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Fiscal Discipline and Stability under Currency Board Systems

In economic discussions, currency board systems are frequently described as arrangements with self-binding character to the monetary authorities by their strict rules and establishments by law. Hard pegs and especially currency boards are often seen as remedies to overcome economic and financial turmoils and to return to low inflation. A sustainable debt level closely linked to a disciplined fiscal policy is, however, a premise for medium-term success. We show in a two-period model that the choice of a currency board can increase fiscal discipline compared to a standard peg regime. We derive, furthermore, the conditions for a currency boards to gain a stability advantage compared to a common peg system.

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Paper provided by CER-ETH - Center of Economic Research (CER-ETH) at ETH Zurich in its series CER-ETH Economics working paper series with number 07/66.

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Length: 58 pages
Date of creation: Mar 2007
Date of revision:
Handle: RePEc:eth:wpswif:07-66
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  1. Atish R. Ghosh & Anne-Marie Gulde & Holger C. Wolf, 2000. "Currency boards: More than a quick fix?," Economic Policy, CEPR;CES;MSH, vol. 15(31), pages 269-335, October.
  2. Gregor Irwin, 2004. "Currency boards and currency crises," Oxford Economic Papers, Oxford University Press, vol. 56(1), pages 64-87, January.
  3. Switgard Feuerstein & Oliver Grimm, 2006. "On the Credibility of Currency Boards," Review of International Economics, Wiley Blackwell, vol. 14(5), pages 818-835, November.
  4. Augusto de la Torre & Eduardo Levy Yeyati & Sergio L. Schmukler, 2003. "Living and Dying with Hard Pegs: The Rise and Fall of Argentina’s Currency Board," ECONOMIA JOURNAL OF THE LATIN AMERICAN AND CARIBBEAN ECONOMIC ASSOCIATION, ECONOMIA JOURNAL OF THE LATIN AMERICAN AND CARIBBEAN ECONOMIC ASSOCIATION, vol. 0(Spring 20), pages 43-108, January.
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  7. Fatás, Antonio & Rose, Andrew K, 2001. "Do Monetary Handcuffs Restrain Leviathan? Fiscal Policy in Extreme Exchange Rate Regimes," CEPR Discussion Papers 2692, C.E.P.R. Discussion Papers.
  8. Corrinne Ho, 2002. "A survey of the institutional and operational aspects of modern-day currency boards," BIS Working Papers 110, Bank for International Settlements.
  9. Robert J. Barro & David B. Gordon, 1981. "A Positive Theory of Monetary Policy in a Natural-Rate Model," NBER Working Papers 0807, National Bureau of Economic Research, Inc.
  10. Carlson, John A. & Valev, Neven T., 2001. "Credibility of a new monetary regime: The currency board in Bulgaria," Journal of Monetary Economics, Elsevier, vol. 47(3), pages 581-594, June.
  11. Dalia Grigonyté, 2003. "Impact of Currency Boards on Fiscal Policy in Central and Eastern European Countries," Economic Change and Restructuring, Springer, vol. 36(2), pages 111-133, June.
  12. Aloy M. & Moreno B. & Nancy G., . "Does Fiscal Policy Matter in a Currency Board Regime? The Case of Argentina," EcoMod2003 330700005, EcoMod.
  13. Catao, Luis A.V. & Terrones, Marco E., 2005. "Fiscal deficits and inflation," Journal of Monetary Economics, Elsevier, vol. 52(3), pages 529-554, April.
  14. Enrique Alberola & Luis Molina, 2000. "Fiscal Discipline and Exchange Rate Regimes: a Case for Currency Boards?," Working Papers 0006, Banco de España;Working Papers Homepage.
  15. Oliva, Maria-Angels & Rivera-Batiz, Luis A & Sy, Amadou N R, 2001. "Discipline, Signaling, and Currency Boards," Review of International Economics, Wiley Blackwell, vol. 9(4), pages 608-25, November.
  16. Tornell, Aaron & Velasco, Andres, 1998. "Fiscal discipline and the choice of a nominal anchor in stabilization," Journal of International Economics, Elsevier, vol. 46(1), pages 1-30, October.
  17. Berger, Helge & Jensen, Henrik & Schjelderup, Guttorm, 2001. "To peg or not to peg?: A simple model of exchange rate regime choice in small economies," Economics Letters, Elsevier, vol. 73(2), pages 161-167, November.
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