Target Zones and Realignment Expectations: The Israeli and Mexican Experience

Author/Editor:

Alejandro M. Werner

Publication Date:

November 1, 1995

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:

This paper studies the Mexican and Israeli experience with a target zone. The first part of the paper develops a model of exchange rate determination under a target zone regime with stochastic realignments, and examines the conditions under which the adoption of the target zone, instead of a fixed exchange rate, reduces the volatility of the interest rate differential. We conclude that if the variance of the expected realignment is sufficiently large, then the target zone will be useful. The second part of the paper is an empirical study that shows that the target zone regime helped reduce interest rate variability in Israel and Mexico by absorbing part of the shocks to the expected realignment with movements of the exchange rate inside the band.

Series:

Working Paper No. 1995/114

Subject:

Conventional peg Crawling peg Exchange rate adjustments Exchange rates Foreign exchange Managed exchange rates

Notes:

Also published in Staff Papers, Vol. 43, No. 3, September 1996.

English

Publication Date:

November 1, 1995

ISBN/ISSN:

9781451853766/1018-5941

Stock No:

WPIEA1141995

Pages:

20

Please address any questions about this title to publications@imf.org