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No Pain, All Gain? Exchange Rate Flexibility and the Expenditure-Switching Effect
Author:
Mr. Yan Carriere-Swallow
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,
Mr. Nicolas E Magud
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Juan Yepez null

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Series:
IMF Working Papers
Volume/Issue:
Volume 2018: Issue 213
Language:
English
Publication Date:
28 Sep 2018
DOI:
https://doi.org/10.5089/9781484378236.001
ISBN:
9781484378236
ISSN:
1018-5941
Pages:
30
Keywords:
WP; expenditure-switching effect; external shock; Exchange rate regime; expenditure switching; terms-of-trade; external adjustment; terms-of-trade shock; effect in economy; exchange rate regime classification; arrangements in the case; degree of exchange rate flexibility; ten percent; nominal exchange rate change; exchange rate classification index; IRR exchange rate arrangement; log terms of trade; Exchange rate flexibility; Exchange rate arrangements; Real imports; Exchange rates; Imports
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IMF Working Papers describe research in progress by the author(s) and are published to elicit comments and to encourage debate. The views expressed in IMF Working Papers are those of the author(s) and do not necessarily represent the views of the IMF, its Executive Board, or IMF management.
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Theoretical models on the relationship between prices and exchange rates predict that the magnitude of expenditure switching affects the optimal choice of exchange rate regime. Focusing on the transmission of terms-of-trade shocks to domestic real variables we document that the magnitude of the expenditure switching effect is positively associated to the degree of exchange rate flexibility. Moreover, results show that flexible exchange rates allow for significant adjustment in relative prices, which in turn lowers the burden of adjustment on demand for domestic goods and, in some cases, facilitates a faster and more durable external adjustment process. These results, which are robust to accounting for possible non-linearities due to balance sheet effects or currency mismatches, shed new light on the shock absorbing properties of flexible exchange rates.
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Cover IMF Working Papers
IMF Working Papers
ISSN:
1018-5941
Publisher:
International Monetary Fund