Managed Float

11 Key excerpts on "Managed Float"

• 

  eBook - PDF

  Macroeconomics in Emerging Markets

  • Peter J. Montiel(Author)
  • 2011(Publication Date)
  • Cambridge University Press

    (Publisher)

  If a single low-inflation country represents the dominant trading partner for the domestic economy, of course, then the choice is easy: peg to that country’s currency. The optimal choice will, in general, depend on the weights placed by the domestic economy on price stability versus real exchange rate stability as well as on the distribution of trade weights across trading partners with different long-run inflation rates and different degrees of real exchange rate variability. 3. Targeting the Real Exchange Rate However, using the exchange rate as a nominal anchor is not the only reason to opt for managed rates instead of a clean float. Countries whose central banks have sufficient anti-inflationary credibility to dispense with this role of the nominal exchange rate may nonetheless opt for managed rates out of the desire to avoid the excessive volatility in the real exchange rate that might be associated with a clean float. This motivation for managing the exchange rate does not necessarily require the announcement of a central parity. A float in which the central bank intervenes to smooth out fluctuations in the exchange rate without committing itself to a central parity could achieve the desired goal. However, in this case, private agents are given no assurances about the medium-term evolution of the 458 Exchange Rate Management real exchange rate. As the experience of industrial countries under floating exchange rates shows, the real exchange rate can exhibit substantial medium-term fluctuations under this system. If the motivation for adopting a managed rate rather than a clean float was to avoid excessive noise in the real exchange rate, this situation may not be satisfactory. An alternative is to manage the central parity to stabilize the medium-term path of the real exchange rate (see Box 18.2).

  Sign up to read

  Learn more about book
• 

  eBook - ePub

  The Economics of Exchange Rates (Collected Works of Harry Johnson)

  Selected Studies

  • Jacob Frenkel, Harry Johnson, Jacob A. Frenkel, Harry G. Johnson(Authors)
  • 2013(Publication Date)
  • Routledge

    (Publisher)

  CHAPTER 3

  THE EXCHANGE RATE, THE BALANCE OF PAYMENTS, AND MONETARY AND FISCAL POLICY UNDER A REGIME OF CONTROLLED FLOATING MICHAEL MUSSA

  University of Chicago, Chicago, Illinois, USA

  ABSTRACT

  This paper considers the extension of the fundamental principles of the monetary approach to balance of payments analysis to a regime of floating exchange rates, with active intervention by the authorities to control rate movements. It makes four main points. First, the exchange rate is the relative price of different national monies, rather than national outputs, and is determined primarily by the demands and supplies of stocks of different national monies. Second, exchange rates are strongly influenced by asset holders’ expectations of future exchange rates and these expectations are influenced by beliefs concerning the future course of monetary policy. Third, “real” factors, as well as monetary factors, are important in determining the behavior of exchange rates. Fourth, the problems of policy conflict which exist under a system of fixed rates are reduced, but not eliminated, under a regime of controlled floating. A brief appendix develops some of the implications of “rational expectations” for the theory of exchange rates.

  INTRODUCTION

  The current system of controlled floating differs significantly from the exchange rate system which existed prior to 1971 and from textbook descriptions of freely flexible rates. Governments no longer seek to maintain fixed parities; neither do they forego direct intervention in the foreign exchange markets. Nevertheless, it is the central contention of this paper that the basic theoretical framework of the monetary approach to the balance of payments, developed for a fixed rate system, remains applicable. This approach emphasizes that both the balance of payments (meaning the official settlements balance) and the exchange rate are essentially monetary phenomena.1

  Sign up to read

  Learn more about book
• 

  eBook - PDF

  The People's Money

  • Paola Subacchi(Author)
  • 2016(Publication Date)
  • Columbia University Press

    (Publisher)

  Because the monetary absorption capacity of China’s domes-tic capital market is lower than those of countries with more diversified capital markets, there is a significant risk of fast-rising inflationary pressure and asset price bubbles (such as, for example, in the real estate market). Finally, the policy of managing the exchange rate is costly. As I dis-cussed in chapter 5, it tends to result in a large accumulation of dollars in the foreign exchange reserves, with significant associated costs and risks, or in a depletion of dollars when interventions are necessary to prop up the exchange rate. Switching to a fully floating exchange rate would remove— or reduce—the need to intervene in exchange markets in order to keep the exchange rate aligned with the government’s policy goals. Given all these reasons why the policy of managing the exchange rate is suboptimal, why is there so much resistance to abandoning the Managed Float and switching to a fully floating exchange rate? First, the authori-ties are concerned about currency stability. A key international currency, as the renminbi aspires to be, is expected to be stable so that foreigners con-sider it a store of value and want to hold it. Second, they are worried that a fully floating exchange rate might make the renminbi too strong and thus decrease the competitiveness of Chinese exports. As a result, there is politi-cal pressure to contain the renminbi’s potential for appreciation, especially as economic growth slows and the demand for Chinese exports softens. These defensive arguments fail to account for the fact that the renminbi exchange rate seems to be close to its equilibrium level.

  Sign up to read

  Learn more about book
• 

  eBook - ePub

  Strengthening the International Monetary System : Exchange Rates, Surveillance, and Objective Indicators

  • Andrew Crockett, and Morris Goldstein(Authors)
  • 1987(Publication Date)
  • INTERNATIONAL MONETARY FUND

    (Publisher)

  One reason why floating rates seemed attractive in the latter years of the par value system was that by then the incompatibility of fixed exchange rates, high international mobility of capital, and independence for domestic monetary policies had become readily apparent. This was particularly the case in the Federal Republic of Germany and Switzerland where restrictive monetary measures (taken to avoid imported inflation) brought forth an unending sequence of capital inflows, official intervention to support the U.S. dollar, and more capital inflows. Floating rates offered a way out of that dilemma. Specifically, since there would no longer be an obligation to use exchange market intervention to peg the exchange rate, exchange market pressure could take the form of exchange rate changes rather than reserve movements and the foreign component of the monetary base would be stable. In short, floating rates would allow countries to regain control over their own money supplies. A second attraction was that floating rates, at least in theory, were supposed to strengthen the output and employment effects of expansionary monetary policy via the positive effects of the induced exchange rate depreciation on the trade balance.

  More than a decade later, even the supporters of the present system would probably acknowledge that the case for the independence and effectiveness of monetary policy under floating rates was exaggerated. Many of the constraints on monetary policy seem in retrospect to be as much related to the openness of national economies as to the exchange rate regime per se. These constraints show up in either a reduced ability to control the instruments of monetary policy (the nominal money supply under fixed rates), or a reduced ability to control some of the targets of monetary policy (the level of real output), or an increased caution in the use of monetary policy because of potentially dangerous effects on expectations.

  Still, supporters of the present system maintain that floating rates have been instrumental in facilitating “. . . the pursuit of sound monetary policies geared more directly to domestic conditions.” 49

  Sign up to read

  Learn more about book
• 

  eBook - PDF

  International Macroeconomics

  • Peter J. Montiel(Author)
  • 2015(Publication Date)
  • Wiley-Blackwell

    (Publisher)

  They would include situations in which: 1 A hard fixed exchange rate is perceived to be useful because a country is very open and its trade is dominated by a single trading partner with stable prices. 2 The domestic central bank suffers from a time inconsistency problem, so gaining anti- inflationary credibility is very important. 3 Either domestic wages and prices are very flexible or, if they are not, the types of shocks to which the economy is typically vulnerable are such that a fixed exchange rate does a reasonably good job in providing some automatic stabilization. This would be the case if shocks to the economy are dominated by monetary shocks or if external financial shocks are very important and the structure of the economy is such that a fixed exchange rate provides the best insulation from such shocks. By contrast, under what conditions might countries prefer to adopt floating exchange rate regimes? Several such conditions are suggested by the preceding discussion: 1 When the economy is relatively closed, so transactions costs in international commerce are not very important. 2 When long-run price stability is not a problem, because the country possesses an independent central bank with a well-established anti-inflationary reputation. 390 Floating Exchange Rates 3 When aggregate demand shocks are important and domestic wages and prices are sticky in nominal terms. 15.5 Summary Having separately analyzed, in Parts 2 and 3 of this book respectively, how small open economies operate under fixed and floating exchange rates, it is only natural to ask which exchange rate regime is best. In this chapter we have seen that the definition of ‘‘best’’ depends on the criterion by which one chooses to evaluate exchange rate regimes. Trad- itionally, three criteria have been used: the reduction of costs in international commerce, the stabilization of the domestic price level, and short-run stabilization of the economy in response to exogenous shocks.

  Sign up to read

  Learn more about book
• 

  eBook - PDF

  International Financial Markets

  The Challenge of Globalization

  • Leonardo Auernheimer(Author)
  • 2010(Publication Date)
  • University of Chicago Press

    (Publisher)

  Traditionally, economists have expressed serious concerns about the prospect that a small open economy (or, for that matter, a developing or emerging economy) may adopt a floating exchange regime. Edwards (2000) usefully summarized these concerns as follows: 9 1. Since emerging countries tend to export commodities or light manu-factures, a floating exchange rate would be excessively volatile; 2. Emerging countries do not have the institutional requirements for un-dertaking effective monetary policy under purely floating exchange rates, being unable to apply the type of feedback rule required for im-plementing an effective inflation-targeting system; 3. Some authors 10 have argued that in a world with high capital mobility, incomplete information, fads, rumors, and dollar-denominated liabili-ties, the monetary authorities would be severely affected by a “fear of floating.” This is because significant exchange rate movements—in par-ticular, large depreciations—would tend to have negative effects on in-flation, the corporate debt, and the banking system. In reality, accord-ing to their story, developing countries would be “closet peggers,” making every effort through interest rate manipulations to avoid large exchange rate fluctuations. Note that there seems to be an inconsistency between the last two concerns. In the second, it is hinted that the monetary authorities lack the savvy to influence interest rates to achieve an inflation objective—or The Experience with a Floating Exchange Rate Regime 237 Fig. 6.4 GDP Growth and Inflation putting it more broadly, for monetary policy to effectively become the nominal anchor of the economy. In the third concern it is implied that au-thorities have the ability to manipulate interest rates to such an extent that the exchange rate will remain basically stable, becoming the nominal an-chor of the economy. In what follows we will address these concerns for the particular case of Mexico.

  Sign up to read

  Learn more about book
• 

  eBook - PDF

  Flexible Exchange Rates

  • Jan Herin(Author)
  • 2019(Publication Date)
  • Routledge

    (Publisher)

  Journal of Monetary Economic8 1, No.4, October 1975a. Mussa, M. L.: Equities, interest, and the stability of the inflationary process. Journal of Money, Credit and Banking, November 1975b. Pearce, I. F.: InternaJ.ional Trade. Nor-ton, New York, 1970. Sargent, T. J.: Rational expectations, the real rate of interest, and the natural rate of unemployment. Brookings Papers on Economic8 Acitivity, 1973. Sargent, T. J. & Wallace, N.: Rational expectations and the dynamics of hyperinflation. International Economic Review, June 1973. Sargent, T. J. & Wallace, N.: Rational expectations, the optimal monetary instrument and the optimal money supply rule. Journal of Political Economy 83, No. 2, April 1975. Shiller, R.: Rational expectations, and the dynamic structure of macroeconomic models. Paper presented at the Con-ference on the Monetary Mechanism in Open Economies, Helsinki, August 19715. COMMENT ON M. MUSSA, THE EXCHANGE RATE, THE BALANCE OF PAYMENTS AND MONETARY AND FISCAL POLICY UNDER A REGIME OF CONTROLLED FLOATING Michael Parkin University of Westem Ontario, London, Canada [The] central contention of ... [Mussa's] ... paper [is] that the basic theoreti-cal framework of the monetary approach to the balance of payments remains applicable (see above, page 97) to the world of controlled floating which has existed since 1971. The paper itself is informal and the discussion general but, there is also a more formal appendix. This comment summarizes and evaluates both the paper and the appendix. Four basic points are made and they are worth summarizing at the outset. First, an exchange rate is a relative price of two national monies and is deter-mined by the conditions for atoclc equilibrium in the markets for national monies· and not in flow markets for goods. Secondly, one of the factors which influences the demand for money and, therefore, the exchange rate, is the expected future exchange rate.

  Sign up to read

  Learn more about book
• 

  eBook - PDF

  The International Monetary System

  Highlights From Fifty Years Of Princeton's Essays In International Finance

  • Peter B Kenen(Author)
  • 2019(Publication Date)
  • Taylor & Francis

    (Publisher)

  In such cases, the NN curve essentially collapses into the TT curve, leav-ing indeterminate the relative prices of traded and nontraded goods. The absolute price level and the exchange rate are then determined solely by the money supply. A result similar to free floating can be obtained by government-Managed Floating designed to stabilize the domestic relative price of tradable goods. By setting TJ equal to I1rJ a;r; + Pn;, a country can insulate its domestic relative price of tradables from the effects of exchange-rate fluctuations elsewhere and from domestic inflation. In other words, the country acts so as to stabilize its effective exchange rate, discounted for the domestic rate of inflation. This policy will be appropriate when most shocks come from changes in exchange rates among the major countries. But changes in world prices of tradable goods that are not due to changes in exchange rates will be passed through to the do1nestic economy by such a policy. The actual dollar exchange rate should therefore be allowed to appreciate relative to the weighted average effective rate in order to offset the effect of world inflation. (This policy is the reverse of depreciating when the domestic economy is inflating faster than world prices are rising.) In the absence of changes in world prices, stabilization of the effec-tive exchange rate by Managed Floating is also an optimal policy with respect to domestic disturbances. The domestic price of tradables is then held constant in the face of shifts in domestic demand and sup-ply, allowing the foreign sector to absorb more of the disturbances than would occur under free floating (see Figure 5). c. Pegging to the SDR Since the SDR itself has been floating since July 1974, an attractive possibility for many countries to consider is pegging to the SDR. Such a policy might generate many of the benefits of the Managed Float discussed above while having an appearance of greater stability as well as various technical advantages.

  Sign up to read

  Learn more about book
• 

  eBook - PDF

  Modern Money Theory

  A Primer on Macroeconomics for Sovereign Monetary Systems

  • L. Randall Wray(Author)
  • 2016(Publication Date)
  • Palgrave Macmillan

    (Publisher)

  So he actually supported a floating exchange rate, but with money growth rules. Note however, that a strict gold standard works by constraining government spending; it is a fiscal constraint. Government must get hold of gold to spend. So unless there is a new discovery of gold, government’s spending is largely constrained by the gold it receives in tax payments. So this is not a monetary constraint in the normal use of that term – it is not like the central bank controlling the money supply. It is more like a balanced budget amendment. 5.5 Exchange rate regimes and sovereign defaults Let’s quickly look at three examples of exchange rate regimes. In the next section we will take an extended look at the case of the Euro, in which members of the European Monetary Union went “whole hog” and essentially adopted a “foreign currency” – the Euro. That is the most constraining of pegged systems. In this section we will look at three unusual cases: a country that pegs its exchange rate but has plenty of domestic policy space; a country that pegged and defaulted on its sovereign debt; and a country that floats but is experiencing problems with its government debt. Let’s begin with China, which has a loose peg – a tightly managed exchange rate system. To be sure, China has let its currency gradu- ally appreciate, but at the pace it chooses. This has led to charges of “currency manipulation”, especially by US officials. Ostensibly this is because Washington thinks China is keeping its exchange rate too low, obtaining an advantage for its exports. In my view the charge is not justified for two reasons. First, it is not likely that even with very substantial appreciation of the Yuan (or RMB – China’s currency) MMT and Alternative Exchange Rate Regimes 165 it would make much difference with respect to America’s current account deficit with China. China’s wages are currently very low relative to American wages, and most of China’s exports are low- value-added products.

  Sign up to read

  Learn more about book
• 

  eBook - PDF

  International Economics

  • Dominick Salvatore(Author)
  • 2020(Publication Date)
  • Wiley

    (Publisher)

  20.3 The Case for Fixed Exchange Rates 561 In general, a fixed exchange rate system is preferable for a small open economy that trades mostly with one or a few larger nations and in which disturbances are primarily of a monetary nature. On the other hand, a flexible exchange rate system seems superior for a large, relatively closed economy with diversified trade and a different inflation– unemployment trade-off than its main trading partners, and facing primarily disturbances originating in the real sector abroad. 20.3D The Open-Economy Trilemma From the discussion thus far, we can see that in an open economy, policymakers face a policy trilemma in trying to achieve internal and external balance. They can attain only two of the following three policy choices: (1) a fixed exchange rate, (2) unrestricted inter-national financial or capital flows, and (3) monetary policy autonomy, or independence. The nation can have a fixed exchange rate and unrestricted international financial flows (choices 1 and 2) only by giving up monetary policy autonomy (choice 3), or it can have a fixed exchange rate and monetary policy autonomy (choices 1 and 3) only by restricting or controlling international financial flows (choice 2), or finally, it can have monetary policy autonomy and unrestricted international financial flows (choices 2 and 3) only by giving up a fixed exchange rate (choice 1). The three policy trilemma that policymakers face in an open economy are shown by the corners of the triangle in Figure 20.3. If the nation chooses a fixed exchange rate and unrestricted international financial flows (the right leg of the triangle), it must give up monetary policy autonomy (as under the gold standard or any other rigidly fixed exchange rate system—see Section 16.6). In this case, a deficit nation will have to allow its money supply to fall for its trade and balance of payments deficit to be corrected (the opposite would be the case for a surplus nation).

  Sign up to read

  Learn more about book
• 

  eBook - PDF

  The Jingshan Report

  Opening China's Financial Sector

  • China Finance 40 Forum Research Group(Author)
  • 2020(Publication Date)
  • ANU Press

    (Publisher)

  First, the monetary authority played a dominant role in the level of the RMB exchange rate. The monetary authority dominated the RMB exchange rate through three key measures: central parity, the daily floating band and intervention in the foreign exchange market. The central parity of the RMB exchange rate can send the market a message about the monetary authority’s desired exchange rate level, guiding market expectations of the rate. The daily floating band limits exchange rate fluctuations. Foreign exchange market intervention (mainly referring to the sale and purchase of foreign currencies in the market, as well as other measures affecting supply and demand in the foreign exchange market) can absorb excess supply or demand, given the central parity of the RMB exchange rate and the floating band. For example, assuming the RMB/ USD central parity is 6.5, with 2 per cent daily floating band limit, the range of exchange rate is 6.5±0.13. If the market equilibrium price is out of the above range, the monetary authority must intervene in the market by buying or selling excess supply or demand. Second, market supply and demand, the basket of currencies and the counter-cyclical factor determine exchange rate movements. In the RMB exchange rate regime reform of 21 July 2005, China adopted a Managed Floating exchange rate regime based on market supply and demand with reference to a basket of currencies. In 2016, the monetary authority further clarified the specific role of the above two aspects in forming the central parity of the exchange rate. This was explained clearly in ‘China Monetary Policy Report Quarter One, 2016’:

  Sign up to read

  Learn more about book