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Friedman Redux; External Adjustment and Exchange Rate Flexibility

Atish Ghosh (), Mahvash Qureshi and Charalambos Tsangarides ()

No 14/146, IMF Working Papers from International Monetary Fund

Abstract: Milton Friedman argued that flexible exchange rates would facilitate external adjustment. Recent studies find surprisingly little robust evidence that they do. We argue that this is because they use composite (or aggregate) exchange rate regime classifications, which often mask very heterogeneous bilateral relationships between countries. Constructing a novel dataset of bilateral exchange rate regimes that differentiates by the degree of exchange rate flexibility, as well as by direct and indirect exchange rate relationships, for 181 countries over 1980–2011, we find a significant and empirically robust relationship between exchange rate flexibility and the speed of external adjustment. Our results are supported by several “natural experiments” of exogenous changes in bilateral exchange rate regimes.

Keywords: Balance of trade; Current account balances; Exchange rate regimes; Exchange rate adjustments; Global imbalances; Flexible exchange rates; external dynamics, exchange rate, exchange rate regime, bilateral exchange rate, exchange rate flexibility, International Monetary Arrangements and Institutions, Open Economy Macroeconomics, (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-cba, nep-mon and nep-opm
Date: 2014-08-08
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