Exchange Rate Monitoring Bands: Theory and Policy
37 Pages Posted: 28 May 2002
Date Written: April 2002
Abstract
Recent empirical research by Mark Taylor and co-authors has found evidence of hybrid dynamics for real exchange rates. While there is a random walk near equilibrium, for real exchange rates some distance from equilibrium there is mean-reversion which increases with the degree of misalignment. An interesting question is whether this non-linear mean-reversion might be policy-induced. John Williamson (1998), for example, has proposed a 'monitoring band' in which there is no intervention near equilibrium but there is substantial intervention triggered by exchange rate deviations outside a preset band. In this Paper we develop a theoretical model of such a monitoring band to see whether it can generate patterns of non-linear mean-reversion akin to those reported in empirical research.
Keywords: Monitoring band, non-linear mean-reversion, near random walk dynamics
JEL Classification: D52, F31, G12
Suggested Citation: Suggested Citation