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on International Finance |
| By: | Guillaume Plantin (Département d'économie); Hyun Song Shin (Princeton University) |
| Abstract: | When does the combination of flexible exchange rates and inflation-targeting monetary policy guarantee insulation from global financial conditions? We examine a dynamic global game model of international investment flows where, for some combination of parameters, the unique equilibrium exhibits the observed empirical feature of prolonged episodes of capital inflows and appreciation of the domestic currency, followed by abrupt reversals where capital outflows go hand-in-hand with currency depreciation, a domestic bond market crash, and inflationary pressure. |
| Keywords: | Currency appreciation; Capital flows; Global games |
| JEL: | F32 F33 F34 |
| Date: | 2016 |
| URL: | http://d.repec.org/n?u=RePEc:spo:wpmain:info:hdl:2441/2si2ds9f2b9l9qf0lhcuotcfj9&r=ifn |
| By: | Manuel Amador; Javier Bianchi; Luigi Bocola; Fabrizio Perri |
| Abstract: | We study how a monetary authority pursues an exchange rate objective in an environment that features a zero lower bound (ZLB) constraint on nominal interest rates and limits to arbitrage in international capital markets. If the nominal interest rate that is consistent with interest rate parity is positive, the central bank can achieve its exchange rate objective by choosing that interest rate, a well-known result in international finance. However, if the rate consistent with parity is negative, pursuing an exchange rate objective necessarily results in zero nominal interest rates, deviations from parity, capital inflows, and welfare costs associated with the accumulation of foreign reserves by the central bank. In this latter case, all changes in external conditions that increase inflows of capital toward the country are detrimental, while policies such as negative nominal interest rates or capital controls can reduce the costs associated with an exchange rate policy. We provide a simple way of measuring these costs, and present empirical support for the key implications of our framework: when interest rates are close to zero, violations in covered interest parity are more likely, and those violations are associated with reserve accumulation by central banks. |
| JEL: | F31 F32 |
| Date: | 2017–03 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:23266&r=ifn |
| By: | Choi, Woo Jin; Taylor, Alan M. |
| Abstract: | We document a new international stylized fact describing the relationship between real exchange rates and external asset holdings. Economists have long argued that the real exchange rate is associated with the net international investment position, appreciating as external wealth increases. This mechanism has been seen as central for international payments equilibrium and relative price adjustments. However, we argue that the effect of external assets held by the public sector -reserve accumulation- on real exchange rates may be quite different from that of privately held external assets, and that capital controls are a critical factor behind this difference. For 1975-2007, controlling for GDP per capita and the terms of trade, we find that a one percentage point increase in external assets relative to GDP (net of reserves) is related to an 0.24 percent real exchange rate appreciation. On the contrary, a one percentage point increase in reserve accumulation relative to GDP has virtually no effect on the real exchange rate in financially open countries (low capital controls), and is related to a 1.65 percent real exchange rate depreciation in financially closed countries (high capital controls). Results are stronger in developing countries and in more recent periods. Gross rather than net positions matter and we present a new theoretical model to account for the stylized fact. The framework encompasses so-called precautionary and mercantilist motives for reserve accumulation, and also explains how the optimal capital account policy -the mix of reserve accumulation and capital controls- is determined. Further empirical support arises from evidence that reserve accumulation is associated with a trade surplus, along with higher GDP and TFP growth in countries with high capital controls, findings that are consistent with the mechanisms of our model. |
| Keywords: | capital controls; economic growth.; Financial crises; International Reserves; real exchange rates; Trade |
| JEL: | F31 F38 F41 F43 O24 |
| Date: | 2017–04 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:11963&r=ifn |