Open AccessExchange rates and monetary spillovers
Author(s) -
Plantin Guillaume,
Shin Hyun Song
Publication year - 2018
Publication title -
theoretical economics
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 4.404
H-Index - 32
eISSN - 1555-7561
pISSN - 1933-6837
DOI - 10.3982/te2669
Subject(s) - depreciation (economics) , economics , monetary economics , currency , inflation (cosmology) , capital flows , exchange rate , capital (architecture) , monetary policy , interest rate , international economics , financial capital , capital formation , market economy , physics , archaeology , theoretical physics , history , liberalization , human capital
When do flexible exchange rates prevent monetary and financial conditions from spilling over across currencies? We examine a model in which international investors strategically supply capital to a small inflation‐targeting economy with flexible exchange rates. For some combination of parameters, the unique equilibrium exhibits the observed empirical feature of prolonged episodes of capital inflows and appreciation of the domestic currency, followed by reversals where capital outflows go hand‐in‐hand with currency depreciation, a rise in domestic interest rates, and inflationary pressure. Arbitrarily small shocks to global financial conditions suffice to trigger these dynamics.