Automatic Stabilizer Feature of Fixed Exchange Rate Regimes in Emerging Markets

Uluc Aysun ()

No 2006-27, Working papers from University of Connecticut, Department of Economics

Abstract: This paper shows that countries characterized by a financial accelerator mechanism may reverse the usual finding of the literature -- flexible exchange rate regimes do a worse job of insulating open economies from external shocks. I obtain this result with a calibrated small open economy model that endogenizes foreign interest rates by linking them to the banking sector's foreign currency leverage. This relationship renders exchange rate policy more important compared to the usual exogeneity assumption. I find empirical support for this prediction using the Local Projections method. Finally, 2nd order approximation to the model finds larger welfare losses under flexible exchange rate regimes.

Keywords: accelerator; balance sheets; welfare; EMBI (search for similar items in EconPapers)
JEL-codes: E44 F31 F41 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-cba and nep-ifn
Date: 2006-08, Revised 2008-08
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Persistent link: http://EconPapers.repec.org/RePEc:uct:uconnp:2006-27

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