Chapter

Living with the Fear of Floating

Edited by Amartya Lahiri and Carlos A. Végh

in Preventing Currency Crises in Emerging Markets

Published by University of Chicago Press

Published in print November 2002 | ISBN: 9780226184944
Published online February 2013 | e-ISBN: 9780226185057 | DOI: http://dx.doi.org/10.7208/chicago/9780226185057.003.0015
Living with the Fear of Floating

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This chapter describes the policies aimed at defending a currency under attack. It utilizes a theoretical model to compute the monetary authorities' optimal reaction to a demand for money shock. It is noted that the nominal wage rises by the same proportion as the exchange rate. For the purposes of insulating the real side of the economy from real shocks, flexible exchange rates are better than fixed exchange rates. The existence of nominal wage rigidities is important in generating the result that the nominal exchange rate should be kept fixed. The developed theoretical model predicts a nonmonotonic relationship between the nominal exchange rate and the size of the shock. Furthermore, it is believed that the “fully sterilized intervention” policy presented is one that always keeps the real quantity of money constant, which appears appropriate in general.

Keywords: currency; money shock; nominal wage; exchange rates; theoretical model; fully sterilized intervention; policies

Chapter.  18917 words.  Illustrated.

Subjects: International Economics

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