How to Move the Exchange Rate If You Must: The Diverse Practice of Foreign Exchange Intervention by Central Banks and a Proposal for Doing it Better

27 Pages Posted: 20 Apr 2016

See all articles by Kaushik Basu

Kaushik Basu

Cornell University - Department of Economics; IZA Institute of Labor Economics; Brookings Institution

Aristomene Varoudakis

World Bank

Date Written: May 1, 2013

Abstract

The paper is about the art of exchange rate management by central banks. It begins by reviewing the diversity of objectives and practices of central bank intervention in the foreign exchange market. Central banks typically exercise discretion in determining when and to what extent to intervene. Some central banks use publicly declared rules of intervention, with the aim of increasing visibility and strengthening the signaling channel of policy. There is tentative evidence that the volatility of foreign exchange reserves is comparatively lower in emerging market economies where central banks follow some form of rules-based foreign exchange intervention. The paper goes on to argue that when the foreign exchange market includes some large strategic participants, the central bank can achieve superior outcomes if intervention takes the form of a rule, or "schedule," indicating commitments to buying and selling different quantities of foreign currency conditional on the exchange rate. Exchange rate management and reserve management can then be treated as two independent objectives by the central bank. In line with the stylized facts reviewed, this would enable a central bank to pursue exchange rate objectives with minimum reserve changes, or achieve reserve targets with minimum impact on the exchange rate.

Keywords: Debt Markets, Emerging Markets, Currencies and Exchange Rates, Economic Stabilization, Economic Theory & Research

Suggested Citation

Basu, Kaushik and Varoudakis, Aristomene, How to Move the Exchange Rate If You Must: The Diverse Practice of Foreign Exchange Intervention by Central Banks and a Proposal for Doing it Better (May 1, 2013). World Bank Policy Research Working Paper No. 6460. Available at SSRN: https://ssrn.com/abstract=2269533

Kaushik Basu (Contact Author)

Cornell University - Department of Economics ( email )

414 Uris Hall
Ithaca, NY 14853-7601
United States
607-255-2525 (Phone)
607-255-2818 (Fax)

IZA Institute of Labor Economics

P.O. Box 7240
Bonn, D-53072
Germany

Brookings Institution ( email )

1775 Massachusetts Ave, NW
Washington, DC 20036
United States

Aristomene Varoudakis

World Bank ( email )

1818 H Street, NW
Washington, DC 20433
United States

Here is the Coronavirus
related research on SSRN

Paper statistics

Downloads
267
Abstract Views
1,324
rank
122,905
PlumX Metrics