Inflation and Exchange Rate Targeting Challenges Under Fiscal Dominance

46 Pages Posted: 27 Jun 2019

See all articles by Rashad Ahmed

Rashad Ahmed

University of Southern California - Department of Economics

Joshua Aizenman

University of Southern California - Department of Economics; National Bureau of Economic Research (NBER)

Yothin Jinjarak

Victoria University of Wellington - School of Economics & Finance

Multiple version iconThere are 2 versions of this paper

Date Written: June 2019

Abstract

Countries have increased significantly their public-sector borrowing since the Global Financial Crisis. In this context, we document several potential fiscal dominance effects during 2000-2017 under Inflation Targeting (IT), and non IT regimes. Higher ratio of public debt to GDP are associated with lower policy interest rates in advanced economies. In Emerging Market economies under non-IT regimes, composed mostly of exchange rate targeters, the interest rate effect of higher public debt is non-linear, and depends both on the ratio of foreign-currency to local-currency debt, and on the ratio of hard-currency debt to GDP. For these Emerging Market economies under non-IT regimes, real exchange rate depreciations and a higher international reserves to GDP ratio are significantly associated with higher interest rates. Sorting countries into low, medium and high nominal exchange rate volatility bins, we find that the high nominal exchange rate volatility group of Emerging Market economies, composed mostly of commodity intensive countries, show the most persuasive evidence of debt levels influencing policy interest rates.

Institutional subscribers to the NBER working paper series, and residents of developing countries may download this paper without additional charge at www.nber.org.

Suggested Citation

Ahmed, Rashad and Aizenman, Joshua and Jinjarak, Yothin, Inflation and Exchange Rate Targeting Challenges Under Fiscal Dominance (June 2019). NBER Working Paper No. w25996. Available at SSRN: https://ssrn.com/abstract=3410190

Rashad Ahmed (Contact Author)

University of Southern California - Department of Economics ( email )

3620 South Vermont Ave. Kaprielian (KAP) Hall, 300
Los Angeles, CA 90089
United States

Joshua Aizenman

University of Southern California - Department of Economics ( email )

3620 South Vermont Ave. Kaprielian (KAP) Hall, 300
Los Angeles, CA 90089
United States

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Yothin Jinjarak

Victoria University of Wellington - School of Economics & Finance ( email )

P.O. Box 600
Wellington 6001
New Zealand

Register to save articles to
your library

Register

Paper statistics

Downloads
3
Abstract Views
35
PlumX Metrics