A Geometric Analysis of Exchange Rate Adjustment Under Static and Rational Expectations

George Fane

The Economic Record, 1982, vol. 58, issue 4, 367-374

Abstract: This note presents a simple geometric apparatus for analyzing macroeconomic questions relating to small open economies. The particular problem analyzed here for illustrative purposes is the adjustment of a floating exchange rate regime, under both static and rational expectations, to a step increase in the money supply. We consider both an unanticipated immediate increase and an unanticipated announcement of a forthcoming increase. We derive the general criterion which determines whether the exchange rate initially overshoots or undershoots the change required for long‐run equilibrium.

Date: 1982
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