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Why Exchange Rate Bands? Monetary Independence in Spite of Fixed Exchange Rates

  • Lars E.O. Svensson

The paper argues that the reason real world fixed exchange rate regimes usually have finite bands instead of completely fixed exchange rates between realignments is that exchange rate bands, counter to the textbook result, give central banks some monetary independence, even with free international capital mobility. The nature and amount of monetary independence is specified, informally, and in a formal model, and quantified with Swedish krona data. Altogether the amount of monetary independence appears sizable. For instance, an increase in the Swedish krona band from zero to about plus or minus two percent may reduce the krona interest rate's standard deviation by about one-half.

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File URL: http://www.nber.org/papers/w4207.pdf
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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 4207.

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Date of creation: Nov 1992
Date of revision:
Publication status: published as Journal of Monetary Economics, vol. 33, 1994, pp. 157-199
Handle: RePEc:nbr:nberwo:4207
Note: IFM
Contact details of provider: Postal: National Bureau of Economic Research, 1050 Massachusetts Avenue Cambridge, MA 02138, U.S.A.
Phone: 617-868-3900
Web page: http://www.nber.org
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  1. Gilles Oudiz & Jeffrey Sachs, 1985. "International Policy Coordination in Dynamic Macroeconomic Models," NBER Chapters, in: International Economic Policy Coordination, pages 274-330 National Bureau of Economic Research, Inc.
  2. Svensson, L.E.O., 1989. "Target Zones And Interest Rate Variability," Papers 457, Stockholm - International Economic Studies.
  3. Paul Krugman & Marcus Miller, 1992. "Exchange Rate Targets and Currency Bands," NBER Books, National Bureau of Economic Research, Inc, number krug92-1, August.
  4. Giuseppe Bertola & Lars E.O. Svensson, 1991. "Stochastic Devaluation Risk and the Empirical Fit of Target Zone Models," NBER Working Papers 3576, National Bureau of Economic Research, Inc.
  5. Daniel Gros, 1990. "Stabilization Policy with Bands," IMF Working Papers 90/49, International Monetary Fund.
  6. Miller, Marcus & Weller, Paul, 1991. "Exchange Rate Bands with Price Inertia," Economic Journal, Royal Economic Society, vol. 101(409), pages 1380-99, November.
  7. Andrew K. Rose & Lars E.O. Svensson, 1991. "Expected and predicted realignments: the FF/DM exchange rate during the EMS," International Finance Discussion Papers 395, Board of Governors of the Federal Reserve System (U.S.).
  8. Beetsma, R.M.W.J. & van der Ploeg, F., 1992. "Exchange rate bands and optimal monetary accomodation under a dirty float," Discussion Paper 1992-13, Tilburg University, Center for Economic Research.
  9. Marvin Goodfriend, 1990. "Interest rates and the conduct of monetary policy," Working Paper 90-06, Federal Reserve Bank of Richmond.
  10. Ben Bernanke & Frederic Mishkin, 1992. "Central Bank Behavior and the Strategy of Monetary Policy: Observations from Six Industrialized Countries," NBER Chapters, in: NBER Macroeconomics Annual 1992, Volume 7, pages 183-238 National Bureau of Economic Research, Inc.
  11. Lindbecg, H. Soderlind, P., 1992. "Target Zone Models and the Intervention Policy; The Swedish Case," Papers 496, Stockholm - International Economic Studies.
  12. Marvin Goodfriend, 1986. "Interest rate smoothing and price level trend-stationarity," Working Paper 86-04, Federal Reserve Bank of Richmond.
  13. Flood, Robert P. & Rose, Andrew K. & Mathieson, Donald J., 1991. "An empirical exploration of exchange-rate target-zones," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 35(1), pages 7-65, January.
  14. Alan Sutherland, . "Monetary and Real Shocks and the Optimal Target Zone," Discussion Papers 92/7, Department of Economics, University of York.
  15. Backus, David & Driffill, John, 1986. "The Consistency of Optimal Policy in Stochastic Rational Expectations Models," CEPR Discussion Papers 124, C.E.P.R. Discussion Papers.
  16. Hans Lindberg & Lars E.O. Svensson & Paul Soderlind, 1991. "Devaluation Expectations: The Swedish Krona 1982-1991," NBER Working Papers 3918, National Bureau of Economic Research, Inc.
  17. Krugman, Paul & Miller, Marcus, 1992. "Why Have a Target Zone?," CEPR Discussion Papers 718, C.E.P.R. Discussion Papers.
  18. Krugman, Paul R, 1991. "Target Zones and Exchange Rate Dynamics," The Quarterly Journal of Economics, MIT Press, vol. 106(3), pages 669-82, August.
  19. Willem H. Buiter & Richard C. Marston, 1985. "International Economic Policy Coordination," NBER Books, National Bureau of Economic Research, Inc, number buit85-1, August.
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