When Pegging Ties Your Hands

56 Pages Posted: 9 Mar 2016

See all articles by Nikola A. Tarashev

Nikola A. Tarashev

Bank for International Settlements (BIS) - Monetary and Economic Department

Anna Zabai

Bank for International Settlements (BIS)

Date Written: March 2016

Abstract

Could a less conservative central bank - one that faces a more severe time inconsistency problem - be less likely to succumb to an attack on a currency peg? Traditional currency-crisis models provide a firm answer: No. We argue that the answer stems from these models' narrow focus on how a central bank's response to a speculative attack affects output and inflation in the short run. The answer may reverse if we recognize that a credible currency peg solves time consistency issues in the long run. As a less conservative central bank stands to benefit more from tying its own hands, it should find a peg more valuable.

Keywords: currency crises, strategic uncertainty, global games, time inconsistency

JEL Classification: D82, D84, F31

Suggested Citation

Tarashev, Nikola A. and Zabai, Anna, When Pegging Ties Your Hands (March 2016). BIS Working Paper No. 547. Available at SSRN: https://ssrn.com/abstract=2744842

Nikola A. Tarashev (Contact Author)

Bank for International Settlements (BIS) - Monetary and Economic Department ( email )

Centralbahnplatz 2
CH-4002 Basel
Switzerland

Anna Zabai

Bank for International Settlements (BIS) ( email )

Centralbahnplatz 2
Basel, Basel-Stadt 4002
Switzerland

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