Cataclysms and Currencies: Does the Exchange Rate Regime Matter for Real Shocks?

April 1, 2005

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Rodney Ramcharan. Cataclysms and Currencies: Does the Exchange Rate Regime Matter for Real Shocks?, (USA: International Monetary Fund, 2005) accessed September 19, 2024

Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary

Does the choice of exchange rate regime affect the way an economy's adjustment to real shocks? Exploiting the randomness of natural shocks, this paper assesses empirically the often contrasting answers found in the theoretical literature. The evidence supports key themes in this literature, and points to an important tradeoff between regimes. First, adverse natural shocks are associated with both higher investment and foreign direct investment (FDI) only in developing countries with fixed rate regimes. Second, over a 24-month horizon, growth rebounds earlier in flexible rate regimes. Third, in the long run, more adverse shocks are associated with higher growth and investment only in predominantly fixed regimes. Thus, while claims of faster adjustment to real shocks under flexible rate arrangements have merit, so does the idea that exchange rate variability can impede investment. And the benefits from faster adjustment may come at the cost of foregoing the long run productivity benefits embodied in the larger investment response in fixed rate regimes.

Subject: Conventional peg, Exchange rate arrangements, Exchange rates, Foreign aid, Income

Keywords: Exchange rate regime, Government consumption growth, Nominal exchange rate, Per capita income, Regime choice, WP

Publication Details

Pages:

35
Volume:

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DOI:

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Issue:

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Series:

Working Paper No. 2005/085
Stock No:

WPIEA2005085
ISBN:

9781451861044
ISSN:

1018-5941

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