Should small open economies in East Asia put all their eggs in one basket: the role of balance sheet effects
AbstractYen-dollar fluctuations increase macroeconomic instability in small economies in East Asia. I investigate the choice of an exchange rate regime for these countries so as to minimize the adverse effects of this volatility. I build a sticky-price dynamic model of a small economy whose trade is invoiced in dollar and yen. First, I show the conditions under which pegging to a tradeweighted basket of the two currencies is the optimal policy for the small economy. Then, I introduce net worth constraints and unhedged dollar borrowing which pull the optimal policy away toward putting a much greater weight on the dollar.
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Length: 35 pages
Date of creation: 12 Jan 2005
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East Asia; optimal basket pegs; balance sheet effects; exchange rate regimes;
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- F4 - International Economics - - Macroeconomic Aspects of International Trade and Finance
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