## 12. Evolution of Key Economic Indicators Before and After the Exit to More Flexible ER

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---

### Introduction and context
- Between June 2014 and February 2016, global crude oil and natural gas prices fell by more than 70 percent and 57 percent, respectively, creating a severe terms-of-trade (ToT) shock for commodity-exporting economies.
- Commodity-exporting Caribbean economies are highly concentrated in a few commodities (In percent of total exports of goods and services; Average 2014-2018):
  - Belize: 11
  - Guyana: 46
  - Jamaica: 19
  - Suriname: 68
  - Trinidad and Tobago: 41
- Many commodity exporters maintained stabilized or pegged exchange rate regimes; limited exchange rate flexibility constrained the exchange rate’s role as an automatic stabilizer during the shock.

### Stylized macroeconomic impacts of the commodity shock
- Aggregate patterns (2011-13 vs 2014-16) across regions showed declines in exports and imports as percent of GDP, deterioration in current accounts and trade balances, increases in government and external debt ratios, and mixed effects on inflation and reserves.
- Specific regional deltas (Post-2014 Simple Average vs Pre-2014 Simple Average):
  - % NEER Appreciation: LAC 21.47, MENA 8.93, Asia 7.36, CIS 1.33, Africa -30.54, Advanced -14.95.
  - % REER Appreciation: LAC 22.20, MENA 9.93, Asia 5.33, CIS -4.62, Africa -20.36, Advanced -12.79.
  - Drop in exports as % of GDP: MENA 12.49, LAC 7.77, CIS 8.49, Africa 1.52, Asia 1.70, Advanced 5.67.
  - Deterioration in current account as % of GDP: MENA 15.31, Advanced -0.61, Africa 3.73, Asia -3.30, CIS 2.90, LAC 2.01.
  - Increase in general government gross debt (% of fiscal year GDP): MENA 9.57, Africa 14.17, CIS 5.94, Asia 2.44, LAC 4.58, Advanced -1.20.
  - Deterioration in fiscal balance as % of GDP: MENA 11.48, CIS 3.38, Africa 2.97, Asia -3.69, LAC 0.74, Advanced -0.59.

### Differences across exchange rate regime groups (fixed, flexible, switchers)
- Nominal and real exchange rate movements (Post-2014 vs Pre-2014):
  - % NEER Appreciation: Fixed -1.94, Flex -14.95, Switchers -14.34.
  - % REER Appreciation: Fixed -2.30, Flex -12.79, Switchers 9.80.
- Trade, external, and fiscal indicators (Post-2014 vs Pre-2014):
  - Drop in exports as % of GDP: Fixed 8.87, Flex 3.08, Switchers 6.18.
  - Drop in imports as % of GDP: Fixed -0.94, Flex 1.84, Switchers 6.43.
  - Deterioration in current account as % of GDP: Fixed 9.66, Flex 0.51, Switchers -1.70.
  - Deterioration in trade balance as % of GDP: Fixed 9.83, Flex 1.30, Switchers -0.50.
  - Deterioration in external debt as % of GDP: Fixed 8.45, Flex 19.31, Switchers 11.10.
  - Deterioration in reserves (months of imports): Fixed -0.24, Flex 0.23, Switchers 0.20.
  - Drop in real GDP growth (%): Fixed 1.55, Flex 2.11, Switchers 2.58.
  - Change in inflation (period average, %): Fixed -1.30, Flex 0.55, Switchers -1.61.
  - Increase in general government gross debt (% of fiscal year GDP): Fixed 9.48, Flex 9.93, Switchers 6.65.
  - Deterioration in fiscal balance as % of GDP: Fixed 7.35, Flex 1.51, Switchers 2.91.

### Policy measures adopted during the 2014 commodity price shock (2014-17)
- Fiscal policy
  - Massive ToT shock translated into a massive fiscal shock; responses included fiscal consolidation, cuts in public spending, introduction or increase of taxes, use of reserves/SWFs, setting up Medium-term Fiscal Frameworks, and increased fiscal transparency.
  - Countercyclical fiscal expansion occurred in some countries with large buffers (Kuwait, Qatar, Saudi Arabia, UAE; Chile, Peru).
  - Countries with limited buffers increased borrowing or drew down deposits/stabilization funds.
- Debt and borrowing policies
  - Increased domestic financing (including from banks) and drawing down of central bank deposits; external borrowing through international bonds or syndicated loans in some cases.
- Monetary and financial measures
  - Monetary tightening in many countries to prevent exchange rate weakening or limit passthrough to inflation; accommodative policy in others where inflation pressures were absent.
  - Micro/macro-prudential tightening in several countries; introduction or enhancement of central bank laws and deposit insurance in some countries.
- Exchange rate policy and administrative controls
  - Maintained pegs via FX intervention in many countries; official depreciation under some arrangements; moves to greater flexibility in other countries; exchange restrictions and administrative FX controls used in several cases.
- Energy/subsidy and structural measures
  - Energy price increases/reforms and declines in subsidies in many countries; targeted social transfers in some cases; structural policies to increase private sector role and diversification away from commodities.

### Fiscal outcomes and exchange rate regime developments
- Despite large adjustments, fiscal positions overall remained weaker than before the shock, implying more adjustment needed.
- Pegged-regime countries on average experienced a larger overall fiscal deterioration compared to those with flexible rates.
- Two thirds of commodity exporters continued with (hard or soft) pegged regimes as of end-2017, limiting the exchange rate’s potential role as a shock absorber.

### Structural policies and resilience
- Reforms implemented included banking reforms, wage/hiring freezes, labor market flexibility measures, diversification of export base, and business climate improvements.
- Sectoral differences: manufacturing tends to be more responsive to depreciation than commodities, limiting exchange rate–led external adjustment in commodity-exporters.

---

### Empirical approaches and core quantitative findings

### Empirical approaches used
- Event study: pre-event = t-1 to t-4 (average 2010-2013), post-event = t+1 to t+4 (average 2014-2017); sample split into pegged and floating groups; excluded 13 regime-changers and 5 politically unstable countries.
- Panel Vector Autoregression (PVAR):
  - Model: Y_i,t = A(L) Y_i,t + C X_i,t + δ_i + u_i,t with endogenous vector Y_i,t = [lnctt_i,t, lny_i,t, lngov_i,t, lnreer_i,t, lncpi_i,t]’.
  - Control variables X_i,t (log format): lnpop_i,t; findev_i,t (broad money % of GDP); open_i,t (exports+imports % of GDP).
  - Regime differentiation via R_i,t dummy and inclusion only of observations with R_i,t−1 = R_i,t = R_i,t+1.
  - Identification of ToT shocks uses country-specific commodity ToT measures weighted by export/import commodity composition by GDP.
  - Data: unbalanced panel of 63 commodity-exporting countries over 1980-2017; macro data from IMF WEO (2019) and WDI (2019); de facto regime classification from AREAER.

### Event study key findings
- Countries with floating regimes had, on average, higher growth rates than those with pegged regimes and recovered more quickly after the 2014 commodity price collapse.
- Under floating regimes:
  - REER depreciated significantly after the shock.
  - Current account balance reversed from a comfortable surplus to a deficit due to a significant fall in export receipts.
- Under pegged regimes:
  - REER continued to appreciate after the shock.
  - Fiscal balance deteriorated considerably; in year t+2 most pegged countries implemented drastic fiscal consolidation.
- Public debt rose under both regime groups, but the rise is not statistically significant in either group.

### PVAR impulse-response findings (to a 10 percent fall in ToT)
- Real GDP per capita response to a 10 percent ToT decline:
  - Under fixed regimes: deteriorates by 1.2 percent and remains low in following periods.
  - Under flexible regimes: deteriorates by 0.7 percent and recovers more quickly.
- Real exchange rate (REER) response to a 10 percent ToT decline:
  - Under flexible regimes: immediate depreciation of 1.8 percent.
  - Under fixed regimes: depreciation of only 0.4 percent.
- A jump in government spending under floating regimes is observed and may have supported growth.
- Robustness: alternative controls and sensitivity analyses (e.g., excluding advanced economies) confirm that real GDP per capita response is smoother under flexible than pegged regimes.

### Determinants of exchange regime choice (logit model)
- Econometric setup: random-effects logit on an unbalanced panel of 63 commodity-exporting countries over 1980-2017; dependent variable y_{i,t} = 1 if flexible, 0 otherwise; regressors lagged one year.
- Main empirical findings:
  - No clear and robust set of macroeconomic, structural, or institutional variables systematically explains regime choice.
  - Significant and robust coefficients found for:
    - Level of financial development: significant in 4 of 8 specifications (positive sign).
    - Degree of export diversification: significant in 6 of 8 specifications (negative sign; higher concentration → lower probability of flexible regime).
    - Public debt-to-GDP ratio: significant in 3 of 8 specifications (positive sign).
    - Degree of capital account openness: significant with expected sign in only 2 specifications.
  - Institutional proxies used were not statistically significant determinants.
  - Number of observations varied across specifications (examples: 1374, 1204, 1086, 1011); number of groups = 63.

---

### Policy implications, transition modalities, and lessons from country experiences

### Why some commodity exporters retain pegs
- Reasons include absence of:
  - a credible alternative nominal anchor,
  - adequate capacity and infrastructure for alternative monetary frameworks,
  - tools to mitigate adverse exchange rate effects on inflation or balance sheets,
  - and a very low degree of export diversification in some economies.
- Pegged regimes can anchor inflation but require adequate fiscal and financial buffers and prudent policy frameworks.

### Policies to support prevailing pegged regimes (V.A)
- Macroeconomic and structural policies must bear adjustment burden when exchange rate cannot absorb shocks; internal devaluation may be required.
- Adequate buffers:
  - Foreign reserve buffers to defend the peg.
  - Fiscal buffers and flexible fiscal policies (countercyclical fiscal policy).
  - Build buffers during commodity booms.
- Monetary policy must be subordinated to the exchange rate objective when capital accounts are open.
- Prudent financial policies:
  - Resilient financial system to allow interest rate defense of the peg.
  - Prudential measures to limit unhedged FX positions.
- Macroprudential policy:
  - Countercyclical tools to build capital and liquidity buffers.
  - Relaxation of measures in downturns feasible only if buffers were built.
- Capital flow management measures (CFMs) and FX intervention:
  - CFMs and FX intervention may be useful in certain circumstances but should be backed by consistent macro and structural policies and used generally only in crisis situations.

### Modalities and key ingredients for transitioning to greater exchange rate flexibility (V.B)
- Reasons to exit to more flexible regimes:
  - Greater monetary policy autonomy.
  - Discourage buildup of unhedged FX positions.
  - Stimulate risk management and FX market development.
- Essential ingredients for successful transitions:
  1. A credible nominal anchor to replace the exchange rate (e.g., inflation targeting), with extensive preparation.
  2. Well-functioning FX and financial markets to conduct market-based monetary policy and facilitate risk management.
  3. Systems to facilitate and monitor FX risk management (prudential and supervisory frameworks).
  4. A coherent intervention policy consistent with the new regime.
  5. Sound macroeconomic and structural policies that boost credibility and limit volatile exchange rates.
- Box 1 operational elements:
  - Monetary policy capacity: clear mandate, operational independence, medium-term inflation target, forecasting/liquidity management, and transparency.
  - FX market development: eliminate inhibiting regulations, improve infrastructure, phase out central bank market-maker role.
  - Coherent FX intervention strategy: range from tight rules-based to discretionary; transparency on goals is important.
- More flexible pegged regimes (crawling pegs, pegs within bands):
  - Can provide a gradual path, preserve anchor role, and allow two-way exchange rate variation.
  - Risks: high capital mobility and limited buffers can make such pegs hard to sustain and encourage one-way bets.

### Pace, sequencing, and communication
- Gradual transitions through increasingly flexible pegged regimes allow time to prepare and tend to enable more orderly exits.
- Premature introduction of flexibility can be damaging; over-emphasis on preconditions can unduly prolong transition.
- Clear communication of rationale, policy steps, and sequencing is crucial for credibility.
- Early start on long-lead elements (monetary framework, market development) is recommended.

### Empirical evidence and country experiences (Box 2 and case studies)
- Ten-country analysis (5 commodity exporters: Angola, Burundi, Jamaica, Kazakhstan, Russia; 5 non-commodity exporters: Bangladesh, China, Costa Rica, Dominican Republic, Honduras) shows:
  - In six of ten cases, regime transitions involved stepping from less flexible pegs to an ultimate float, with reversals in some (Angola, Jamaica, Kazakhstan).
  - Post-exit outcomes (average comparisons of exit year and subsequent three years vs pre-exit year):
    - Growth: broadly unchanged on average; fell sharply in some (Angola, Russia) and increased in others (Burundi, Dominican Republic, Jamaica, Kazakhstan).
    - Inflation: little changed on average; rose sharply in some (Angola, Dominican Republic, Russia, China) and fell in others (Costa Rica, Jamaica, Kazakhstan).
    - Current account balance: deteriorated on average with subsequent correction.
    - Fiscal balance: limited worsening for most countries.
    - Public debt: deteriorated steadily in most countries.
    - Unemployment: deteriorated to a limited extent.
  - Event analysis of ten switchers suggests, on average: "broadly unchanged growth and inflation," "an immediate worsening of the current account that was reversed subsequently," "a steady rise in public debt," and "increased unemployment and nonperforming loans (NPLs) in the subsequent three years."
- Selected country insights:
  - Angola (2014): multiple steps, sharp depreciation, sharp inflation rise, FX scarcity constrained imports and output, fiscal tightening limited deterioration but public debt rose, NPLs increased, dollarization remained high; oil accounted for 95% of exports.
  - Costa Rica (2006–2018): gradual move through narrow bands to floating; wider bands helped lower inflation and improve growth, fiscal balance and debt; FX interventions defended bands early; Fund-supported program in 2009 helped.
  - Kazakhstan (2009–2018): large step devaluation reduced depreciation expectations; exchange rate depreciated and inflation increased initially; bank soundness worsened then improved; sovereign wealth fund helped fiscal position.
  - Russia (2008–2014): move to floating supported IT and price stability; comprehensive policy package (tight monetary policy, financial stability measures, fiscal support, reserve/fiscal cushions) helped stabilize markets; deposit dollarization fell in 2016.

### Key lessons on gradual moves to flexibility
- Gradual preparation and incremental widening of bands can:
  - Prepare markets, address fear-of-floating concerns, enable two-way exchange rate movements, reduce policy reversal risk, and stimulate market activity.
- Discrete devaluations can reduce depreciation expectations and support band credibility when accompanied by policy support.
- Supporting policies and infrastructure (monetary framework, FX market development, prudential regulation, fiscal buffers, sovereign wealth funds) are critical for durable exits.
- Weak supporting conditions risk FX scarcity, constrained imports/output, high inflation, and undermined credibility (Angola example).

---

### Conclusions and targeted policy recommendations

### Core conclusions
- From theoretical and empirical perspectives, exchange rate flexibility can serve as a shock absorber for open economies facing severe ToT shocks and ease the burden of adjustment.
- Empirical findings:
  - Commodity-exporting countries with floating regimes had, on average, higher growth rates than those with pegs and recovered more quickly after the shock.
  - Countries with floating regimes had current account and fiscal balances broadly stable following the shock.
  - Pegged regimes experienced large reversals in current account balances and considerable fiscal deterioration.
  - No robust, systematic set of variables explains regime choices across commodity exporters, apart from financial development, export concentration, public debt, and to some degree capital account openness.
- For highly undiversified economies, scope for exchange rate flexibility to achieve favorable external or fiscal outcomes may be limited in the near to medium term.

### Policy recommendations (concise bullets)
- If retaining a peg:
  - Support the anchor with adequate financial and fiscal buffers (foreign reserves, fiscal buffers, sovereign wealth funds).
  - Implement prudent monetary, fiscal, financial, and structural policies so shocks are absorbed by buffers rather than the exchange rate.
  - Strengthen macroprudential frameworks to limit buildup of FX vulnerabilities and bank-sovereign feedback loops.
  - Use CFMs and FX intervention sparingly and within a consistent policy mix; under non-crisis conditions, interventions should be rules-based to signal commitment.
- If moving to more flexible regimes:
  - Ensure a credible nominal anchor replaces the exchange rate (e.g., well-prepared inflation targeting).
  - Build well-functioning FX and financial markets to enable market-based monetary policy and risk management.
  - Develop systems to monitor and manage FX risk (prudential supervision, derivatives markets, hedging regulations).
  - Adopt a coherent intervention policy and clear communication strategy.
  - Sequence reforms gradually, starting early on long-lead items (monetary framework, market infrastructure), and consider transitional forms (basket pegs, crawling pegs, bands) where appropriate.
- For all commodity exporters:
  - Pursue structural reforms to diversify the export base, increase labor/product market flexibility, and strengthen institutions to reduce vulnerability to ToT shocks.
  - Balance caution with timely reform to avoid disorderly, market-forced exits that can cause sharp depreciations, inflation spikes, financial stress, and rises in public debt.

### Implications for Caribbean commodity exporters
- The 2014-2016 commodity shock precipitated sharp deterioration in growth, unemployment, fiscal and external balances, reserve losses, and rising public debt.
- Caribbean commodity exporters that rely heavily on a few commodities and maintain pegged/stabilized regimes should:
  - Consider the trade-offs of retaining pegs versus transitioning gradually to greater flexibility.
  - Support any chosen peg with consistent macroeconomic and structural policies and buffers.
  - Where feasible, evaluate gradual transition options (e.g., wider bands or a basket peg) while building the necessary monetary, market, and supervisory capacity.

*Source: wpiea2021104-print-pdf - 12. Evolution of Key Economic Indicators Before and After the Exit to More Flexible ER (selected content).*

### 12. Evolution of Key Economic Indicators Before and After the Exit to More Flexible ER

### 12. Evolution of Key Economic Indicators Before and After the Exit to More Flexible ER

### Introduction and context
- Between June 2014 and February 2016, global crude oil and natural gas prices fell by more than 70 percent and 57 percent, respectively, creating a severe terms-of-trade (ToT) shock for commodity-exporting economies.
- Commodity-exporting Caribbean economies are highly concentrated in a few commodities:
  - Belize: 11
  - Guyana: 46
  - Jamaica: 19
  - Suriname: 68
  - Trinidad and Tobago: 41
  (Shares are "In percent of total exports of goods and services; Average 2014-2018".)
- Many commodity exporters maintained stabilized or pegged exchange rate regimes; limited exchange rate flexibility constrained the exchange rate’s role as an automatic stabilizer during the shock.

### Stylized macroeconomic impacts of the commodity shock
- Aggregate patterns (2011-13 vs 2014-16) across regions showed:
  - Declines in exports and imports as percent of GDP, deterioration in current accounts and trade balances, increases in government and external debt ratios, and mixed effects on inflation and reserves.
- Specific regional deltas shown (Post-2014 Simple Average vs Pre-2014 Simple Average) include:
  - Nominal Effective Exchange Rate (% NEER) appreciation changes: LAC 21.47, MENA 8.93, Asia 7.36, CIS 1.33, Africa -30.54, Advanced -14.95.
  - Real Effective Exchange Rate (% REER) appreciation changes: LAC 22.20, MENA 9.93, Asia 5.33, CIS -4.62, Africa -20.36, Advanced -12.79.
  - Drop in exports as % of GDP: MENA 12.49, LAC 7.77, CIS 8.49, Africa 1.52, Asia 1.70, Advanced 5.67.
  - Deterioration in current account as % of GDP: MENA 15.31, Advanced -0.61, Africa 3.73, Asia -3.30, CIS 2.90, LAC 2.01.
  - Increase in general government gross debt (% of fiscal year GDP): MENA 9.57, Africa 14.17, CIS 5.94, Asia 2.44, LAC 4.58, Advanced -1.20.
  - Deterioration in fiscal balance as % of GDP: MENA 11.48, CIS 3.38, Africa 2.97, Asia -3.69, LAC 0.74, Advanced -0.59.

### Differences across exchange rate regime groups (fixed, flexible, switchers)
- Nominal and real exchange rate movements (Post-2014 vs Pre-2014):
  - % NEER Appreciation: Fixed -1.94, Flex -14.95, Switchers -14.34.
  - % REER Appreciation: Fixed -2.30, Flex -12.79, Switchers 9.80.
- Trade, external, and fiscal indicators (Post-2014 vs Pre-2014):
  - Drop in exports as % of GDP: Fixed 8.87, Flex 3.08, Switchers 6.18.
  - Drop in imports as % of GDP: Fixed -0.94, Flex 1.84, Switchers 6.43.
  - Deterioration in current account as % of GDP: Fixed 9.66, Flex 0.51, Switchers -1.70.
  - Deterioration in trade balance as % of GDP: Fixed 9.83, Flex 1.30, Switchers -0.50.
  - Deterioration in external debt as % of GDP: Fixed 8.45, Flex 19.31, Switchers 11.10.
  - Deterioration in reserves (months of imports): Fixed -0.24, Flex 0.23, Switchers 0.20.
  - Drop in real GDP growth (%): Fixed 1.55, Flex 2.11, Switchers 2.58.
  - Change in inflation (period average, %): Fixed -1.30, Flex 0.55, Switchers -1.61.
  - Increase in general government gross debt (% of fiscal year GDP): Fixed 9.48, Flex 9.93, Switchers 6.65.
  - Deterioration in fiscal balance as % of GDP: Fixed 7.35, Flex 1.51, Switchers 2.91.

### Empirical approaches used in the analysis
- Event study and panel vector autoregression (PVAR) approaches were implemented to estimate dynamic paths after negative commodity price shocks for:
  - Real GDP growth, real effective exchange rate, inflation, fiscal performance, and external performance under alternative exchange regimes.
- A logit model, informed by optimum currency area literature, was used to analyze determinants of exchange regime choice for commodity-dependent countries.
- Country experience review to extract lessons for managing commodity shocks and for transitions to greater exchange rate flexibility.

### Core findings emphasized in the chapter
- Commodity-exporting countries with floating regimes had, on average, higher growth rates than those with pegs and recovered more quickly after a shock, indicating that greater exchange rate flexibility can build resilience to future shocks.
- There is no robust, systematic set of economic, structural, or institutional variables that explains regime choices across commodity exporters—choices reflect complex trade-offs.
- Pegged regimes require adequate financial and fiscal buffers and prudent monetary, fiscal, financial, and structural policy frameworks to prevent the exchange rate from bearing the bulk of shock absorption.
- Transitioning to greater exchange rate flexibility is feasible but complex, especially where financial markets are underdeveloped or monetary policy capacity is limited.

### Policy implications and recommendations (elements for successful transitions and sustainable regimes)
- For commodity exporters that retain an exchange rate anchor:
  - Support the anchor with adequate financial and fiscal buffers.
  - Implement prudent monetary, fiscal, and financial policies so shocks are absorbed by buffers rather than the exchange rate.
- For commodity exporters moving to more flexible regimes, essential elements include:
  - A credible nominal anchor to replace the exchange rate.
  - Well-functioning financial markets to conduct market-based monetary policy and facilitate risk management.
  - A coherent intervention policy.
  - Sound macroeconomic and structural policies that boost credibility and limit volatile exchange rates.
- Reforms to facilitate economic diversification are important to reduce over-reliance on commodity exports and to increase resilience to commodity shocks.

*Source: wpiea2021104-print-pdf - 12. Evolution of Key Economic Indicators Before and After the Exit to More Flexible ER*

### 11.      A combination of different policy measures have been adopted during the

### 11.      A combination of different policy measures have been adopted during the commodity shock period (Table 3).

### Policy measures adopted during the 2014 commodity price shock (2014-17)
- Fiscal policy
  - Massive terms-of-trade (ToT) shock translated into a massive fiscal shock for most commodity exporters, warranting large fiscal adjustments over the medium term with timing depending on fiscal buffers and access to financing.
  - Responses included:
    - Fiscal consolidation and cuts in public spending (reduced capital/current spending, hiring freezes, plans to reduce arrears and state guarantees, cuts to transfers/subsidies/grants).
    - Introduction or increase of taxes: Introduction of VAT (Bahrain, Saudi Arabia); increased non-oil taxes (Iran, Iraq, Bahrain, Oman); plans for sales/excise taxes (Iraq); tax adjustment on energy products (Algeria).
    - Use of existing fiscal/financial buffers (reserves, SWF) to absorb initial price shock (GCC countries, Algeria).
    - Setting up Medium-term Fiscal Frameworks (Algeria, Kuwait, Qatar, Saudi Arabia, UAE), macro-fiscal units (Kuwait, Oman, Qatar, Saudi Arabia, UAE), and debt management offices (Oman, Kuwait, Saudi Arabia).
    - Increased fiscal transparency (Saudi Arabia).
  - Countercyclical fiscal expansion by countries with large buffers: delayed consolidation to absorb initial shock and increased spending when prices rebounded (Some GCC countries—Kuwait, Qatar, Saudi Arabia, UAE; Chile, Peru).
  - Countries with limited buffers resorted to increased borrowing domestically or internationally or drew down bank deposits or stabilization funds.

- Debt and borrowing policies
  - Increased domestic financing (including from banks) by the public sector (Angola, Bahrain, Chad, Gabon, Kuwait, Qatar, Saudi Arabia, Trinidad and Tobago).
  - Governments increased borrowing from or drew down deposits with central banks (CEMAC countries, Algeria, Oman, Saudi Arabia, Trinidad and Tobago).
  - Drawing down of local bank deposits or stabilization/sovereign wealth funds (Algeria, Kuwait, Oman, Qatar, Saudi Arabia, Trinidad and Tobago, UAE).
  - External borrowing through international bonds (Bahrain, Kazakhstan, Qatar, Suriname) or syndicated loans (Oman, Qatar).

- Monetary and financial measures
  - Monetary tightening in many countries to prevent excessive exchange rate weakening or limit passthrough to inflation (most GCC countries, Azerbaijan, Belarus, Chile (during 2015), Colombia (mid-2015–mid-2016), Egypt, Peru (mid-2015–end-2015), Angola, Chad, Gabon, Ghana, Guinea, Jamaica, Kazakhstan, Mongolia, Namibia, Nigeria (following some reversal), Russia, Tanzania, Trinidad and Tobago, Zambia).
  - Accommodative monetary policy or easing in some countries to support activity where inflation pressures were absent (Azerbaijan, Chile (after 2017), Colombia (after 2017), Guyana, Mongolia, Nigeria (Q2-15), Peru (from 2017), Sudan, Uzbekistan).
  - Easing of credit policies to support the economy (e.g., increasing LTV for first-time buyers in Saudi Arabia; credit registry in UAE).
  - Tightening of micro/macro-prudential rules, enhanced liquidity and prudential requirements (Algeria, Bahrain, Oman), enhanced MaPP frameworks (Bahrain, Chile, Kuwait, Mongolia, Nigeria, Oman, Qatar, Saudi Arabia), introduction or enhancement of central bank laws (Iran, UAE), introduction of deposit insurance schemes (Kenya, Nigeria, Tanzania, CEMAC countries).

- Exchange rate policy and administrative controls
  - Maintained pegged regimes through FX intervention (GCC, CEMAC countries; Belize, Bolivia, Ecuador).
  - Official depreciation under existing arrangements to adjust to lower prices (Algeria, Angola, Azerbaijan, Chile, Colombia, Ghana, Guinea, Guyana (small), Iran, Nigeria, Peru, Suriname, Tajikistan, Trinidad & Tobago (small), Uzbekistan, Zambia).
  - Moves to greater exchange rate flexibility (Armenia, Belarus, Burundi, Dem. Rep of Congo, Jamaica, Kazakhstan, Russia, Switzerland, Venezuela).
  - Reversal to tighter management or stabilization after initial greater flexibility in some countries (Angola, Azerbaijan, Egypt, Guinea, Libya, Suriname, Tajikistan, Tanzania, Trinidad & Tobago, Turkmenistan, Uzbekistan).
  - Exchange restrictions and administrative FX controls were used in several countries (Algeria, Angola, Azerbaijan, Belarus, Libya, Mauritania, Nigeria, Saudi Arabia, Sudan, Suriname, Trinidad and Tobago, Turkmenistan, Uzbekistan, Venezuela), sometimes leading to increased parallel market rates.
  - Easing of capital market restrictions for foreign investors to attract inflows (Saudi Arabia).

- Energy/subsidy and structural measures
  - Energy price increases and energy price reforms (2015/16 and from late 2015) in many countries (all GCC countries, Algeria, Iran, Yemen; reforms in Algeria, Bahrain, Iraq, Kuwait, Oman, Qatar, Saudi Arabia).
  - Declines in energy subsidies (Algeria, Egypt, Kazakhstan, Kuwait, Mauritania, Nigeria, Oman, Qatar, Sudan, Trinidad & Tobago, UAE, Yemen).
  - Reemergence or increases in energy subsidies in some cases (Bahrain, Namibia, Russia, Sub-Saharan Africa in 2017/18).
  - Targeted social transfers to the poor and increases in social welfare transfers in some cases (Yemen).
  - Introduction of automatic pricing formulas indexed to international benchmarks in some GCC economies (Kuwait, Oman, Qatar, UAE).
  - Structural policies to increase private sector role (PPP, privatization plans), labor market measures (wage/hiring freezes, wage increases, wage reductions, labor market flexibility), diversification away from commodities (financial services, transport, tourism, food processing), and improvements to business environment (corporate bankruptcy law, modernized investment and labor laws).

### Fiscal outcomes and adjustments
- Despite large adjustments, fiscal positions overall remained weaker than before the shock, implying that more adjustment is needed.
- Evidence suggests exchange rate regimes influenced fiscal adjustment:
  - Countries with pegged regimes on average experienced a larger overall fiscal deterioration compared to those with flexible rates (Figure 2 in source).
  - Pegged-regime countries had an overall larger adjustment in noncommodity fiscal balance from two years after the shock.
- Examples:
  - Chile and Peru (flexible regimes) increased spending to accommodate the price shock through countercyclical fiscal policies supported by adequate fiscal space and medium-term fiscal frameworks.
- Timing of consolidation varied:
  - Countries with large fiscal buffers delayed consolidation to absorb initial shock and then tightened once price declines continued.
  - Those with limited buffers increased borrowing or drew down reserves/stabilization funds.

### Exchange rate regime developments and role as shock absorber
- Some commodity exporters allowed exchange rates to adjust, sometimes with significant lag after the shock.
  - Several with pegged regimes shifted to more flexible regimes with initial sharp depreciation (Armenia, Belarus, Burundi, Democratic Republic of Congo, Jamaica, Kazakhstan, Russia, Venezuela).
  - Others maintained pegged regimes or returned to soft pegs after an initial float.
  - A number implemented gradual or step-wise adjustments under existing stabilized arrangements or before reversing the float (Angola, Azerbaijan, Guyana, Iran, Nigeria, Sudan, Suriname, Tajikistan, Trinidad and Tobago, Uzbekistan).
- Two thirds of commodity exporters continued with (hard or soft) pegged regimes as of end-2017, limiting the exchange rate’s potential role as a shock absorber (Tables 4 and 5).

### Structural policies and resilience
- Structural reforms aimed at limiting adverse effects and enhancing absorptive capacity/resilience included:
  - Banking reforms and strategies for state-owned bank challenges.
  - Wage/hiring freezes as part of fiscal consolidation.
  - Policies to increase labor market flexibility and raise labor productivity (investing in education and innovation).
  - Diversification of export base and reducing dependence on the oil sector.
  - Measures to strengthen the business climate and diversify energy sources, including renewables.

### Empirical evidence on exchange rate flexibility as a shock absorber
- Literature overview:
  - Flexible exchange rates are viewed as a key shock absorber for small open economies facing severe ToT shocks, facilitating income and expenditure-switching effects that restore external balance (Corden 1994; Eichengreen and Mason, 1998; Ötker-Robe and Vávra, 2007; Ghosh, Ostry, 2009).
  - Pegged regimes can anchor inflation and support macro stability but can increase susceptibility to financial and currency crises and constrain policy responses (Ghosh, Ostry, and Tsangarides, 2009; Mussa and others, 2000; Bubula and Ötker-Robe, 2003).
- Empirical findings cited:
  - Adler, Magud, and Werner (2017): Flexible exchange rates act as shock absorbers for positive ToT shocks, though statistically insignificant for negative ToT shocks.
  - Carrière-Swallow, Magud, and Yepéz (2017a,b): Cost of adjustment to adverse ToT shocks (sacrifice ratio) falls with exchange rate flexibility, even with dollarized balance sheets and varying passthrough.
  - Devereux and Yu (2016): Severe shocks have smaller effects with flexible exchange rates.
  - Schmitt-Grohé and Uribe (2016): In countries with downward nominal wage rigidity, large external shocks can result in lower unemployment under flexible exchange rates.
  - Carrière-Swallow, Magud, and Yepéz (2017) for 48 commodity exporters: Larger external adjustments contributed to higher growth among countries with flexible rates, which used less buffers while keeping fiscal positions balanced; but large depreciations were associated with higher inflation.
  - Sectoral differences: Manufacturing tends to be more responsive to depreciation than commodities, limiting the scope for exchange rate–led external adjustment in commodity-exporters (Carrière-Swallow, Magud, and Yepéz, 2017; IMF, 2017; Behar and Fouejieu, 2016).
- Key caveats for commodity exporters:
  - Less diversified economies with limited non-oil export sectors, globally-determined export prices, high import dependence, and labor market rigidities (wage stickiness, high reservation wages) can limit income and expenditure-switching effects under exchange rate flexibility.

*Italicized source: wpiea2021104-print-pdf - 11.      A combination of different policy measures have been adopted during the*

### 21.      In what follows, this paper explores the role of exchange rate flexibility as a

### 21. In what follows, this paper explores the role of exchange rate flexibility as a shock absorber

### A. An Event Study Approach
- Design:
  - Period t denotes 2014, the year of commodity price collapse; pre-event period = t-1 to t-4, post-event period = t+1 to t+4.
  - Sample split into pegged regime group (hard and soft pegs) and floating regime group (floating, managed floating, and free floating regimes).
  - Excluded from analysis: the 13 countries that changed regimes over the sample period and the five countries with political instability during the sample period.
  - Note: Pre-2014 is the average of 2010-2013, and post-2014 is the average of 2014-2017.
- Key findings:
  - Countries with floating regimes had, on average, higher growth rates than those with pegged regimes and recovered more quickly after the 2014 commodity price collapse.
  - Differences in growth performance across the two episodes are statistically significant (based on t-tests) only for pegged regimes.
  - Under floating regimes:
    - Real effective exchange rate (REER) depreciated significantly after the shock.
    - Current account balance reversed from a comfortable surplus to a deficit due to a significant fall in export receipts.
  - Under pegged regimes:
    - REER continued to appreciate after the shock.
    - Fiscal balance deteriorated considerably; in year t+2 most pegged countries implemented drastic fiscal consolidation.
  - Public debt rose under both regime groups, but the rise is not statistically significant in either group.
- Regime classifications used in the event study:
  - Pegged regimes include: no separate legal tender (currency unions and fully-dollarized economies), currency boards, conventional pegs, stabilized arrangements, pegged exchange rates within horizontal bands, crawling pegs, and crawl-like arrangements.
  - Flexible regimes include: floating, other managed floating, and free floating regimes.
- Country-sample notes:
  - Commodity-exporting countries are defined where the ratio of commodity exports to total exports is around 20% on average in a given decade.

### B. The PVAR Approach
- Purpose and advantages:
  - Use PVAR to assess dynamic relationships between macroeconomic volatility and exchange rate regimes while controlling for other factors.
  - PVAR captures static and dynamic interdependencies and accounts for cross-sectional heterogeneities.
- Model specification (reduced-panel VAR):
  - Equation form: Y_i,t = A(L) Y_i,t + C X_i,t + δ_i + u_i,t
  - Endogenous variable vector Y_i,t = [lnctt_i,t, lny_i,t, lngov_i,t, lnreer_i,t, lncpi_i,t]’ where:
    - lnctt_i,t = commodity Terms of Trade (ToT) index (log)
    - lny_i,t = real GDP per capita (log)
    - lngov_i,t = real government consumption growth (log)
    - lnreer_i,t = real effective exchange rate (log)
    - lncpi_i,t = consumer price index (log)
  - A(L) is a matrix polynomial in the lag operator of order q = 1. The lag length has been chosen using the Akaike information criteria.
  - X_i,t includes exogenous control variables; δ_i are time-invariant country-specific factors; u_i,t are structural error terms.
- Control variables in X_i,t (all in log format):
  - lnpop_i,t = log of population (size of the economy)
  - findev_i,t = level of financial development proxied by broad money as a percentage of GDP
  - open_i,t = degree of trade openness proxied by (exports + imports) as percentage of GDP
- Identification of regime-differentiated dynamics:
  - Allow A(L) and C to differ across regimes by interacting them with regime dummy R_i,t where R_i,t = 1 if regime is flexible and 0 otherwise.
  - To avoid regime-switch impacts, include only observations where R_i,t−1 = R_i,t = R_i,t+1 (same regime for at least 3 consecutive periods).
- Estimation method:
  - Time-invariant country-specific factors included to relax homogeneous-coefficient assumption.
  - Presence of lagged dependent variables and fixed effects creates Nickell (1981) bias; Generalized Method of Moments (GMM) used for consistent estimation.
- ToT shock identification:
  - Use country-specific commodity ToT measures that weight export/import commodity composition by GDP (Appendix 1) rather than aggregate commodity price indices, to better reflect country-specific windfall gains and losses.
- Data and sample:
  - Unbalanced panel of 63 commodity-exporting countries over 1980-2017.
  - Macroeconomic data from IMF’s World Economic Outlook database (2019) and World Bank’s World Development Indicators (2019).
  - De facto exchange regime classification from IMF’s AREAER (10 regime categories grouped into pegged vs floating as above).
- PVAR impulse-response function (IRF) findings:
  - IRFs to a 10 percent fall in ToT show that a negative ToT shock has a recessionary and statistically significant impact under both fixed and flexible regimes.
  - Real GDP per capita response to a 10 percent ToT decline:
    - Under fixed regimes: deteriorates by 1.2 percent and remains low in following periods.
    - Under flexible regimes: deteriorates by 0.7 percent and recovers more quickly.
  - Real exchange rate (REER) response to a 10 percent ToT decline:
    - Under flexible regimes: immediate depreciation of 1.8 percent.
    - Under fixed regimes: depreciation of only 0.4 percent.
  - A jump in government spending under floating regimes is observed and may have supported growth.
- Robustness checks:
  - Alternative control variables considered one at a time in baseline Equation (1): share of commodity exports in total exports of goods and services; existence of buffers proxied by foreign reserves in months of imports; alternative indicators of financial development; institutional variables (corruption, law and order, quality of government bureaucracy, index of government stability); change in current account balance as percentage of GDP; overall fiscal balance as endogenous variable instead of real government consumption.
  - Results remain: real GDP per capita response to adverse ToT shock is smoother under flexible than pegged regimes (in terms of depth of drop and pace of recovery).
  - Additional sensitivity analyses (e.g., exclusion of advanced economies and non-oil commodity-exporting countries) confirm robustness.

### IV. Assessing the Exchange Rate Regime Choice
- Framing and key considerations:
  - Given less disruptive adjustment to commodity price shocks under flexible exchange rates, question arises why many commodity exporters maintain pegged regimes.
  - Optimum Currency Area (OCA) literature (Mundell, 1961) provides criteria relevant to regime choice.
- Conditions favoring pegged regimes:
  - Low inflation and low capital mobility.
  - High reserve levels and high trade integration with the anchor country.
  - Shocks that are nominal in nature or similar to those of the anchor country.
  - Flexible labor markets and fiscal policy.
  - Well-diversified production/export base.
  - Business cycle synchronization with anchor country and lack of monetary policy credibility to achieve disinflation.
- Considerations favoring flexible regimes:
  - In the absence of flexible fiscal policy and labor/product markets, flexible exchange rates can facilitate relative price adjustment and labor reallocation to reduce negative effects of demand shifts.
- Trade-offs in regime choice:
  - The chosen regime should yield:
    - International competitiveness
    - External stability (low trade and current account imbalances)
    - Internal stability (low inflation)
    - Balance sheet stability
    - Credible monetary policy
    - Low transaction costs
  - Excessive exchange rate volatility can raise transaction costs in international trade and finance by increasing uncertainty.
  - Various criteria affecting regime choice may clash, making the regime choice a challenge.

*Italic: Source — wpiea2021104-print-pdf (selected content: sections 21–35).*

### 36.      Actual regime choices may, therefore, differ from what is suggested by the

### wpiea2021104-print-pdf - 36.      Actual regime choices may, therefore, differ from what is suggested by the 

### Factors Affecting the Choice of Exchange Rate Regime for Commodity Exporters (summary of Table 6)
- Initial Conditions
  - Very high inflation: Greater need for frequent exchange rate adjustments; feasible regimes include free or managed float, wide bands around a central parity, or a crawling peg. For hyperinflation with low inflation inertia and unstable money demand, more rigid pegs may increase credibility and achieve rapid disinflation.
  - Large external imbalance: Larger initial external imbalances increase the need for a more flexible exchange rate (crawling pegs or free/managed floating rates).
  - Level of foreign reserves: Lower international reserves make maintaining a peg or narrow bands less feasible, unless monetary policy is subordinated to the exchange rate objective.
- Characteristics of the economy
  - Size of the economy: The larger the economy, the stronger the case for a flexible rate.
  - Openness: More openness strengthens the case for a fixed rate or narrow bands because of transaction costs, but openness also raises vulnerability to external shocks, which may require greater flexibility.
  - Diversification of exports/output: Greater diversification reduces vulnerability to terms of trade shocks and reduces need for exchange rate flexibility; lack of diversification makes a pegged regime limiting for absorbing shocks.
  - Trade and political integration: Higher trade integration strengthens the case for a pegged exchange rate or common currency.
  - Flexibility of labor markets: Less flexible labor markets strengthen the case for more flexible exchange rates (including pegs within bands).
  - Fiscal flexibility / sustainability: Fiscal sustainability facilitates survival of a pegged regime; fiscal flexibility is important to sustain a peg when the exchange rate cannot absorb shocks.
  - Mobility of capital: High capital mobility may constrain pegged rates and pegs within narrow bands; pegged and intermediate regimes have been found to be more crisis prone. Greater exchange rate flexibility can help respond to strong capital inflows and discourage short-term speculative inflows.
  - Financial market development: Greater financial market development makes flexible regimes more feasible.
  - FX exposure: Greater public, private, and financial FX exposure (and higher share of FX liabilities) makes exchange rate flexibility less desirable.
- Type of shocks to the economy
  - Foreign nominal shocks: More prevalent foreign nominal shocks increase desirability of greater exchange rate flexibility.
  - Domestic nominal shocks: More prevalent domestic nominal shocks increase desirability of pegged exchange rates.
  - Real shocks: Greater susceptibility to real shocks increases benefits of greater exchange rate flexibility.
  - Asymmetric shocks: More asymmetric shocks between the country and its trading partners make more flexible rates desirable.
- Policymakers’ objectives
  - Inflation reduction: If rapid disinflation is the priority, pegged regimes may be preferable.
  - Correcting external imbalances: If restoring competitiveness and reducing external imbalances is the priority, more flexible regimes (e.g., crawling pegs, wide crawling or fixed bands) may be preferable.
  - Output stabilization: If output stabilization is the main objective, more flexible regimes may be preferable.
- Credibility of policymakers
  - Lower anti-inflation credibility increases attractiveness of a pegged exchange rate as a nominal anchor by borrowing credibility from a partner country central bank.

### Empirical analysis of exchange rate regime choice for commodity exporters
- Econometric specification (as given):
  - y_{i,t} = x′_{i,t-1} β + c′_{i,t-1} α + w′_{i,t-1} δ + ε_{i,t}
  - Where i denotes the country and t denotes time. β, α, and δ are parameters to be estimated; x, c, and w represent the exogenous and control variables. The dependent variable (y) is a dummy that takes the value 1 if the exchange rate in country i is flexible and 0 otherwise. A positive sign for an estimated coefficient means that an increase in the associated variable implies a higher probability of choosing a flexible regime, compared to a pegged regime.
- Control variable groups:
  1. OCA factors: degree of trade openness (sum of total exports and imports relative to GDP); economic size (total population or GDP); export diversification (export concentration index); level of development (real GDP per capita); capital account openness (capital control index); financial development (IMF financial development index).
  2. Country-specific macroeconomic factors and initial conditions: exchange rate volatility; foreign reserves in months of imports; inflation rate and inflation volatility; terms of trade; current account balance; fiscal room (overall fiscal balance); public debt.
  3. Institutional factors: proxies for independence and credibility of monetary policy, democratic institutions, and political stability.
- Data and estimation:
  - Unbalanced panel of 63 commodity-exporting countries over the period 1980-2017.
  - Random-effects logit model used to estimate probability of choosing a flexible exchange rate regime; alternatives (pooled-logit and random-effects probit) do not significantly affect results.
  - All independent variables are lagged by one year to address endogeneity.
- Main empirical findings (reported in Table 7):
  - No clear and robust set of macroeconomic, structural, or institutional variables systematically explains exchange rate regime choice.
  - Significant and robust estimates obtained for a few control variables:
    - Level of financial development: significant coefficient in 4 out of 8 specifications, with the expected positive sign.
    - Degree of export diversification: significant coefficient in 6 of the 8 specifications, with a negative sign (higher export concentration → lower probability of adopting a flexible regime).
    - Public debt-to-GDP ratio: significant in 3 of 8 specifications, with an expected positive sign.
    - Degree of capital account openness: significant with the expected sign in only 2 specifications.
  - Size has a positive and significant coefficient in one specification.
  - None of the available institutional proxies used seem statistically significant determinants of regime choice.
- Estimation notes:
  - Number of observations varies across specifications (table shows counts such as 1374, 1204, 1374, 1374, 1086, 1011, 1372, 1202, 1011).
  - Number of groups = 63.
  - Notes in Table 7: All regressions estimated by a random-effects logit model. Robust z-values are in bold. *, **, and *** indicate statistical significance at 1, 5, and 10 percent levels.

### Policies to support exchange rate regime choices and transitions (Section V)
- General framing (paragraphs 41–42):
  - Some commodity exporters may judge maintaining pegged exchange rates to be the preferred or only viable choice.
  - Credibly committing to low inflation may be challenging without a strong institutional track record; pegged regimes may be seen as best to deliver price stability where exchange rate stability is important for price stability.
  - Until a track record is established, reducing shock vulnerability may call for commitment to an exchange rate anchor supported by prudent macroeconomic and structural policy frameworks and avoiding policies that can add to market pressures.
  - Two policy tracks discussed:
    - V.A: Sustaining existing pegged or tightly managed exchange rate regimes.
    - V.B: Modalities and key ingredients for transitioning to greater exchange rate flexibility.
- A. Supporting the Prevailing Pegged Exchange Rate Regime
  - Macroeconomic and structural policies must bear adjustment burden when the exchange rate cannot absorb external shocks; internal devaluation may be needed (prices, wages, employment).
  - Increasing flexibility in product and labor markets and diversifying the product base reduces dependence on shock-exposed sectors.
  - Adequate buffers are essential:
    - Foreign reserve buffers are critical to defend the peg.
    - Fiscal buffers and flexible fiscal policies (countercyclical fiscal policy) help respond to shocks.
    - Building buffers during commodity booms provides resources to support relaxed fiscal policy when the cycle turns.
    - In absence of fiscal space, credible fiscal consolidation becomes crucial to sustain the peg and limit debt accumulation.
  - Monetary policy must be subordinated to the exchange rate objective in economies with open capital accounts and pressure on reserves; monetary policy inconsistent with the peg makes it vulnerable to market pressure.
  - Prudent financial policies are key:
    - A resilient financial system allows room to tighten interest rates to defend the peg and reduces fiscal/financial stability effects of defense.
    - Weak financial systems exacerbate exchange market pressures by raising doubts about authorities’ willingness/ability to defend the exchange rate through interest rate hikes.
    - Resilience to FX risks is important under a peg that encourages foreign currency borrowing; prudential measures can limit buildup of unhedged positions.
  - Macroprudential policy:
    - Countercyclical macroprudential policy can mitigate systemic risk buildup arising from feedback loops between growth, commodity prices, financial asset prices, export revenues, and government spending.
    - Countercyclical tools can help financial institutions build capital and liquidity buffers, especially where bank-sovereign linkages are prominent.
    - Relaxation of macroprudential measures in downturns is feasible only if buffers were built beforehand.
    - GCC countries and some advanced oil-producing countries implemented macroprudential tools to build financial sector resilience.
  - Capital flow management measures (CFMs) and FX market intervention:
    - CFMs and FX intervention may be useful to defend the peg in certain circumstances.
    - A consistent set of macroeconomic, structural, and financial sector policies should be the first line of defense.
    - CFMs should generally be used only in crisis situations or when a crisis is imminent.
    - In fixed-rate regimes with limited scope for exchange rate adjustments, unsterilized FX market intervention may be needed to support necessary policy adjustments.
    - Under non-crisis conditions, interventions in a fixed exchange rate regime should be rules-based to signal commitment to maintaining the peg.
- B. Moving to Greater Exchange Rate Flexibility
  - Reasons to switch to more flexible rates:
    - Provide greater monetary policy autonomy and flexibility to respond to sharp commodity price fluctuations.
    - Discourage buildup of large unhedged foreign currency positions and limit one-way bets against the currency by reducing implicit exchange rate guarantees.
    - Stimulate prudent risk management and FX market development.
  - Essential ingredients for successful transitions:
    1. A credible nominal anchor to guide inflation expectations under the new monetary framework.
    2. A well-functioning FX market that facilitates management of exchange rate risks.
    3. Systems to facilitate and monitor FX risk management.
    4. A coherent intervention policy consistent with the new regime.
  - Sound macroeconomic and structural policies underpin the transition by establishing fiscal and monetary discipline and a resilient financial system capable of coping with FX risks.

*Italic: Source: wpiea2021104-print-pdf (selected content as provided).*

### 51.      Establishing these ingredients takes time and requires substantial capacity-

### Establishing these ingredients takes time and requires substantial capacity-building efforts.

### What regime to exit to
- The choice of exit regime matters most when the exit is under authorities’ initiative during a period of relative calm; under market pressure the country typically has "no choice but to float" and "endure a sharp depreciation until credibility is restored."
- Literature guidance: more flexible forms of pegs or a float are preferred when:
  - inflation and capital mobility is high,
  - reserve levels are low,
  - labor market and fiscal flexibility is limited,
  - production and exports are not well-diversified, and
  - typical shocks are real rather than nominal in nature.
- A basket peg can offer flexibility for economies with "a limited degree of economic diversification" by reducing effective exchange rate variability and avoiding large bilateral moves.
- Credibility of a basket peg is supported by: disclosing basket composition and weights, and a consistent policy mix.

### Ingredients of a successful move to exchange rate flexibility (Box 1)
- Alternative nominal anchor and monetary policy framework:
  - Under flexibility, the exchange rate anchor must be replaced with a new nominal anchor and a redesigned monetary policy framework.
  - Many countries favored inflation targeting (IT), but a credible IT "requires extensive preparation" and planning ahead is critical.
  - In gradual exits, adoption of full-fledged IT "followed a lengthy transition period" and inflation and exchange rate targets were "pursued simultaneously in the interim."
  - In fast exits, adopting IT "started after the float," requiring intensive capacity building.
- Effective capacity for monetary policy implementation:
  - Needed elements include: a clear mandate and operational independence to pursue price stability; a publicly announced medium-term inflation target; technical capacity for a transparent forward-looking strategy; a clear framework for monetary control aligning short-term rates with policy stance; a framework for forecasting and managing banking system liquidity; and effective communication with the market.
  - "Efforts to establish this capacity need to begin well before the introduction of flexibility."
  - "Reasonably well-developed financial markets support the interest rate channel"; their absence undermines monetary control.
- Systems to manage exchange rate risks:
  - Market participants need internal risk management and information systems; prudential and supervisory frameworks must monitor direct and indirect exposures.
  - Early investment in these capacities can reduce the risk and mitigate the cost of disorderly exits and limit contagion.
  - Development of derivatives markets and explicit regulation/recognition of FX risks is advisable; "introducing flexibility through increasingly more flexible forms of a peg" can reinforce FX risk management capacity.
- FX market development:
  - A liquid and efficient FX market is required for price discovery; developing it requires eliminating market-inhibiting regulations, improving infrastructure, and increasing information flows while phasing out central bank market-maker role.
  - Deepening FX markets is gradual and "begins generally after some exchange rate flexibility is permitted." Spot FX markets usually develop first, followed by derivatives and related prudential regulation.
- Coherent FX intervention strategy:
  - Important to signal commitment to a market-determined rate and avoid confusing messages.
  - Intervention strategies range from "a tight rules-based approach" to "high discretion with virtually no intervention."
  - Transparency on the goal of intervention is important, especially after forced exits.
  - Correcting significant misalignments is often a first step; delaying flexibility with misalignment risks loss of reserves and one-way bets.

### More flexible pegged regimes and their role
- More flexible pegs (crawling pegs; pegs within (fixed/crawling) bands) provide greater shock coping ability while anchoring inflation expectations.
- Crawling pegs allow periodic adjustment; they can serve as an inflation anchor if "the rate of crawl is set less than inflation differentials with trading partners."
- Narrow currency bands provide limited flexibility while building the ingredients of a fully-flexible regime.
- Risks: "High capital mobility could make it difficult to sustain such pegs in the absence of ample reserve/fiscal buffers or consistent mix of policies"; limited flexibility may encourage one-way bets.
- More flexible pegged regimes within wider (fixed/crawling) bands "offer greater flexibility, while preserving the anchor role of the exchange rate."

### Modalities and pace of transition to greater flexibility
- Pace:
  - Gradual transitions through increasingly flexible pegged regimes allow time to prepare and tend to enable more orderly exits.
  - Premature introduction of exchange rate flexibility can be damaging and make reversals more likely.
  - Over-emphasis on meeting all preconditions can unduly prolong transition, increasing risk of a disorderly market-forced exit.
  - It is important to "strike the right balance between being cautious and taking advantage of the mutually-reinforcing relationship between flexibility and capacity building."
- Accompanying policies:
  - Exits should be accompanied by prudent macroeconomic and structural policies to prevent overshooting or immediate hitting of band edges.
  - Strong policies helped stabilize markets after abrupt exits under market pressure; comprehensive policy packages addressing root causes of market pressures are crucial.
- Communication:
  - Clear communication is necessary: explain rationale, planned short/medium-term policy steps, and present the regime change as part of a comprehensive policy strategy emphasizing monetary and fiscal discipline and structural policies.
  - Determining the appropriate level of transparency is challenging but "crucial for the new regime’s credibility."
- Sequencing:
  - No unique sequencing exists; allowing flexibility early can permit two-way exchange rate variations, limit one-way bets, stimulate markets, and provide incentives for risk management.
  - Elements that take longest to build (e.g., monetary framework and market development) should begin as early as possible.
  - Agreeing on transition principles and features of the eventual regime can help establish an exit framework.

### Empirical evidence and country experiences
- Examples:
  - Countries forced out of pegs under market pressure: Brazil, the Czech Republic, and Uruguay; level of preparedness affected ease of transition.
  - Gradual transitions over "10-15 years": Chile, Israel, and Poland.
- Use of crawling pegs with narrow bands (typically "less than 2 percent") has been used to smooth adjustment while preserving an exchange rate anchor (examples include Bangladesh, Burundi, China, Dominican Republic, Honduras, Jamaica, Tunisia).
- Some countries used crawling pegs then switched to floats; others reversed to stabilized arrangements or fixed pegs after initial moves.
- Band widening has been used as a step toward floating (examples: Chile, Israel, Poland in late 1980s–early 2000s; Costa Rica, Kazakhstan, Russia in late 2000s–2010s).
- An event analysis covering ten countries that switched from less flexible pegs to more flexible pegs suggests, on average:
  - "broadly unchanged growth and inflation,"
  - "an immediate worsening of the current account that was reversed subsequently,"
  - "a steady rise in public debt," and
  - "increased unemployment and nonperforming loans (NPLs) in the subsequent three years following the exit, compared to the year before the exit."
- Outcomes varied significantly across countries; a subset analysis (Angola, Costa Rica, Kazakhstan, Russia) offers deeper insights.

*Source: https://www.imf.org/-/media/files/publications/wp/2021/english/wpiea2021104-print-pdf.pdf*

### 62.      The experiences of the four countries corroborate the key lessons from the

### wpiea2021104-print-pdf - 62.      The experiences of the four countries corroborate the key lessons from the

### Key lessons on gradual moves to flexibility
- Moving to flexibility gradually, while putting in place the key ingredients of a flexible exchange rate, can help prepare markets for an eventual float and address fear-of-floating concerns (exchange rate passthrough, highly-dollarized balance sheets with mismatched currency positions, and weak monetary policy transmission).
- Design features of band regimes (with gradual and asymmetric widening of the bands) appear to have:
  - Allowed for a gradual increase in flexibility.
  - Provided greater scope for two-way exchange rate movements and ability to absorb shocks.
  - Helped reduce the risk of policy reversals.
- Discrete exchange rate adjustments around the move to a band regime and an alternative nominal anchor provided by inflation targeting regimes seem to help sustain the shift to flexibility and support positive outcomes.
- Supportive monetary, fiscal, and financial sector policies, good communication, and fiscal/financial buffers are important for:
  - Making exits durable.
  - Limiting the risk of overshooting.
  - Reversing deterioration in economic performance following the exits.
  - Lending credibility to the new regime.

### Box 2: Scope and methodology
- Objective: Examine selected commodity and non-commodity exporting countries that introduced greater exchange rate flexibility by initially moving to more flexible pegged regimes (such as crawling pegs and bands) from fixed peg or stabilized exchange rate arrangements.
- Scope:
  - Initial analysis focuses on exit episodes of ten countries: 5 commodity exporters and 5 non-commodity exporters.
  - Commodity exporters: Angola, Burundi, Jamaica, Kazakhstan, Russia.
  - Non-commodity exporters: Bangladesh, China, Costa Rica, Dominican Republic, Honduras.
  - The analysis then expands on three commodity exporters (Angola, Kazakhstan, Russia) and zooms into Costa Rica.
- Purpose: Assess how key macroeconomic aggregates behaved in the subsequent years to the exit and explore whether exits were associated with improved or worsened performance.

### Country regime transition sequences (as reported)
- Angola: Stabilized  Crawl-like (2014)  Managed Float (2015)  Stabilized (2016)  Managed Float (2018)
- Bangladesh: Stabilized  Crawl-like (2010)  Managed Float (2011)  Stabilized (2013)  Crawl-like (2017)
- Burundi: Stabilized  Crawl-like (2016)
- China: Stabilized  Crawl-like (2010)  Managed Float (2015)
- Costa Rica: Crawling peg  Widening Crawling Bands (2006)  Crawl-like/Managed Float (2015)  Floating (2018)
- Dominican Republic: Stabilized  Crawling peg / Crawl-like (within a narrow band) (2010)
- Honduras: Stabilized  Crawling peg (2011) / Crawl-like (within a narrow band) (2013)
- Jamaica: Stabilized  Crawl-like (2011)  Stabilized (2016)  Floating (2017)
- Kazakhstan: Stabilized  Fixed Band (2009)  Crawl-like (2010)  Stabilized/Crawl-like (2013)  Managed Float /Floating (2015)
- Russia: Conventional Peg  Crawl-like/Floating Band (2008)  Floating (2014)  Free Floating (2015)

### Aggregate outcomes and heterogeneity across cases
- In six of the ten cases, regime transitions involved moving in steps from less flexible pegs to an ultimate float, notwithstanding brief reversals in some cases (Angola, Jamaica, Kazakhstan).
- Some countries continued to maintain relatively more flexible pegged regimes (Bangladesh, Burundi, Dominican Republic, Honduras).
- Exchange rate movements:
  - Following the exit, exchange rates depreciated significantly in some cases, especially where exits involved a discrete currency adjustment (examples: Angola, Burundi, Costa Rica, Jamaica, Honduras, Kazakhstan).
- Macroeconomic performance (average comparisons of exit year and subsequent three years vs. pre-exit year):
  - Growth: Broadly unchanged on average, but fell sharply in some (Angola, Russia) and increased in others (Burundi, Dominican Republic, and to some extent Jamaica, Kazakhstan).
  - Inflation: Little changed on average, but rose sharply in some (Angola, Dominican Republic, Russia, China) and fell markedly in others (Costa Rica, Jamaica, Kazakhstan); more muted in Bangladesh and Honduras.
  - Current account balance: Deteriorated on average (in part reflecting real effective exchange rate appreciation), with a subsequent correction in later years.
  - Fiscal balance: Worsening was limited for most countries.
  - Public debt ratios: Deteriorated steadily in most countries.
  - Unemployment rates: Deteriorated to a limited extent in most countries.

### Deeper insights from the subset (Angola, Costa Rica, Kazakhstan, Russia)
- All four countries chose to move to floating regimes more gradually, aiming to:
  - Create monetary policy room to cope with external shocks.
  - Use the exchange rate as a built-in stabilizer.
- Common constraints and concerns that made authorities reluctant to float:
  - High exchange rate passthrough to inflation.
  - Highly-dollarized private and financial sector balance sheets with currency mismatches.
  - Weak transmission mechanisms that constrain monetary policy effectiveness.
- Rationale for intermediate regimes (crawling/floating bands):
  - Allow markets to adjust to exchange rate fluctuations while maintaining the exchange rate as a nominal anchor.
  - Provide time to establish infrastructure for floating exchange rates and inflation targeting frameworks.
- External catalysts:
  - The global financial crisis in 2007-08 and the 2014 commodity shock appear to have accelerated transitions to greater flexibility.

*Source: wpiea2021104-print-pdf - 62.*

### Box 2. Transitions to Greater Flexibility Through More Flexible Pegged Regimes (concluded)

### Box 2. Transitions to Greater Flexibility Through More Flexible Pegged Regimes (concluded)

### Key lessons from historical transitions
- Gradually putting in place the key ingredients of ER flexibility helped prepare markets for an eventual float and address fear-of-floating concerns:
  - An alternative monetary policy framework with a credible anchor.
  - Strengthened monetary policy transmission with effective instruments.
  - Well-developed money and FX markets supported by appropriate regulations and risk management tools.
  - Well-functioning banking systems.
  - Effective intervention mechanisms.
- Design features of crawling bands (e.g., asymmetric band limits or asymmetric adjustment of crawl rates) allowed bands to gradually widen, increasing scope for exchange rate movements and enabling two-way exchange rate variation.
- Gradual widening and eventual exit to band regimes and floating after sufficient preparation:
  - Reduced risk for policy reversals.
  - Decreased dollarization somewhat from high levels.
  - Stimulated market activity.
  - Helped replace gradually the exchange rate with a credible nominal anchor and reduce imbalances in the economy and FX markets.
- Large step devaluation to adjust FX market imbalances (Kazakhstan) helped reduce depreciation expectations and enabled fuller use of the band.

### Country experiences and outcomes
- Angola (2014 exit)
  - Regime transition occurred in several steps, including a reversal and step devaluations.
  - Policy considerations: desire to introduce ER flexibility to cope with oil shocks while keeping ER as main nominal anchor; concerns about high ER passthrough, high dollarization, weak monetary transmission, lack of instruments for an alternative framework.
  - Outcome: ER depreciated sharply from Sep 2014 to end-2016; inflation rose sharply; FX scarcity constrained imports and output; fiscal balance deteriorated less (fiscal tightening) but public debt rose; financial soundness indicators worsened (higher NPLs); dollarization remained high.
  - Oil accounted for 95% of exports.
- Costa Rica (first exit 2006; floating 2018)
  - Transition: Stabilized (within 2% band) → Crawl-like (within 2% band) → Managed float → Stabilized → Managed float (unannounced band vis-à-vis ε) (2018).
  - Gradual move to floating through increasingly flexible peg with asymmetric adjustments to floor/ceiling and crawl rate.
  - Intended benefits: create monetary policy room, transition to IT, address fiscal deficits and high inflation and dollarization, limit ER volatility effects.
  - Outcome: ER often stuck to band limits much of the period; FX interventions defended the band; wider bands helped lower inflation by reducing CB losses and ER passthrough; growth, fiscal balance and debt improved; progress supported in part by a Fund-supported program in 2009.
- Kazakhstan (first exit 2009)
  - Transition: Crawling peg → Crawling band (3% width → gradually widening with asymmetric adj of band limits/crawl rates; no central parity) → Crawl-like/Managed Float → Floating (2018).
  - Outcome: Large step devaluation reduced depreciation expectations; exchange rate depreciated sharply and inflation increased after float, bank soundness worsened then improved as authorities stabilized markets and improved communication; fiscal space and a large sovereign wealth fund helped keep fiscal position strong and limit financing and fiscal adjustment risks.
- Russia (first exit 2008; free floating 2014)
  - Transition: Conventional Peg (basket) → Narrow Fixed Band (±3% band) → Crawl-like/Floating Band (adjusted/widened based on FX interventions) → Floating → Free Floating (2014).
  - Policy considerations: introduce floating ER as critical component of IT and price stability; use flexibility as a built-in stabilizer; progress gradually to moderate market adjustment, protect price stability given high passthrough, and build IT infrastructure.
  - Outcome: Move to floating in 2014 was part of comprehensive response to oil shock, supported by tight monetary policy, measures to reduce financial stability risks, fiscal support measures (e.g., limiting wage indexation), availability of reserve and fiscal cushions (including a sovereign wealth fund), and good communication; depreciation added pressure on banks but RER moved toward fundamentals and inflation was brought under control; deposit dollarization fell in 2016 while loan dollarization stabilized.

### Importance of supporting policies and infrastructure
- Supporting policies and market infrastructure are critical to make exits durable and limit exchange rate overshooting:
  - Stabilizing measures, improved communication, and consistent implementation were important in Kazakhstan and Russia after sharp depreciations.
  - Fiscal space and sovereign wealth funds helped mitigate financing and fiscal adjustment risks and supported overall fiscal positions.
  - FX market development, regulations for hedging, unification of segmented money markets, and FX intervention mechanisms were instrumental (Costa Rica example).
- Risks when supporting conditions are weak (Angola example):
  - FX scarcity, administrative measures, and inability to maintain credibility for exchange rate flexibility can constrain imports and output, add to inflation pressures, and reduce ability to sustain flexibility.

### Empirical indicators around exits to more flexible ER regimes (summary of Figure 12 insights)
- Authors computed evolutions of macroeconomic indicators using year t as the first move from a less flexible to more flexible pegged regime. Indicators analyzed include:
  - GDP Growth Rates (%)
  - Inflation Rates (%)
  - Overall Fiscal Balance (Percent of GDP)
  - Government debt (Percent of GDP)
  - Current Account Balance (Percent of GDP)
  - Real Effective Exchange Rate (Index, switch year = 100)
  - Unemployment rate
  - NPL ratio
- General patterns documented around exits:
  - Flexible exchange rates dampen some external adjustment pressures but can be associated with sharp near-term depreciation and inflation spikes unless supported by policy buffers and credible frameworks.
  - Outcomes depend on accompanying policies (monetary tightening, fiscal measures, financial sector support, reserve buffers, communication).

### Conclusions and policy implications (sections VI.63–64)
- The paper reviewed policy challenges that sharp drops in commodity prices pose for commodity-exporting economies and the role of the exchange rate as a shock absorber; it analyzed quantitatively the evolution of key macroeconomic variables around commodity shocks under alternative exchange rate regimes and explored factors affecting regime choices and supporting policies.
- The severe Terms-of-Trade shock associated with collapsing commodity prices in 2014-2016 precipitated a sharp deterioration in economic performance:
  - Steep fall in economic growth.
  - Increased unemployment.
  - Deterioration in fiscal, trade and current account balances, particularly under pegged exchange rate regimes.
  - Significant loss of foreign reserves.
  - Rising public debt.
  - Sharp exchange rate depreciation under flexible exchange rates.
- Policy responses combined measures guided by availability of policy space and willingness to let the exchange rate adjust.

*Sources: AREAER reports (various issues); Cubero and others (2018); IMF Country Reports; National Central Banks; IMF Country Reports; National Central Banks; Cubero and others (2019).*

### 65.      From a theoretical and empirical viewpoint, exchange rate flexibility can serve

### From a theoretical and empirical viewpoint, exchange rate flexibility can serve as a shock absorber for open economies facing severe ToT shocks and ease the burden of adjustment

### Key empirical findings
- Commodity-exporting countries with floating regimes had, on average, higher growth rates than those with pegs and recovered more quickly after the shock (a robust result under different model specifications and methods).
- Countries with floating regimes had current account and fiscal balances broadly stable following the shock.
- Countries with pegged regimes experienced:
  - a reversal of a comfortable current account surplus with a sharp drop in export receipts, and
  - considerable fiscal deterioration.
- The empirical analysis covering 63 commodity exporters offers no robust set of economic, structural, or institutional variables that can systematically explain regime choices, apart from:
  - financial development,
  - export concentration,
  - public debt, and
  - to some degree, capital account openness.
- For highly undiversified economies, there may be limited scope for greater flexibility to help achieve more favorable external or fiscal performance following a commodity price shock in the near to medium term.

### Reasons many commodity exporters maintain pegs
- Reluctance to adopt flexible exchange rates can stem from the absence of:
  - a credible alternative anchor to protect price stability,
  - adequate capacity, infrastructure, or tools to implement alternative monetary frameworks, and
  - tools to mitigate adverse exchange rate effects on inflation or balance sheets.
- It is reasonable for some commodity exporters to retain pegged exchange rates to deliver price stability, particularly where:
  - a strong institutional track record or capacity to implement exchange rate flexibility is lacking, or
  - economies have a very low degree of export diversification.

### Preconditions and essential ingredients for moving to greater flexibility
- Successful move to flexible exchange rates requires putting in place:
  - (i) a credible nominal anchor to replace the exchange rate,
  - (ii) well-functioning financial markets to conduct market-based monetary policy and facilitate risk management,
  - (iii) a coherent intervention policy, and
  - (iv) sound macroeconomic and structural policies that boost credibility and limit volatility in the exchange rate.
- Establishing these ingredients takes time; the level of preparation shapes the pace at which greater flexibility is introduced and the ease and durability of the transition.
- Supportive policies are essential to prevent exchange rates from over-shooting, hitting immediately the edges of a band, or reversing the transition.

### Policy recommendations and strategies for countries (including Caribbean commodity exporters)
- While country-specific advice on regime choice is beyond the paper’s scope, the analyses suggest:
  - Greater exchange rate flexibility can be a potentially useful tool to build resilience to future shocks and support diversification away from heavy reliance on the commodity sector.
  - Assess potential benefits of greater flexibility through the lens of:
    - how a move could affect an economy where prices of a few key exports are set internationally,
    - high import dependence that facilitates pass-through of exchange rates to inflation,
    - potential credibility loss from replacing a long-standing exchange rate anchor, and
    - adverse effects on public/private balance sheets while financial market development and capacity for alternative monetary frameworks are still in progress.
- Where countries retain pegs, they should:
  - avoid policies that add to market pressures,
  - support the peg with adequate financial and fiscal buffers,
  - implement prudent monetary, fiscal, financial, and structural policy frameworks that can absorb shocks instead of the exchange rate,
  - increase flexibility of labor and product markets, and
  - diversify the export base.
- To mitigate the fear-of-floating and enable eventual greater flexibility:
  - address prevailing vulnerabilities in the financial system to limit adverse balance sheet effects,
  - enhance the diversity and flexibility of product and labor markets, and
  - build a credible monetary policy framework (such as inflation targeting) that could replace the exchange rate as a nominal anchor.
- Transitional regime options and considerations:
  - Basket pegs can limit the risk of excessive real appreciation/depreciation while preserving the exchange rate’s anchor role.
  - More flexible pegs (e.g., band regimes) can facilitate smooth transitions to floating by introducing exchange rate adjustment gradually and allowing authorities to address fear-of-floating concerns.
  - Two-way exchange rate variations typically help limit currency bets that could trigger policy reversals, stimulate markets, and provide incentives for risk management.

### Implications for Caribbean commodity exporters
- The recent commodity shock resulted in a sharp deterioration of fiscal, external, and growth performance for Caribbean commodity exporters that:
  - rely heavily on commodities as the main source of foreign exchange and income,
  - have a very high share of the commodity sector in economic activity, export receipts, and government revenues, and
  - maintain pegged/stabilized exchange rate regimes that rule out relative price adjustment through the exchange rate.
- The prolonged deterioration underscores the importance of building resilience to similar future shocks.
- Some commodity exporters could hold on to pegs or introduce flexibility only gradually, provided the peg is supported by a consistent mix of macroeconomic and structural policies and buffers that support the economy through the cycle.

### Appendix I — Commodity Terms-of-Trade (CTT) index (construction summary)
- For each country, the change in the commodity ToT index (CTT) corresponds to the weighted sum of annual variations in global prices of commodities, weighted by the country’s net exports of each commodity as a share of GDP (Source: Gruss, B. and S. Kebhaj (2019)).
- The change in the commodity ToT for country i in year t is obtained as the sum over commodities j of ΔP_j,t times ω_i,j,t.
- The time-varying weights are given by:
  - ω_i,j,t = 1/3 Σ_{s=1 to 3} (χ_i,j,t−s − m_i,j,t−s) / P_i,t−s
  - where:
    - P is the logarithm of the price of commodity j at period t,
    - x and (m) denote the exports (imports) value of commodity j of country i in year t,
    - ω presents the time-varying weights which reflect changes over time in the basket commodities traded but are predetermined vis-à-vis the price change in each period (this suggests that changes in the commodity ToT index reflect changes in prices only and not in the volumes traded).
- Commodities are sorted into four broad categories:
  - Energy — Coal, crude oil, and natural gas.
  - Metals — Aluminum, cobalt, copper, diamond, gold, iron ore, lead, nickel, platinum, tin, titanium, uranium, and zinc.
  - Food — Bananas, barley, beef, cocoa, coconut oil, coffee, corn, fish, fish meal, groundnuts, lamb, olive oil, oranges, palm oil, poultry, rapeseed oil, rice, shrimp, soybean meal, soybean, soybeans oil, sugar, sunflower oil, swine, tea, and wheat.
  - Raw materials — Cotton, hard logs, sawn hardwood, hides, rubber, soft logs, sawn softwood, and wool.

*Source: IMF working paper extract (pages 45–53 of the provided content).*

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_Source: https://www.imf.org/-/media/files/publications/wp/2021/english/wpiea2021104-print-pdf.pdf_