Dollarization: An Irreversible Decision

Roger Craine
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Roger Craine: University of California, Berkeley

International Finance from EconWPA

Abstract: If dollarization is a credible commitment to maintain a fixed exchange rate, then it is an irreversible decision. This paper explicitly models the unique feature -- irreversibility -- of a dollarization policy. In addition, it is the first paper to recognize that if a dollarization is a potential exchange rate regime choice, then the equilibrium is a mixed strategy equilibrium. The case of Argentina's possible dollarization is considered. I compute Nash equilibria and the transition probabilities that a country will move from a currency board regime to dollarizing, or floating, in one year, or two years, out to seven years. I model shocks to the exchange rate as a jump-diffusion process. The jumps represent large "asymmetric" shocks to the exchange rate -- such as Brazil's 1999 devaluation. The probability of dollarization is inversely related to the jump probability.

JEL-codes: F31 C63 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-ifn and nep-mon
Date: 2001-04-23
Note: 29 pages, Acrobat .pdf
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Persistent link: http://EconPapers.repec.org/RePEc:wpa:wuwpif:0103003

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