External sector policies and exchange rate policy are central to a country's economic performance and to the IMF's surveillance functions. The papers in this book, edited by Richard Barth and Chorng-Huey Wong, were presented at a seminar on Exchange Rate Policy in Developing and Transition Economies held by the IMF Institute. They analyze choices of exchange rate regimes, issues affecting management of exchange regimes, and specific types of regimes, including case studies from the former Soviet Union, Africa, Asia, and Latin America.
I WOULD LIKE to respond to a question posed by the Managing Director in his opening remarks as to why the Fund has found it so difficult to make pronouncements on the exchange rates of major currencies. Some ten years ago the Fund did not hesitate to make such a pronouncement. For example, in August 1971 the staff felt sure enough of its ground to propose a new set of exchange rates. In the event, the rates proposed proved wrong: the changes were too small and did not produce enough adjustment. There was, however, a rather comforting explanation: it was not that the Fund’s model was wrong but that the size of the 1971 disequilibrium had been seriously underestimated. In the mid-1970s, the Fund staff started to calculate “underlying balances” for the major countries—i.e., balances that would materialize over the medium term with present exchange rates and at reasonably high levels of activity in all countries. The exercise proved generally right in predicting the fall in the deutsche mark/dollar rate from 1976 to September 1978 and it also correctly suggested that the further sharp fall of the dollar in October 1978 went too far. But the model was never good at predicting what would happen to the yen, and it broke down for the dollar in 1980. Since then, interest rates have been so dominant and so volatile over so long a time, with such wide-ranging effects, and with so much bandwagon riding in both the capital and the foreign exchange markets, that the kind of medium-term analysis in which the Fund had engaged has become largely irrelevant to what happens in exchange markets for the short term and also to what can be made to happen through, for example, intervention or any policy of bands or target zones.
This Selected Issues paper and Statistical Appendix examines the sustainability of the public finances in Eritrea. The paper analyzes monetary policy and management. It points out that the period since gaining independence in 1993 has not been long enough for the authorities in Eritrea to gain a full understanding of the functioning of the economy and develop the necessary skills and expertise to successfully implement the complex mix of economic, financial, and development policies needed to strengthen growth and reduce poverty. The paper also analyzes the determinants of inflation in Eritrea.
Mr. Barry J. Eichengreen, Ms. Inci Ötker, Mr. A. J Hamann, Mr. Esteban Jadresic, Mr. R. B. Johnston, Mr. Hugh Bredenkamp, and Mr. Paul R Masson
In a world of increasing capital mobility and broadening and more diversified trade, many (but not all) developing and transition economies are likely to find it desirable to move from relatively fixed exchange rate regimes to regimes of greater exchange rate flexibility. This paper suggests why, and considers strategies that countries may consider for such a move. It reinforces this discussion with a review of experience from teh past two decades with alternative exchange rate regimes. The paper also identifies policies that can facilitate the transition to greater exchange rate flexibility for countries that wish to pursue this option.
The move away from fixed exchange rates and the agreement on the international surveillance of exchange rate policies by the Fund have raised a number of important issues for national authorities as well as for the Fund. This article reviews the problems of a floating exchange rate system. It also discusses the case for exchange rate management and the principles that would have to guide any international surveillance over countries’ exchange rate policies.
Anna Nordstrom, Mr. Scott Roger, Mr. Mark R. Stone, Seiichi Shimizu, Turgut Kisinbay, and Jorge Restrepo
The exchange rate plays a more important role in monetary policy for emerging economies that have adopted inflation targeting than for their advanced economy counterparts. Inflation-targeting emerging economies generally have less flexible exchange rate arrangements and intervene more frequently in the foreign exchange market. The enhanced role of the exchange rate reflects these economies’ greater vulnerability to exchange rate shocks and their less developed financial markets. However, their sharper focus on the exchange rate may cause some confusion about the commitment of their central banks to the inflation target and may also complicate policy implementation. These tensions were heightened by the inflation pressures, greater exchange rate volatility, and financial stress arising from the global financial turmoil that began in mid-2007 and the subsequent economic crisis.
The role of exchange rate policy in economic adjustment has been widely studied and is the subject of numerous theoretical and empirical papers produced in the Fund and elsewhere. The Fund staff has reviewed from time to time the effectiveness of adjustment programs incorporating an active exchange rate policy.1 Other issues relating to exchange rate policy, including, in particular, the interaction between the exchange rate and other macroeconomic policy variables, also have received considerable attention.2 However, little detail is available on the methodology of developing and implementing exchange rate policies in the context of adjustment programs. Besides examining general issues related to formulating exchange rate policy in adjustment programs, this paper reviews the experience with development of exchange rate policy in programs supported by the Fund in 1983.
Mr. Steven A. Symansky, Mr. Peter B. Clark, Mr. Leonardo Bartolini, and Mr. Tamim Bayoumi
Article IV of the International Monetary Fund’s Articles of Agreement stipulates, among other things, that the Fund “shall exercise firm surveillance over the exchange rate policies of members.” An integral part of that mandate is the close monitoring and careful evaluation by the IMF of exchange rates and of their underlying determinants—no matter what the member’s chosen exchange rate arrangements. The substantial overvaluation of the U.S. dollar in 1984–85, the turbulence and sudden adjustments of parities and margins within the European Monetary System in 1992–93, and the large realignment of the CFA franc in early 1994 all bear eloquent testimony to the proposition that exchange rates can get out of line with economic fundamentals. One aim of IMF surveillance activities, such as Article IV consultations and the World Economic Outlook, is to decrease the frequency and size of such exchange rate “misalignments” by encouraging a more timely adjustment of macroeconomic policies and/or exchange rates themselves.