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14 views2 pages

Ps 10

Uploaded by

Helena
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© © All Rights Reserved
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Alejandra Nozal and Helena Montero

Group 58
INTERNATIONAL ECONOMY: INTEGRATION
PROBLEM SET 10

CURRENCY CRISIS (PART B)

1. Which are the main differences between Fixed ER, Adjustable Peg, Crawling Pegs,
Float Within Boundaries, and a Crawling Peg Within Boundaries.

The FERR is a regime in which the financial authorities back the value of a currency against
other currency or against the price of gold.
The Adjustable Peg has the same definition as the FERR, with the difference that the
financial authorities readjust the peg from time to time. The principal reason of this
adjustment is to keep PPP with the foreign country against which they fix the value of their
currency.
A Crawling Peg is the regime in which the financial authorities fix the value of the domestic
currency against the value of the foreign currency in which they back the country in such a
way that the nominal exchange rate increased proportionally to the inflation rate
differential. The goal is to keep the PPP.
A Float Within Boundaries regime is a regime that sets a band in which the nominal
exchange rate of a country is let to float, but whenever it deviates from those boundaries
the financial authorities will intervene to bring the exchange rate back to the band.
A Crawling Peg Within Boundaries is a combination of the last two regimes: countries let
the exchange rate float within a band limited by boundaries that have an upwards slope.

2. i)Which are the advantages of a Crawling Peg over an Adjustable Peg.


The advantages of a Crawling Peg over an Adjustable Peg are:
- It avoids economic instability because of discrete adjustments.
- Minimizes the rate of uncertainty.
- Controls currency movements.

ii) At which exchange rate will usually a crawling peg increase?


The Crawling peg will usually increase at a rate of the differential inflation (domestic
inflation- foreign inflation).

iii) Is a Crawling Peg more defendable than a FERR?


A Crawling Peg appears to be more defendable than a FERR insofar it accounts for the inflation
differential between two countries, what makes easier to maintain PPP between two
countries.

3. i) Why sometimes some countries choose an ER with a crawling peg within bands,
where the width of the band increases thru time?
The main reason behind adopting an ER with Crawling Peg Within Boundaries is to
progressively convert the ER system into a float market system.
ii) Is a currency crisis feasible under a crawling peg within bands?
Currency crises are feasible under a Crawling Peg Within Boundaries. What can happen
is that the ER deviates suddenly and that the monetary authorities have to rapidly
bring it back to control, with the consequent negative effects for the market. Take for
example the case of Mexico.
Alejandra Nozal and Helena Montero
Group 58

4. i) Explain the difference between a dollarisation process and a currency board. ii)
Which is the main threat to both regimes? iii) Under a dollarisation, does monetary
policy no longer exists (i.e. Central Bank could take a long vacation)?

While dollarization is the process by which a country adopts foreign currency as the
domestic currency; a currency board means that a country backs its money against
other foreign currency, so that they never print flat money.

Monetary policy still exists under dollarization given that notwithstanding a country
has a foreign currency with a ER that it cannot control, the ER will be different because
of inflation. In addition, the country can sell or buy public debt to increase and
decrease the supply of currency and therefore control its price.

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