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Exchange rates and monetary spillovers

Listed author(s):
  • Plantin, Guillaume

    ()

    (Department of Economics, Sciences Po)

  • Shin, Hyun Song

    ()

    (Bank for International Settlements)

When do flexible exchange rates prevent monetary and financial conditions from spilling over across currencies? We examine a model in which international investors strategically supply capital to a small inflation-targeting economy with flexible exchange rates. For some combination of parameters, the unique equilibrium exhibits the observed empirical feature of prolonged episodes of capital inflows and appreciation of the domestic currency, followed by reversals where capital outflows go hand-in-hand with currency depreciation, a rise in domestic interest rates, and inflationary pressure. Arbitrarily small shocks to global financial conditions suffice to trigger these dynamics.

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File URL: http://econtheory.org/ojs/index.php/te/article/viewForthcomingFile/2669/18338/1
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Article provided by Econometric Society in its journal Theoretical Economics.

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Handle: RePEc:the:publsh:2669
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  1. Obstfeld, Maurice, 1996. "Models of currency crises with self-fulfilling features," European Economic Review, Elsevier, vol. 40(3-5), pages 1037-1047, April.
  2. Michael Woodford, 2001. "The Taylor Rule and Optimal Monetary Policy," American Economic Review, American Economic Association, vol. 91(2), pages 232-237, May.
  3. Jurek, Jakub W., 2014. "Crash-neutral currency carry trades," Journal of Financial Economics, Elsevier, vol. 113(3), pages 325-347.
  4. Boris Hofmann & Ilhyock Shim & Hyun Song Shin, 2016. "Sovereign yields and the risk-taking channel of currency appreciation," BIS Working Papers 538, Bank for International Settlements.
  5. Du, Wenxin & Schreger, Jesse, 2013. "Local Currency Sovereign Risk," International Finance Discussion Papers 1094, Board of Governors of the Federal Reserve System (U.S.).
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