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The Mundell-Fleming Trilemma and the Global Financial Cycle: An Empirical Test of Competing Hypotheses

Author

Listed:
  • Josip TICA

    (Faculty of Economics and Business, University of Zagreb, Trg J. F. Kennedyja 6, 10000 Zagreb, Croatia.)

  • Tomislav GLOBAN

    (Corresponding author. Faculty of Economics and Business, University of Zagreb, Trg J. F. Kennedyja 6, 10000 Zagreb, Croatia.)

  • Vladimir ARČABIĆ

    (Faculty of Economics and Business, University of Zagreb, Trg J. F. Kennedyja 6, 10000 Zagreb, Croatia.)

Abstract

We use an innovative methodological approach to investigate the impact of financial globalization (the dilemma hypothesis), the accumulation of international reserves (the quadrilemma hypothesis) and foreign currency exposure (the original sin hypothesis) on the Mundell-Fleming trilemma. We use a dynamic panel threshold model with four regimes to investigate competing hypotheses within a single methodological framework. The results imply that there are significant differences between fixed and flexible exchange rate regimes at high levels of financial openness, and that countries are biased towards fixed exchange rates at high levels of foreign currency exposure. These empirical findings imply that the global financial cycle might be the result of a deliberate choice of exchange rate regime and not the result of the irrelevance of the exchange rate regime in financially globalized countries.

Suggested Citation

  • Josip TICA & Tomislav GLOBAN & Vladimir ARČABIĆ, 2019. "The Mundell-Fleming Trilemma and the Global Financial Cycle: An Empirical Test of Competing Hypotheses," Journal for Economic Forecasting, Institute for Economic Forecasting, vol. 0(3), pages 62-80, September.
    • Handle: RePEc:rjr:romjef:v::y:2019:i:3:p:62-80
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    Keywords

    Mundell-Fleming; Global Financial Cycle; Foreign Currency Exposure; Trilemma; Dilemma;
    All these keywords.

    JEL classification:

    • F15 - International Economics - - Trade - - - Economic Integration
    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics
    • E42 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Monetary Sytsems; Standards; Regimes; Government and the Monetary System

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