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The Interest Rate — Exchange Rate Nexus: Exchange Rate Regimes and Policy Equilibria

  • Christoph Himmels

    ()

  • Tatiana Kirsanova

    ()

We study a credible Markov-perfect monetary policy in an open New Keynesian economy with incomplete finacial markets. We demonstrate the existence of two discretionary equilibria. Following a shock the economy can be stabilised either 'quickly' or 'slow', both dynamic paths satisfy conditions of optimality and time-consistency. The model can help us to understand sudden change of the interest rate and exchange rate volatility in 'tranquil' and 'volatile' regimes even under a fully credible 'soft peg' of the nominal exchange rate in developing countries.

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File URL: http://www.st-andrews.ac.uk/economics/CDMA/papers/cp0902.pdf
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Paper provided by Centre for Dynamic Macroeconomic Analysis in its series CDMA Conference Paper Series with number 0902.

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Date of creation: Aug 2009
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Handle: RePEc:san:cdmacp:0902
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