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Is Exchange Rate Stabilization an Appropriate Cure for the Dutch Disease?

  • Ruy Lama

    (International Monetary Fund)

  • Juan Pablo Medina

    (International Monetary Fund)

This paper evaluates how successful a policy of exchange rate stabilization is in counteracting the negative effects of a Dutch disease episode. We consider a small open-economy model that incorporates nominal rigidities and a learning-bydoing externality in the tradable sector. The paper shows that leaning against an appreciated exchange rate can prevent an inefficient loss of tradable output but at the cost of generating a misallocation of resources in other sectors of the economy. The paper also finds that welfare is a decreasing function of exchange rate intervention. These results suggest that stabilizing the nominal exchange rate in response to a Dutch disease episode could be highly distortionary.

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Article provided by International Journal of Central Banking in its journal International Journal of Central Banking.

Volume (Year): 8 (2012)
Issue (Month): 1 (March)
Pages: 5-46

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Handle: RePEc:ijc:ijcjou:y:2012:q:1:a:1
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  19. Andrew Clarke, 2008. "Learning-by-Doing and Productivity Dynamics in Manufacturing Industries," Department of Economics - Working Papers Series 1032, The University of Melbourne.
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