Dual Exchange Rates in the Presence of Incomplete Market Separation: Long-Run Effectiveness and Policy Implications

Daniel Gros

IMF Staff Papers, 1988, vol. 35, issue 3, 437-460

Abstract: The literature on dual exchange rate regimes assumes that the separation between the two foreign exchange markets is perfect. In this paper a divergence between the two exchange rates induces a flow of arbitrage activity, the magnitude of which depends on both the costs of evading exchange controls and the size of the exchange rate differential. These arbitrage flows lead to a gradual convergence of the two exchange rates. In the long run, therefore, a dual exchange rate regime with a fixed commercial rate imposes the same constraints as a fixed unified exchange rate.

Date: 1988
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