Do the Benefits of Fixed Exchange Rates Outweigh Their Costs? The Franc Zone in Africa

34 Pages Posted: 11 Feb 2001 Last revised: 9 Sep 2010

See all articles by Dani Rodrik

Dani Rodrik

Harvard University - Harvard Kennedy School (HKS); Centre for Economic Policy Research (CEPR); National Bureau of Economic Research (NBER)

Shantayanan Devarajan

World Bank Middle East and North Africa Region

Date Written: June 1991

Abstract

We develop a simple formal framework to clarify the trade-offs involved in the choice between a fixed and flexible exchange-rate system. We then apply the framework to the CFA Zone countries in Africa, which have maintained a fixed parity with the French Franc since independence. Thanks to the predominance of a few agricultural products and natural resources in their exports, CFA member countries have suffered frequent shocks in their terms of trade. A flexible exchange rate could have possibly alleviated the costs of these external shocks. On the other hand, CFA member countries have managed to maintain lower inflation levels than their neighbors. Our framework provides a way of weighing these costs and benefits. The inflation differential between CFA and non-CFA African countries has been around 14 percentage points. We attribute this differential to the standard time-consistency problem inherent in discretionary macroeconomic policy. Nonetheless, our highly stylized calculations suggest that fixed exchange rates have been, on the whole, a bad bargain for the CFA member countries. Under reasonable output-inflation tradeoffs, the output costs of maintaining a fixed exchange rate have outweighed the benefits of lower inflation.

Suggested Citation

Rodrik, Dani and Devarajan, Shantayanan, Do the Benefits of Fixed Exchange Rates Outweigh Their Costs? The Franc Zone in Africa (June 1991). NBER Working Paper No. w3727. Available at SSRN: https://ssrn.com/abstract=227997

Dani Rodrik (Contact Author)

Harvard University - Harvard Kennedy School (HKS) ( email )

79 John F. Kennedy Street
Cambridge, MA 02138
United States
617-495-9454 (Phone)
617-496-5747 (Fax)

HOME PAGE: http://www.ksg.harvard.edu/rodrik/

Centre for Economic Policy Research (CEPR)

London
United Kingdom

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Shantayanan Devarajan

World Bank Middle East and North Africa Region ( email )

1818 H Street, NW
Washington, DC 20433
United States

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