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Does the policy trilemma still hold? Fresh evidence and its implications

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  • Amit Ghosh

Abstract

Economic success of any nation intrinsically hinges on the tradeoff between external policy choices and their internal consequences. An enduring challenge that countries confront is the 'trilemma' of choices between three desirable, yet jointly unattainable objectives of maintaining a fixed exchange rate regime, unfettered cross-border capital flows and monetary policy independence. This study examines the extent of monetary autonomy for over 130 nations spanning the period 1999-2011. Using both pooled cross-sectional as well as time series analyses I find more loss of monetary sovereignty for fixed regimes than non-fixed ones, supporting the trilemma's predictions. However, I do note this difference is only marginal and several floaters exhibit 'fear of floating' behaviour allowing sufficient transmission of foreign interest rates. Finally, I examine the macroeconomic consequences of the three tenets of the trilemma. I find higher monetary independence, greater capital openness as well as greater regime flexibility to promote economic stability.

Suggested Citation

  • Amit Ghosh, 2014. "Does the policy trilemma still hold? Fresh evidence and its implications," International Journal of Monetary Economics and Finance, Inderscience Enterprises Ltd, vol. 7(2), pages 81-106.
    • Handle: RePEc:ids:ijmefi:v:7:y:2014:i:2:p:81-106
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    Cited by:

    1. Montes, Gabriel Caldas & Ferreira, Caio Ferrari, 2020. "Does monetary policy credibility mitigate the fear of floating?," Economic Modelling, Elsevier, vol. 84(C), pages 76-87.

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