The difficulties of the Chinese and Indian exchange rate regimes

Ila Patnaik and Ajay Shah

Macroeconomics Working Papers from East Asian Bureau of Economic Research

Abstract: China and India have both attempted distorting the exchange rate in order to foster exports-led growth. This is described as the Bretton Woods II framework, where developing countries buy bonds in the US and keep undervalued exchange rates, in order to foster export-led growth. The costs and benefits of this approach need to factor in the extent to which monetary policy is distorted by the pursuit of exchange rate policy. In this paper, we start by identifying dates of structural change, and the characteristics of the de facto exchange rate regime, for both countries. These results utilise recent developments in the econometrics of structural change. We then examine business cycle conditions and the short-term rate (expressed in real terms) in both India and China. We find that through the great business cycle boom of the early 2000s, both countries followed expansionary monetary policy. This is consistent with the idea that de facto exchange rate pegging induces a loss of monetary policy autonomy. By following expansionary monetary policy at a time of buoyant business cycle conditions, in both countries, monetary policy contributed to exacerbating instability of GDP; it helped exacerbate both boom and bust. Capital flows and conditions on currency markets changed profoundly from late 2007 onwards. Hence, this paper is primarily focused on the period from 1998 till 2007, the period where both countries were trying to use monetary policy to obtain exchange rate undervaluation. These difficulties need to be brought into the assessment of the Bretton Woods II regime.

Keywords: exchange rate; China; India; Bretton Woods II framework (search for similar items in EconPapers)
JEL-codes: E50 E52 E58 (search for similar items in EconPapers)
Date: 2009-01
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Citations: View citations in EconPapers (11)

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Related works:
Journal Article: The difficulties of the Chinese and Indian exchange rate regimes (2009)
Working Paper: The Difficulties of the Chinese and Indian Exchange Rate Regimes (2009)
Working Paper: The difficulties of the Chinese and Indian exchange rate regimes (2009)
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