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Globalization and exchange rate policy (Politics and the exchange rate…
Globalization and exchange rate policy
Politics and the exchange rate
-Currency policy is made in an intensely political environment. Even
apparently apolitical observations often embody political assumptions or
assertions
optimal
currency area criteria
currency union between two countries
is welfare-improving where factors are mobile between them, or when
the countries are subject to correlated exogenous shocks, or when their
economic structures are very similar
currency as an anchor for inflation expectations.
use of the exchange rate as a way of overcoming the time-inconsistency
of monetary authorities’ anti-inflationary commitments.3
A government
attempting to signal its seriousness about non-inflationary policy can peg the
exchange rate to a nominal anchor currency.4
Choices and tradeoffs
regime
by which the currency is managed
A fixed rate makes for
more currency and monetary stability;
floating rate makes for more policy
flexibility
level of the currency (strong or weak)
The strongest supporters of
exchange rate flexibility and a depreciated currency are typically those producers
concerned about their competitiveness in import and export markets
The
strongest supporters of a fixed exchange rate are typically those concerned
about currency stability and monetary credibility
Political factors in the determination of currency policy
Special interest groups
Exchange rate regime
Groups who are
heavily involved in foreign trade and investment-exchange rate stability, since currency volatility is an everyday concern that
makes their business riskier and more costly,
care less about a loss of national monetary autonomy
groups whose economic activity is confined to the domestic
economy benefit from a floating regime
level of the exchange rate
domestic interest group-lose, on the one hand, from domestically oriented (nontradeable)
industries that gain from a currency appreciation
tradeables industries with
high pass-through are more sensitive to the relative price effects of currency
350 Jeffry Frieden
movements than those with low pass-through, since their prices respond
more directly to changes in exchange rates