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Sustainability of Monetary-cum-Exchange Rate Policy in China

Hiroya Akiba ()

Frontiers of Economics in China, 2019, vol. 14, issue 4, 604-628

Abstract: This paper theoretically considers the long-run sustainability of China's monetary-cum-exchange rate policy under the impossible trinity. Two different models are examined: One sterilizes current net foreign assets (NFAs) and the other focuses on NFAs realized in the previous period. Under the de facto opening of financial flows, sterilization yields a negative risk premium in uncovered interest parity (UIP) that triggers a feedback increase among capital inflows. Here, stability depends on the magnitudes and the combination of structural and policy parameters. It is shown that if current capital inflows are sterilized, the monetary-cum-exchange rate policy in China offers a sustainable solution for exchange rates that are relatively stringently managed. However, such a solution can be obtained for relatively flexible or moderately managed rates if sterilization policy is implemented on the previous period's inflows.

Keywords: sustainability; monetary-cum-exchange rate policy; impossible trinity; sterilized intervention; capital inflow (search for similar items in EconPapers)
JEL-codes: E51 E52 E58 F31 F32 (search for similar items in EconPapers)
Date: 2019
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