Exchange Rate Uncertainty in Money-Based Stabilization Programs

Rogelio Morales

No 1998/003, IMF Working Papers from International Monetary Fund

Abstract: Complementing the explanation provided by Calvo and Vegh (1994) for money-based stabilization programs, exchange rate uncertainty introduced to a particular version of the portfolio approach with imperfect competition in the banking system leads to a bias toward appreciation that is directly related to the divergence of expectations and that dampens the interaction between portfolio movements and the real exchange rate. Based on Frankel-Froot, uncertainty exists when the fundamental equilibrium real exchange rate is temporarily unknown in a foreign exchange market with two types of agents: ‘parity-guessers,’ who expect a jump to a reference parity level, and ‘money-followers,’ who expect nominal depreciation equal to the monetary rule.

Keywords: WP; foreign currency; stabilization program; exchange rate appreciation; current account response; exchange rate dynamics; currency substitution effects; imperfect competition; program money growth; exchange rate uncertainty; opportunity cost; Real exchange rates; Currencies; Exchange rates; Depreciation (search for similar items in EconPapers)
Pages: 18
Date: 1998-01-01
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