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Exchange rate indeterminacy in portfolio balance, Mundell--Fleming and uncovered interest rate parity models

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  • Lance Taylor

Abstract

With full stock/flow accounting respected, the two-country open economy portfolio balance model has just two independent equations for asset market clearing. It can determine home and foreign interest rates but not the exchange rate. If asset market equilibria vary smoothly over time, the balance of payments equation in the Mundell--Fleming model is not independent and cannot set the exchange rate either. The familiar fixed reserves/'floating rate' vs endogenous reserves/'fixed rate' dichotomy does not exist, and 'fundamentals-based' econometric models of the exchange rate are bound to fail. An alternative is a two-country IS/LM model with exchange rate dynamics added. Its dynamic properties under uncovered interest rate parity are briefly explored. Copyright 2004, Oxford University Press.

Suggested Citation

  • Lance Taylor, 2004. "Exchange rate indeterminacy in portfolio balance, Mundell--Fleming and uncovered interest rate parity models," Cambridge Journal of Economics, Oxford University Press, vol. 28(2), pages 205-227, March.
  • Handle: RePEc:oup:cambje:v:28:y:2004:i:2:p:205-227
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    Cited by:

    1. Yeldan Erinc A., 2008. "Prospects for Inflation Targeting in the MENA Region: Feasibility, Desirability and Alternatives," Review of Middle East Economics and Finance, De Gruyter, vol. 4(3), pages 83-100, September.
    2. Martín Rapetti, 2013. "The Real Exchange Rate and Economic Growth: Some Observations on the Possible Channels," UMASS Amherst Economics Working Papers 2013-11, University of Massachusetts Amherst, Department of Economics.
    3. Carlos Eduardo Castillo-Maldonado & Fidel Pérez-Macal, 2013. "Assessment of models to forecast exchange rates: The quetzal–U.S. dollar exchange rate," Journal of Applied Economics, Universidad del CEMA, vol. 16, pages 71-99, May.
    4. Plakandaras, Vasilios & Papadimitriou, Theophilos & Gogas, Periklis, 2012. "Directional forecasting in financial time series using support vector machines: The USD/Euro exchange rate," DUTH Research Papers in Economics 5-2012, Democritus University of Thrace, Department of Economics.
    5. Alberto Botta, 2014. "The Macroeconomics of a Financial Dutch Disease," DEM Working Papers Series 089, University of Pavia, Department of Economics and Management.
    6. Leonardo Vera, 2014. "The Simple Post-Keynesian Monetary Policy Model: An Open Economy Approach," Review of Political Economy, Taylor & Francis Journals, vol. 26(4), pages 526-548, October.
    7. Roberto Frenkel & Lance Taylor, 2006. "Real Exchange Rate, Monetary Policy and Employment," Working Papers 19, United Nations, Department of Economics and Social Affairs.

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