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Dual Exchange Rates in the Presence of Incomplete Market Separation: Long-Run Effectiveness and Policy Implications

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  • Daniel Gros

    (International Monetary Fund)

Abstract

The literature on dual exchange rate regimes assumes that the separation between the two foreign exchange markets is perfect. In this paper a divergence between the two exchange rates induces a flow of arbitrage activity, the magnitude of which depends on both the costs of evading exchange controls and the size of the exchange rate differential. These arbitrage flows lead to a gradual convergence of the two exchange rates. In the long run, therefore, a dual exchange rate regime with a fixed commercial rate imposes the same constraints as a fixed unified exchange rate.

Suggested Citation

  • Daniel Gros, 1988. "Dual Exchange Rates in the Presence of Incomplete Market Separation: Long-Run Effectiveness and Policy Implications," IMF Staff Papers, Palgrave Macmillan, vol. 35(3), pages 437-460, September.
    • Handle: RePEc:pal:imfstp:v:35:y:1988:i:3:p:437-460
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    Cited by:

    1. Wen-ya Chang & Ching-chong Lai, 1998. "The dynamic unsubstitutability of sterilization operations and neutral-intervention operations under dual exchange rates," Journal of Economics, Springer, vol. 68(3), pages 235-253, October.
    2. Jacques Miniane & John H. Rogers, 2007. "Capital Controls and the International Transmission of U.S. Money Shocks," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 39(5), pages 1003-1035, August.
    3. Ljungberg, Jonas, 2019. "Nominal and Real Effective Exchange Rates for Europe, 1870-2016: Some methodological issues," Lund Papers in Economic History 200, Lund University, Department of Economic History.
    4. Mikesell, Raymond F., 2001. "Dual Exchange Markets for Countries Facing Financial Crises," World Development, Elsevier, vol. 29(6), pages 1035-1041, June.
    5. Fuhmei Wang, 2003. "Leakages in dual exchange markets," Prague Economic Papers, Prague University of Economics and Business, vol. 2003(3), pages 249-264.
    6. Robert Flood & Nancy Marion, 1989. "Risk Neutrality and the Two-Tier Foreign Exchange Market: Evidence from Belgium," NBER Working Papers 3015, National Bureau of Economic Research, Inc.
    7. Hanson, James A., 1992. "Opening the capital account : a survey of issues and results," Policy Research Working Paper Series 901, The World Bank.
    8. Paul Reding & Jean-Marie Viaene, 1995. "Capital controls and international trade finance in a dual exchange rate regime: The Belgian experience post-mortem," Review of World Economics (Weltwirtschaftliches Archiv), Springer;Institut für Weltwirtschaft (Kiel Institute for the World Economy), vol. 131(1), pages 1-27, March.
    9. Knot, Klaas & de Haan, Jakob, 1995. "Interest rate differentials and exchange rate policies in Austria, The Netherlands, and Belgium," Journal of Banking & Finance, Elsevier, vol. 19(2), pages 363-386, May.

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