Exchange rate regime choice with multiple key currencies

Thomas Plümper and Eric Neumayer

LSE Research Online Documents on Economics from London School of Economics and Political Science, LSE Library

Abstract: Recent scholarship on exchange rate regime choice seeks to explain why some countries fix their exchange rate to an anchor currency, but it neglects the question to which currency countries peg. This article posits that an understanding of the choice of anchor currency also improves political economists’ understanding of the decision for an exchange rate peg itself. Drawing on the ‘fear of floating literature’, we argue that the choice of anchor currency is mainly determined by the degree of dependence of the potentially pegging country on imports from the country or currency union issuing the key currency as well as the degree of dependence on imports from the currency area, that is, from other countries which have already pegged to that key currency. This is because an exchange rate depreciation against the main trading partners’ currency increases domestic inflationary pressures due to exchange-rate pass-through. In addition, our theory claims that central bank independence and de facto fixedexchange rates are complements (rather than substitutes) since independent central banks care more than governments about imported inflation. Analyzing a pooled cross-section of 106 countries over the period 1974 to 2005, we find ample evidence in support of our theoretical predictions.

JEL-codes: F3 G3 (search for similar items in EconPapers)
Pages: 50 pages
Date: 2008-10
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (2)

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http://eprints.lse.ac.uk/25164/ Open access version. (application/pdf)

Related works:
Working Paper: Exchange Rate Regime Choice with Multiple Key Currencies (2008)
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Persistent link: https://EconPapers.repec.org/RePEc:ehl:lserod:25164

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