NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

On the Benefits of Dollarization when Stabilization Policy is not Credible and Financial Markets are Imperfect

Enrique G. Mendoza

NBER Working Paper No. 7824
Issued in August 2000
NBER Program(s):   IFM

This paper examines two potential benefits that emerging economies may derive from dollarization. First, dollarization may eliminate distortions induced by the lack of credibility of monetary policy. Second, dollarization may weaken financial frictions that result in endogenous credit constraints. The analysis is based on numerical simulations of a two-sector dynamic, stochastic general equilibrium model calibrated to Mexican data. The results indicate that policy uncertainty and credit constraints are very costly distortions. The mean welfare gains of eliminating policy uncertainty range between 6.4 and 9 percent of the trend level of consumption per capita. The mean welfare gain of weakening credit frictions is about 4.6 percent.

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Document Object Identifier (DOI): 10.3386/w7824

Published: Mendoza, Enrique G. "The Benefits Of Dollarization When Stabilization Policy Lacks Credibility And Financial Markets Are Imperfect," Journal of Money, Credit and Banking, 2001, v33(2,May), Part 2, 440-474.

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