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Liberalized Markets Have More Stable Exchange Rates: Short-Run Evidence from Four Transition Countries

Aleš Bulíø ()
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Aleš Bulíø: International Monetary Fund

Authors registered in the RePEc Author Service: Ales Bulir ()

Czech Journal of Economics and Finance (Finance a uver), 2005, vol. 55, issue 5-6, 206-231

Abstract: The paper looks at the hypothesis that financial-market liberalization can create a basis for more stable exchange rates, as deviations of exchange rates from equilibrium levels bring forth stabilizing flows of liquidity. This hypothesis suggests that opening up financial markets militates in favor of exchange-rate flexibility by increasing the viability of a floating regime as well as making it more difficult to maintain a peg. The paper examines this hypothesis in a sample of four transition economies and finds that exchange rates tend to return faster to their Hodrick-Prescott-based values where markets are liberalized. The results suggest that early and successful foreign-exchange liberalization pays off in terms of depth of the market and, hence, faster adjustment of the exchange rate to shocks. Moreover, it implies that central banks should not be overly concerned with short-run volatility of their national exchange rates.

Keywords: endogenous liquidity; error-correction mechanism; exchange rate; nonlinearity (search for similar items in EconPapers)
JEL-codes: F31 F33 C32 (search for similar items in EconPapers)
Date: 2005
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