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Stochastic Process Switching: Some Simple Solutions

Kenneth Froot and Maurice Obstfeld

No 2998, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: When changes in the economic policy regime occur stochastically, asset prices will reflect the possibility of such shifts. In this paper we apply techniques of regulated Brownian motion to obtain closed-form analytic price solutions when policy reaction functions are subject to prospective changes. We focus on the case in which the authorities promise to peg a currency's exchange rate once it reaches a predetermined future level. We also show how an open-ended commitment to exchange-rate targeting may lead to multiple equilibria.

Date: 1989-06
Note: ITI IFM
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Citations: View citations in EconPapers (39)

Published as Econometrica, Vol. 59, No. 1, pp. 241-250, (January 1991).
Published as Exchange Rate Targets and Currency Bands, eds. P. Krugman and M. Miller, Cambridge University Press, October 1991.

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Journal Article: Stochastic Process Switching: Some Simple Solutions (1991) Downloads
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