The Behavior of Real Interest Rates in Exchange-Rate Based Stabilization Programs

46 Pages Posted: 15 Feb 2006

See all articles by Pierre-Richard Agenor

Pierre-Richard Agenor

University of Manchester - School of Social Sciences

Multiple version iconThere are 2 versions of this paper

Date Written: June 1994

Abstract

This paper examines the behavior of real interest rates in exchange-rate based stabilization programs. The analysis is based on a model with imperfect capital mobility and optimizing agents. A permanent reduction in the devaluation rate is first shown to have an ambiguous effect on real interest rates on impact. The analysis is then extended to consider a stabilization program characterized by an initial reduction in the rate of devaluation of the nominal exchange rate, and the announcement of a future increase in income taxes. The impact effect on real interest rates is shown to depend upon the degree of credibility of the announcement. Real interest rates may fall if agents do not believe that taxes will be raised, and rise if the future tax reform is sufficiently credible.

JEL Classification: E43, F32, F41

Suggested Citation

Agenor, Pierre-Richard, The Behavior of Real Interest Rates in Exchange-Rate Based Stabilization Programs (June 1994). IMF Working Paper, Vol. , pp. 1-46, 1994. Available at SSRN: https://ssrn.com/abstract=883795

Pierre-Richard Agenor (Contact Author)

University of Manchester - School of Social Sciences ( email )

Oxford Road
Manchester, M13 9PL
United Kingdom

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