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Useful comments on an earlier draft of this paper were provided by Jim Gordon and a number of colleagues in the African Department of the IMF.
Openness also helps explain why very small countries, such as the Vatican or San Marino, use the currency of their large neighbor, Italy.
Note however that highly specialized economies may find fixed rates desirable if the goal is to insure the purchasing power of incomes.
We also look at the size of shocks themselves.
Exchange rate arrangements are described in detail in Exchange Arrangements and Exchange Restrictions, an annual publication of the International Monetary Fund.
Omitted from the above list of countries is the Comoros, whose currency is pegged independently of the other members of the CFA franc zone.
However, it may be noted that Nigeria has alternated between flexible and fixed exchange rates. South Africa has flexible rates but has maintained a differential rate for the financial rand. Other countries with flexible exchange rate arrangements would include Cape Verde and Guinea-Bissau.
GDP deflators were used in the analysis rather than consumer prices because they provide a better indication of changes in underlying costs, and hence of differential (supply and demand) disturbances across countries.
The calculations for per capita GDP correlations use data from the Penn World Tables, Version 5.5 (see Summers and Heston, 1991, for a description), as they were regarded as somewhat more reliable and were therefore used in the econometric analysis undertaken in the next section. The results using correlations based on IMF data were, however, very similar.
The only significant Sub-Saharan African region missing from these groups is that comprising Ethiopia, Somalia, Sudan, and Djibouti, for which the data are largely unavailable.
Essentially, these over-identifying restrictions require that prices rise in response to a positive aggregate demand disturbance, but fall in response to a positive aggregate supply disturbance.
The Table only reports correlations of disturbances within Africa. The close economic ties between the CFA franc zone and France are therefore not considered.