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Exchange Rate Regimes and Monetary Policies in Emerging Markets: A Showdown for Few Theoretical Misconceptions

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  • Marko Malovic

    () (Institute of Economic Sciences, Belgrade, Serbia)

Abstract

The purpose of this paper is to challenge couple of dangerous theoretical misconceptions in open-economy macro, namely, in respect to desirability or sustainability of available exchange rate regimes and inflation targeting framework and their mutual compatibility in small open economies with incomplete (emerging) markets. First of all, we dismiss the ruling »two corner solution« as dogma in scientific disguise. Furthermore, all the benefits of more flexible intermediate regimes (sliding currency bands) as well as empirical support of their wellbeing have been put forward. As to the monetary policies, majority of transition countries recognised superiority of inflation targeting over alternative monetary concepts. However, until very recently some emerging market economies failed to realize the benefits of full-fledged -let alone flexible- inflation targeting. In what follows, the article counters another theoretical dogma: that inflation targeting in emerging market economies must go hand in hand with fully flexible exchange rate regime. Having said that, and again contrary to the mainstream literature in the field, paper exposes some serious weaknesses of the so-called dirty (or managed) floating as an intermediate regime: in particular, its potential sub optimality in practice and its hidden incompatibility with widespread inflation targeting strategies. Paper concludes by reiterating the inevitability of close relationship between inflation targeting and exchange rate targeting and hence suggests several possible reaction functions for the monetary authorities in emerging markets among those already laid out in the related literature.

Suggested Citation

  • Marko Malovic, 2007. "Exchange Rate Regimes and Monetary Policies in Emerging Markets: A Showdown for Few Theoretical Misconceptions," Economic Analysis, Institute of Economic Sciences, vol. 40(1-2), pages 17-28.
  • Handle: RePEc:ibg:eajour:v:40:y:2007:i:1-2:p:17-28
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    File URL: http://www.ien.bg.ac.rs/index.php/en/2007/2007-12
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    More about this item

    Keywords

    Two-corner solution; crawling/monitoring bands; dirty float; flexible inflation targeting; (un)sterilized interventions; small open economy; emerging markets; BBC Plus;

    JEL classification:

    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • E61 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Policy Objectives; Policy Designs and Consistency; Policy Coordination
    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics

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