractA general equilibrium model is built to explain if there are circumstances in which exchange rate risk smoothing (ERRS) policies may bring a Pareto-improvement for a indebted small open (home) economy. The model shows that this is the case when overpessimistic foreign creditors demand a large spread on the default risk-free world interest rate, whose size can be reduced by ERRS policies and, in addition, market imperfections, such as information asymmetry between foreign investors and domestic debtors, prevent home economy’s residents from internalizing all benefits and costs of the exchange rate risk reallocation into their allocative decisions.
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Bibliographic InfoPaper provided by Department of Economics PUC-Rio (Brazil) in its series Textos para discussão with number 465.
Length: 38 pages
Date of creation: Oct 2002
Date of revision:
Publication status: Published in the Journal of Development Economics v.69, n.2, p. 393-421, 2002
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Other versions of this item:
- NEP-ALL-2002-11-10 (All new papers)
- NEP-CDM-2002-11-10 (Collective Decision-Making)
- NEP-FIN-2002-11-10 (Finance)
- NEP-IFN-2002-11-10 (International Finance)
- NEP-RMG-2002-11-10 (Risk Management)
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