NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH
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Endogenous Exchange Rate Regime Switches

Gabriel de Koch, Vittorio Grilli

NBER Working Paper No. 3066
Issued in August 1989
NBER Program(s):The International Trade and Investment Program, The International Finance and Macroeconomics Program

In this paper we demonstrate that exchange rate regime switching is compatible with optimal government policies. Nominal exchange-rate regimes are formalized as equilibrium commitments on future seigniorage policies, and the collapse of an exchange-rate peg as an excusable default which allows the government to lump-sum tax private sector money holdings. We demonstrate that a regime in which the exchange-rate peg is allowed to collapse when government spending is unusually high is a trigger-strategy equilibrium. Such a regime can be superior to both fixed and flexible exchange rate because it combines some of the flexibility of the floating exchange rates with some of the benefits of precommitment afforded by fixed rates.

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Document Object Identifier (DOI): 10.3386/w3066

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