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

Author

Listed:
  • Ruy Lama

    (International Monetary Fund)

  • Juan Pablo Medina

    (International Monetary Fund)

Abstract

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.

Suggested Citation

  • Ruy Lama & Juan Pablo Medina, 2012. "Is Exchange Rate Stabilization an Appropriate Cure for the Dutch Disease?," International Journal of Central Banking, International Journal of Central Banking, vol. 8(1), pages 5-46, March.
  • Handle: RePEc:ijc:ijcjou:y:2012:q:1:a:1
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    More about this item

    JEL classification:

    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics

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