Exchange-Rate-Based Stabilization, Durables Consumption, and the Stylized Facts

In this paper we show that a model featuring durables consumption, weak credibility, and sticky prices can explain many of the stylized facts associated with exchange-rate-based stabilization, including the quantitative variation exhibited by key macroeconomic variables. In standard models, the boom phase of ERBS is nothing more than a tepid expansion – changes in spending, real output, and the real exchange rate are unexceptional. But when durables are part of the choice set, the boom is truly a boom: following a temporary reduction in the crawl, total consumption spending rises 12-20%, the real exchange rate appreciates 40-55%, and the current account deficit swells to 5-7% of GDP. None of these results requires easy intertemporal substitution in consumption.