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Exchange Rate Regimes in the Modern Era
An analysis of the operation and consequences of exchange rate regimes in an era of increasing international interdependence. The exchange rate is sometimes called the most important price in a highly globalized world. A country's choice of its exchange rate regime, between government-managed fixed rates and market-determined floating rates has significant implications for monetary policy, trade, and macroeconomic outcomes, and is the subject of both academic and policy debate. In this book, two leading economists examine the operation and consequences of exchange rate regimes in an era of increasing international interdependence. Michael Klein and Jay Shambaugh focus on the evolution of exchange rate regimes in the modern era, the period since 1973, which followed the Bretton Woods era of 1945–72 and the pre-World War I gold standard era. Klein and Shambaugh offer a comprehensive, integrated treatment of the characteristics of exchange rate regimes and their effects. The book draws on and synthesizes data from the recent wave of empirical research on this topic, and includes new findings that challenge preconceived notions.
Fixed Exchange Rates and Trade
"A classic argument for a fixed exchange rate is its promotion of trade. Empirical support for this, however, is mixed. While one branch of research consistently shows a small negative effect of exchange rate volatility on trade, another, more recent, branch presents evidence of a large positive impact of currency unions on trade. This paper helps resolve this disconnect. Our results, which use a new data-based classification of fixed exchange rate regimes, show a large, significant effect of a fixed exchange rate on bilateral trade between a base country and a country that pegs to it. Furthermore, the web of fixed exchange rates created when countries link to a common base also promotes trade, but only when these countries are part of a wider system, as during the Bretton Woods period. These results suggest an economically relevant role for exchange rate regimes in trade determination since a significant amount of world trade is conducted between countries with fixed exchange rates"--NBER website
Study Guide to Accompany International Economics, Theory & Policy, Seventh Edition, Paul R. Krugman, Maurice Obstfeld
Krugman and Obstfeld provide a unified model of open-economy macroeconomics based upon an asset-market approach to exchange rate determination with a central role for expectations.
The Impact of Foreign Interest Rates on the Economy
This paper explores the connection between interest rates in major industrial countries and annual real output growth in other countries. The results show that high large-country interest rates have a contractionary effect on annual real GDP growth in the domestic economy, but that this effect is centered on countries with fixed exchange rates. The paper then examines the potential channels through which large-country interest rates affect small economies. The direct monetary policy channel is the most likely channel when compared with other possibilities, such as a general capital market effect or a trade effect.
The Evolution of Current Account Deficits in the Euro Area Periphery and the Baltics
Explanations of the large current account deficits for the euro area periphery and the Baltics in the run up to the crisis revolve around two main factors: deteriorating export performance or demand driven booms. We add that there were important movements in transfers and net income balances. While export performance remained relatively stable in most countries, for some countries, when transfers declined, households and firms borrowed so as to maintain the same level of spending. This was part of a persistent failure to adjust to trade deficits, which, along with rising net income payments, led to growing current account deficits. All of these factors played varying roles in the development of current account deficits across these countries.
Adjustment in Euro Area Deficit Countries
Imbalances within the euro area have been a defining feature of the crisis. This paper provides a critical analysis of the ongoing rebalancing of euro area “deficit economies” (Greece, Ireland, Portugal, and Spain) that accumulated large current account deficits and external liability positions in the run-up to the crisis. It shows that relative price adjustments have been proceeding gradually. Real effective exchange rates have depreciated by 10-25 percent, driven largely by reductions in unit labor costs due to labor shedding. While exports have typically rebounded, subdued demand accounts for much of the reduction in current account deficits. Hence, the current account balance of the ...
Monetary Sovereignty, Exchange Rates, and Capital Controls
The interwar period was marked by the end of the classical gold standard regime and new levels of macroeconomic disorder in the world economy. The interwar disorder often is linked to policies inconsistent with the constraint of the open-economy trilemma the inability of policymakers simultaneously to pursue a fixed exchange rate, open capital markets, and autonomous monetary policy. The first two objectives were linchpins of the pre-1914 order. As increasingly democratic polities faced pressures to engage in domestic macroeconomic management, however, either currency pegs or freedom of capital movements had to yield. This historical analytic narrative is compelling with significant ramifications for today's world, if true but empirically controversial. We apply theory and empirics to the interwar data and find strong support for the logic of the trilemma. Thus, an inability to pursue consistent policies in a rapidly changing political and economic environment appears central to an understanding of the interwar crises, and the same constraints still apply today.
Evolution or Revolution?
Leading economists discuss post–financial crisis policy dilemmas, including the dangers of complacency in a period of relative stability. The Great Depression led to the Keynesian revolution and dramatic shifts in macroeconomic theory and macroeconomic policy. Similarly, the stagflation of the 1970s led to the adoption of the natural rate hypothesis and to a major reassessment of the role of macroeconomic policy. Should the financial crisis and the Great Recession lead to yet another major reassessment, to another intellectual revolution? Will it? If so, what form should it, or will it, take? These are the questions taken up in this book, in a series of contributions by policymakers and ac...
Progress Towards External Adjustment in the Euro Area Periphery and the Baltics
The euro area periphery countries and the Baltic countries, which had large current account deficits in the run-up to the crisis, needed adjustment of relative prices to achieve both internal and external balances. Thus far, tangible progress has been made through lower wages and/or higher productivity relative to trading partners (“internal devaluation”), which contributed to narrowing current account deficits and shifting output towards the tradables sector. While some early adjusters cut wages more rapidly followed by productivity improvement, others have only slowly improved productivity largely through labor shedding. This adjustment for most countries has come along with a substantial recession as the unit labor cost improvement has largely come from falling employment and much of the current account improvement from import compression. Going forward, these countries still need to generate growing tradables sector employment and to continue adjustment to prevent imbalances from returning as output gaps close.
