Optimal and Time Consistent Exchange Rate Management in an Overlapping Generations Economy

33 Pages Posted: 22 Jun 2004

See all articles by Jonathan Eaton

Jonathan Eaton

Leonard N. Stern School of Business - Department of Economics; National Bureau of Economic Research (NBER)

Date Written: August 1983

Abstract

This paper analyzes exchange rate management in a simple overlapping generations model. This framework is used to evaluate alternative policies in terms of their implications for the welfare of individuals in the economy.The analysis identifies two objectives of monetary policy,providing adesirable store of value and collecting seigniorage. When the chief concern is to provide a desirable store of value (as when the monetary authority's major constituency consists of the asset holders of the economy), a policy of fixing the exchange rate does better when shocks are primarily of domestic origin while floating becomes more desirable when foreign shocks predominate. When seigniorage concerns are paramount (as when the authority's constituency is the young generation) flexible rates do better.When seigniorage concernsare paramount and when the monetary authority cannot establish a reputation for conducting monetary policy in a way that makes the currency a desirable store of value, a national currency may not be viable in the absence of exchange controls. Such controls may be justified in this situation.

Suggested Citation

Eaton, Jonathan, Optimal and Time Consistent Exchange Rate Management in an Overlapping Generations Economy (August 1983). NBER Working Paper No. w1196. Available at SSRN: https://ssrn.com/abstract=305576

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