Estimating the credibility of an exchange rate target zone

Optimal Currency Basket Pegs for Developing and Emerging Economies

“…Any adjustments made to weights should be announced as should the rational for their change so that market participants perceive the changes and the new weights and intervention bands to be credible. The first is consistent with the recommendations found in the target zone literature, which shows that a credible band influences expectations and may have a stabilizing effect on the exchange rate (see Girardin and Marimoutou, 1997, for a summary). The remainder is consistent with the recommendations of the IMF who claim that crises, such as that experienced by Mexico, are worsened by the "poor quality to information supplied to both the official sector (including the IMF) and the markets" (Fischer, 1997, p. 8), and by Frankel (1999, p. 6) who states that "governments can reclaim confidence only by proclaiming policies that are so simple and so transparent that investors can verify instantly that the government is in fact doing what it claims to be doing.…”

Modelling Probabilities of Devaluations

“…For the French franc, my estimates of the realignment rates in state 2 are generally higher than those documented by Svensson (1993) as the upper bound of his 95% confidence interval, while the realignment estimates in state 1 are somewhat smaller than the lower bound of his 95% confidence interval. The estimates of the expected realignment rates found by Girardin and Marimoutou (1997) lie between my estimates for states 1 and 2. The estimates of Campa and Chang (1996) are somewhat closer to my estimates in state 1, when realignment rate expectations were low.…”

“…Expected annual realignment of GBP/DEM in each state: effect of interest rate differential, 8 January 1991-16 September 1992 are somewhat smaller than the lower bound of his 95% confidence interval. The estimates of the expected realignment rates found by Girardin and Marimoutou (1997) lie between my estimates for states 1 and 2. The estimates of Campa and Chang (1996) are somewhat closer to my estimates in state 1, when realignment rate expectations were low.…”

“…The tests in Campa and Chang (1996) indicate that for certain periods the mark ceiling against the lira was not fully credible, but they are unable to reject the credibility of the sterling–mark band until a few weeks before the pound's devaluation in September 1992. Like Girardin and Marimoutou (1997), they find that the credibility of the mark–franc is often rejected from September 1992 onwards. Campa and Chang (1998) regress their minimum ‘intensity of realignment’ against some macroeconomic fundamentals (the same as those used by Rose and Svensson 1994).…”

“…A completely different methodology from the ones mentioned above, including the drift adjustment method, was employed by Girardin and Marimoutou (1997). They analyse empirically the credibility of the French franc against the German mark from 2 January 1989 to 1 February 1993 using daily data.…”