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Excess Liquidity and the Foreign Currency Constraint: The Case of Monetary Management in Guyana

  • Khemraj, Tarron
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    This paper examines why commercial banks in Guyana demand non-remunerated excess reserves, a phenomenon that became even more widespread after financial liberalisation. Despite the removal of capital controls, banks do not invest all excess reserves in a safe foreign asset because the central bank maintains an unofficial foreign currency constraint by accumulating international reserves. The findings suggest that commercial banks do not demand excess reserves for precautionary purpose – which is the conclusion of several other studies – but rather because of the maintained constraint. The estimated sterilisation coefficient is consistent with the hypothesis of an enforced constraint. The results, moreover, suggest an alternative way of looking at the monetary transmission mechanism in developing countries. The central bank maintains price and exchange rate stability through the accumulation of foreign reserves.

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    File URL: http://mpra.ub.uni-muenchen.de/53127/1/MPRA_paper_53127.pdf
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    Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 53127.

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    Date of creation: Jan 2008
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    Publication status: Published in Applied Economics 16.41(2009): pp. 2073-2084
    Handle: RePEc:pra:mprapa:53127
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    1. Agenor, Pierre-Richard & Aizenman, Joshua & Hoffmaister, Alexander, 2000. "The credit crunch in East Asia : what can bank excess liquid assets tell us ?," Policy Research Working Paper Series 2483, The World Bank.
    2. Tarron Khemraj, 2007. "What does excess bank liquidity say about the loan market in Less Developed Countries?," Working Papers 60, United Nations, Department of Economics and Social Affairs.
    3. Frost, Peter A, 1971. "Banks' Demand for Excess Reserves," Journal of Political Economy, University of Chicago Press, vol. 79(4), pages 805-25, July-Aug..
    4. Brissimis, S.N. & Gibson, H.D. & Tsakalotos, E., 1997. "A Unifying Framework for Analysing Offsetting Capital Flows and Sterilisation," DEOS Working Papers 97-06, Athens University of Economics and Business.
    5. Frederic S. Mishkin, 1995. "Symposium on the Monetary Transmission Mechanism," Journal of Economic Perspectives, American Economic Association, vol. 9(4), pages 3-10, Fall.
    6. Baltensperger, Ernst, 1974. "The Precautionary Demand for Reserves," American Economic Review, American Economic Association, vol. 64(1), pages 205-10, March.
    7. Baltensperger, Ernst, 1980. "Alternative approaches to the theory of the banking firm," Journal of Monetary Economics, Elsevier, vol. 6(1), pages 1-37, January.
    8. Guillermo A. Calvo, 1991. "The Perils of Sterilization," IMF Staff Papers, Palgrave Macmillan, vol. 38(4), pages 921-926, December.
    9. David Fielding & Anja Shortland, 2005. "Political Violence and Excess Liquidity in Egypt," Journal of Development Studies, Taylor & Francis Journals, vol. 41(4), pages 542-557.
    10. Mohsen Bahmani-Oskooee & Hafez Rehman, 2005. "Stability of the money demand function in Asian developing countries," Applied Economics, Taylor & Francis Journals, vol. 37(7), pages 773-792.
    11. Pedro Aspe Armella & Rudiger Dornbusch & Maurice Obstfeld, 1983. "Financial Policies and the World Capital Market: The Problem of Latin American Countries," NBER Books, National Bureau of Economic Research, Inc, number arme83-1, 07.
    12. Pedro Aspe Armella & Rudiger Dornbusch & Maurice Obstfeld, 1983. "Introduction to "Financial Policies and the World Capital Market: The Problem of Latin American Countries"," NBER Chapters, in: Financial Policies and the World Capital Market: The Problem of Latin American Countries, pages 1-4 National Bureau of Economic Research, Inc.
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