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Parametric and Non-Parametric Approaches to Exits from Fixed Exchange Rate Regimes

  • Ahmed Atil Asici

    ()

    (Graduate Institute of International Studies, Geneva Switzerland)

When the Bretton-Woods system collapsed in the mid 1970s, almost all countries were pursuing one form of a pegged regime or another. Increasing trade and financial integration forced many countries to move to more flexible regimes. Some countries exited without experiencing major disruption to their economic activity, but the majority did so in the midst of a crisis. At the same period, generally for stabilization purposes, many developing countries were advised to pursue pegged regimes, in which the exchange rate was used as a nominal anchor to enhance the credibility of monetary policy. Moving to more flexible regimes once a certain level of economic stability was reached was the ultimate objective for many programs. Again, some countries managed this transition quite successfully, but the majority faced speculative attacks along the way. The aim of this study is to determine the conditions under which exits from pegged to flexible regimes are managed in an orderly manner. To do so, this paper proposes a way to merge two methodologies – standard regression analysis and CART analysis on a dataset of 128 countries from 1975 to 2002. The application of CART methodology to economic phenomenon like exiting is quite new. The analysis shows that higher output growth, higher private credit and an overvalued real exchange rate a year before exit, among others, increase the likelihood of exiting in a disorderly way. Following the exit both output and credit collapse and the exchange rate depreciates considerably. The ill-managed financial liberalization and macroeconomic stabilization programs seem to lay the seeds of instability that take the form of boom-bust cycles.

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Paper provided by Economic Research Forum in its series Working Papers with number 401.

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Length: 49 pages
Date of creation: May 2008
Date of revision: May 2008
Publication status: Published by The Economic Research Forum (ERF)
Handle: RePEc:erg:wpaper:401
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