Staff Report 194

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Fixed vs. Floating Exchange Rates: A Dynamic General Equilibrium Analysis

Daniel M. Chin
Preston J. Miller - Former Vice President and Monetary Adviser

Published July 1, 1995

Abstract
In this study we contrast fixed and floating exchange rate regimes in a dynamic general equilibrium model. We find that the fundamental difference in the regimes is in the courses they imply for monetary policies. Because of policy coordination requirements, a tighter monetary policy needed to maintain a fixed exchange rate may necessitate a tightening in budget policy as well. We show that under some initial conditions voters or a social planner will favor one regime, but under other conditions they will favor the other. However, the choices of voters and a social planner are almost diametrically opposed.

Published In: European Economic Review (Vol 42, No. 7, 1998, pp. 1221-1249)

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