Price Rigidity and the Selection of the Exchange Rate Regime

Fabrice Collard and Harris Dellas ()

Open Economies Review, 2006, vol. 17, issue 1, 5-26

Abstract: We evaluate and qualify Friedman's, 1953, “case for flexible exchange rates” in the presence of sticky prices in a two country model. We find that a flexible regime performs indeed better when the degree of nominal price rigidity is high while a bilateral peg does better when prices are fairly flexible. This result obtains independent of whether monetary policy is activistic or not and is mostly due to the negative relationship between employment and productivity shocks when prices are relatively sluggish (Gali, 1999). A unilateral peg tends to produce the lowest level of world welfare but it sometimes represents the best monetary arrangement for the pegger. Copyright Springer Science + Business Media, Inc. 2006

Keywords: exchange rate systems; monetary policy; price sluggishness; inflation targeting (search for similar items in EconPapers)
Date: 2006
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DOI: 10.1007/s11079-006-5212-3

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