Managing Capital Outflows: The Role of Foreign Exchange Intervention
2016
We analyze the optimal intervention policy for an emerging market central bank which wishes to stabilize the exchange rate in response to a capital outi¬‚ow shock, but possesses limited reserves. Using a stylized framework which nests various forms of limited capital mobility, we derive a time inconsistency problem, and we compare outcomes under full, zero and partial commitment. A central bank with full commitment achieves a gentle exchange rate depreciation to the pure i¬‚oat level by promising a path of sustained intervention, including a commitment to exhaust reserves after particularly adverse shocks. A central bank without commitment intervenes less, wishing instead to preserve at least some reserves forever, and sui¬€ers a larger exchange rate depreciation. For more persistent shocks, the time inconsistency problem is larger, and simple intervention rules can achieve welfare gains relative to discretion.
Keywords:
- Correction
- Source
- Cite
- Save
- Machine Reading By IdeaReader
0
References
0
Citations
NaN
KQI