The Optimal Weighting of Indicators for a Crawling Peg

33 Pages Posted: 16 Jul 2004

See all articles by William H. Branson

William H. Branson

Princeton University - Woodrow Wilson School of Public and International Affairs; National Bureau of Economic Research (NBER)

Jorge Braga de Macedo

New University of Lisbon - Faculty of Economics; National Bureau of Economic Research (NBER); Centre for Economic Policy Research (CEPR)

Date Written: August 1980

Abstract

This paper derives optimal weights for current-account and reserve indicators for adjusting the exchange rate (a "crawling peg"). Keven (1975)showed that use of a current account indicator alone would not stabi1iereserves, while a reserve indicator results in unstable fluctuations in the exchange rate. This paper begins by analyzing the problem in the frame work of Phillips (1954), in which the current account indicator is "proportional" and the reserve indicator is "integral." We then analyze the problem in a deterministic optimal control framework, and finally as a problem in stochastic control. In all cases the optimal combination is a weighted average, which we call the Keven-Phillips formula. With a fairly low variance of the current account, its weight falls in the range 0.47-0.65. Rising variance reduces its weight in the optimal formula.

Suggested Citation

Branson, William H. and Braga de Macedo, Jorge, The Optimal Weighting of Indicators for a Crawling Peg (August 1980). NBER Working Paper No. w0527. Available at SSRN: https://ssrn.com/abstract=263407

William H. Branson (Contact Author)

Princeton University - Woodrow Wilson School of Public and International Affairs ( email )

409 Robertson Hall
Princeton, NJ 08544-1021
United States
609-258-4828 (Phone)
609-258-5533 (Fax)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Jorge Braga de Macedo

New University of Lisbon - Faculty of Economics ( email )

Campus de Campolide
Lisboa, 1099-032
Portugal

HOME PAGE: http://www.fe.unl.pt/~jbmacedo/

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Centre for Economic Policy Research (CEPR)

London
United Kingdom

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