Exchange Rate Rules and Macroeconomic Stability

Rüdiger Dornbusch

No 473, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: This paper discusses exchange rate rules in their role as macroeconomic instruments. Two quite different approaches are pursued. The traditional view is that exchange rate flexibility is a substitute for money wage flexibility so that managed money and managed exchange rates yield the necessary instruments for internal and external balance. An entirely different perspective is offered by the modern macro-economics of wage contracting and the long run trade-off between the stability of output and the stability of inflation. In this context it is shown that exchange rate policies that seek to maintain real exchange rates or competitiveness do stabilize output but do so at the cost of in-creased inflation instability. Exchange rate rules such as full purchasing power parity crawling pegs are the analogue of full monetary accommodation of price disturbances.

Date: 1980-04
Note: ITI IFM
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Published as Open Economy Macroeconomics. New York: Basic Books, 1980.
Published as Dornbusch, Rudiger. "PPP Exchange-Rate Rules And Macroeconomic Stability," Journal of Political Economy, 1982, v90(1), 158-165.

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