Gains from Commitment: The Case for Pegging the Exchange Rate

55 Pages Posted: 11 May 2022 Last revised: 25 Apr 2024

See all articles by Kai Arvai

Kai Arvai

Banque de France

Ricardo Duque Gabriel

Board of Governors of the Federal Reserve System; National Bureau of Economic Research (NBER)

Multiple version iconThere are 2 versions of this paper

Date Written: April 24, 2024

Abstract

This paper argues that the exchange rate regime matters for inflation and economic activity, with substantial benefits arising from a currency peg. At the heart of these benefits lies an increase in credibility that reduces the inflationary bias once central banks commit to peg their currency to a credible anchor. Using an open economy model, we provide a credibility estimate for 170 economies for 1950-2019 which aligns with other central bank independence measures. We document that committing to a peg persistently lowers inflation and its volatility while increasing real growth. Less credible countries benefit more from fixing the exchange rate.

Keywords: Exchange Rate Regimes, Monetary Policy, Interest Rates, Inflation

JEL Classification: E31, E42, E52, F41, F42

Suggested Citation

Arvai, Kai and Gabriel, Ricardo Duque, Gains from Commitment: The Case for Pegging the Exchange Rate (April 24, 2024). Available at SSRN: https://ssrn.com/abstract=4105642 or http://dx.doi.org/10.2139/ssrn.4105642

Kai Arvai

Banque de France ( email )

Paris
France

Ricardo Duque Gabriel (Contact Author)

Board of Governors of the Federal Reserve System ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States

HOME PAGE: http://www.ricardoduquegabriel.com/

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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