Flexible Exchange Rates in the Short Run

Abstract

Rates i n t he Short Run CONSIDERABLE FLEXIBILITY in exchange rates has marked the seventies. A series of events, starting with the appreciation of the deutsche mark in 1969, and including the realignment in the Smithsonian Agreement in 1971 and a second realignment, have brought the world into a period of controlled flexibility of rates. Flexible rates were the mechanism economists had long advocated for attaining external balance,' but the experience in the last few years has led many to reconsider it. That reconsideration is stimulated by some surprises in the performance of flexible rates. First among these are the recurrent, large cycles in ex-Note: We are indebted to Pedro Aspe, Roger Hankin, and Jay Helms for valuable assistance. Helpful comments from Karl Brunner, Jerry A. Hausman, and members of the Brookings panel are gratefully acknowledged. Financial support was provided by a grant from the Ford Foundation.

Identifying monetary policy in a small open economy under flexible exchange rates

“…s In extensions with rational expectations, short-run labor contracts and long-run full employment, the real interest rate rises because of expected deflation, restoring the interest rate along with the exchange rate as a transmission mechanism. In the Dornbusch (1976Dornbusch ( , 1980 Th.e original papers that are widely cited are Mundell (1963) and Flem.ing (1962).…”

“…But, more generally, the effect on home output is ambiguous, in part depending on the extent to whlch the disturbance is not expected tobe permanent {Turnovsky (1981)). Also, in addltion to trade balance effects, exchange rate changes affect import prices and thus the overall domestic price level, money demand, and the labor market [Dornbusch and Krugman (1976), Turnovsky (1981), and Harsten (1985]. This paper implements the f ollowing strategy to address these empirical puzzles for the relatively small open economy, using Canada as a case study.…”

“…And this occurs through increased foreign demand for home goods.24 If nominal U.S. interest rates rlse as well (as in Figure 3), this would tend to depreciate the Canadian dollar, improving Canada's trade balance and stimulating domestic income. 25 A falling Canadian dollar may also have a direct positive lmpact an Canadian prices in the shortrun Krugman (1976) andTurnovsky (1981)). …”

J-Curve Dynamics and the Marshall–Lerner Condition: Evidence from Azerbaijan

“…As the volume of trade begins to respond to the depreciation, it is believed that the so-called "volume effect" of currency devaluation will reverse the trade balance movement and eventually improve it. Dornbusch and Krugman (1976) argued that there would be a perverse negative response of the trade balance to currency depreciation, followed by a larger export elasticity that would improve the balance in the long run. The phenomenon of the domination of the volume effect over the price effect in the long run is the Marshall-Lerner condition.…”

A Model of Monetary Equilibrium with Random Output and Restricted Borrowing

“…See e.g. Dornbusch and Frenkel, 1973, Dornbusch and Krugman, 1976, Dornbusch, 1977and 1990, Obstfeld et al, 1985, Stiglitz, 1988, Bernanke and Blinder, 1992, Bernanke and Gertler, 1995, Bernanke and Mishkin, 1997, and also Bernanke and Woodford, 1997. remain unchanged. The preference for liquidity is said to be absolute in this situation.…”