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Political pressures and exchange rate stability in emerging market economies

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Abstract

This paper presents a political economy model of exchange rate policy. The theory is based on a common agency approach with rational expectations. Financial and exporter lobbies exert political pressures to influence the government's choice of exchange rate policy, before shocks to the economy are realized. The model shows that political pressures affect exchange rate policy and create an over-commitment to exchange rate stability. This helps to rationalize the empirical evidence on fear of large currency swings that characterizes exchange rate policy of many emerging market economies. Moreover, the model suggests that the effects of political pressures on the exchange rate are lower if the quality of institutions is higher. Empirical evidence for a large sample of emerging market economies is consistent with these findings.

Suggested Citation

  • Ester Faia & Massimo Giuliodori & Michele Ruta, 2008. "Political pressures and exchange rate stability in emerging market economies," Journal of Applied Economics, Universidad del CEMA, vol. 11, pages 1-32, May.
  • Handle: RePEc:cem:jaecon:v:11:y:2008:n:1:p:1-32
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    File URL: https://www.ucema.edu.ar/publicaciones/download/volume11/faia.pdf
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    Cited by:

    1. Philipp Harms & Mathias Hoffmann, 2011. "Deciding to Peg the Exchange Rate in Developing Countries: The Role of Private-Sector Debt," Open Economies Review, Springer, vol. 22(5), pages 825-846, November.
    2. repec:asi:ajemod:2017:p:233-244 is not listed on IDEAS

    More about this item

    Keywords

    exporters and financial lobbies; exchange rate stability;

    JEL classification:

    • F3 - International Economics - - International Finance
    • D7 - Microeconomics - - Analysis of Collective Decision-Making

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