Strategy for a Regional Exchange Rate Arrangement in East Asia: Analysis, Review and Proposal

This paper discusses major conceptual and empirical issues relevant to the exchange rate policies of East Asian economies. Given the high degree of economic integration, intra-regional exchange rate stability remains an important objective in East Asia. But the current uncoordinated practice of each economy managing exchange rates or maintaining a de facto dollar peg is not optimal for this purpose. The paper suggests that the region's governments take a coordinated action to shift the policy of nominal exchange rate policy from the US dollar alone to a common basket of the US dollar, the Japanese yen, and the Euro, which would be more reflective of the average structure of foreign trade and direct investment. At least initially, each economy is free to choose its own formal exchange rate arrangement, be it a fixed exchange rate regime, a crawling peg or a managed float with wide margins, as long as it chooses the common basket as the reference. Such an arrangement is a pragmatic policy option for East Asia until greater political and institutional developments create an environment conducive to a more robust framework of monetary and exchange rate policy coordination.