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Optimal real exchange rate targeting: a stochastic analysis

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  • Francesco Menoncin
  • Marco Tronzano

Abstract

This paper extends the literature on real exchange rate targeting inside a stochastic optimization framework where the real exchange rate displays long run mean reversion while temporarily reflecting a “liquidity effect”. When real exchange rate volatility is constant, an active stabilization rule is welfare increasing with respect to non intervention only beyond a given volatility threshold. Moreover, the welfare gains are larger the lower is the degree of mean reversion. Under a stochastic volatility assumption, the policy maker’s intertemporal discount rate has instead a major influence, and real exchange rate targeting is welfare increasing only if the policymaker is sufficiently farsighted.

Suggested Citation

  • Francesco Menoncin & Marco Tronzano, "undated". "Optimal real exchange rate targeting: a stochastic analysis," Working Papers ubs0401, University of Brescia, Department of Economics.
  • Handle: RePEc:ubs:wpaper:ubs0401
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    Cited by:

    1. Roberto Casarin & Carmine Trecroci, 2006. "Business Cycle and Stock Market Volatility: A Particle Filter Approach," Working Papers ubs0603, University of Brescia, Department of Economics.

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