Fixed Exchange Rates and the Autonomy of Monetary Policy: The Franc Zone Case

IMF Working Papers, February 1, 2007

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Compares monetary policy of currency boards with that of the franc zone during the period 1956-2005.
Concludes that monetary policy in the zone was more autonomous than under a currency board, even though both systems faced the same exchange rate constraint.
Attributes the zone's ability to combine a fixed exchange rate and a relatively autonomous monetary policy to:
- the contingency line provided by the French treasury, and
- capital controls.

Monetary policy autonomy: The franc zone exhibited greater autonomy than currency boards over 1956-2005 despite the shared constraint of a fixed exchange rate.
Role of French treasury: The contingency line from the French treasury was a central mechanism supporting the franc zone’s policy autonomy.
Capital controls: Capital controls complemented the contingency line in sustaining the fixed exchange rate while allowing policy discretion.

Financial development and zone enlargement would challenge the franc zone’s relative autonomy for two reasons:

1. the potential cost to the French treasury would increase; and 2. residents would potentially be able to avoid capital controls.

Policy implication: For the zone to maintain its fixed exchange rate, close targeting of foreign reserves would become important.

Subject: Central banks, Conventional peg, Currency boards, Exchange rates, Foreign exchange, International reserves, Monetary base, Money
Keywords: base money, Caribbean, Conventional peg, currency boards, Exchange rates, fixed exchange rate, foreign reserve target, foreign reserve threshold, franc zone, International reserves, Monetary base, monetary policy, monetary policy autonomy, monetary policy threshold, money supply, tightened monetary policy, West Africa, WP, zone member