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Theoretical and empirical issues in the choice of exchange rate policy

University of British Columbia

Part I of this thesis is concerned with providing an explanation for the absence of an international monetary agreement since the breakdown of the Bretton Woods system. The analysis centers around the proposition that the potential gains are not sufficiently large to induce countries to engage in cooperative exchange rate management. The analysis is undertaken in the context of a two country model in which the monetary authorities of each country intervene in the foreign exchange market with the objective of stabilizing domestic consumption and prices. Non-cooperative behaviour is characterized in terms of the equilibrium intervention strategies associated with Cournot and Stackelberg games, as well as a game in which each player correctly anticipates the responses of his opponent; the principal form of cooperative behaviour considered is the agreement to participate in joint loss minimization. The results of the numerical simulations, used to compare the losses associated with cooperative and non-cooperative intervention strategies, support the proposition that countries behave non-cooperatively because the gains from policy coordination are too small to extract a cooperative effort. The primary objective of Part II is to formulate a quantitative measure of exchange market intervention that- can be used to classify exchange rate practices and to conduct empirical studies of exchange rate policy. The measure that is proposed in this study is an index of exchange market intervention which characterizes exchange rate policy as the proportion of exchange market pressure that is alleviated by an endogenous change in the domestic money supply. Exchange market pressure is measured using a model-consistent generalization of the Girton and Roper (1977) formulation. In order to provide a basis of comparison for future empirical work, the proposed measures of exchange market pressure and exchange market intervention are calculated quarterly for Canada, Germany, Japan, United Kingdom, and the United States over the period 1973(I) - 1984(IV). Estimates are obtained for each country on the basis of a multiple-partner small open economy model as well as a model in which interdependence among trading partners is explicitly incorporated.

Text

2011-01-14

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http://hdl.handle.net/2429/30633

Economics

University of British Columbia

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