Exchange Rates, Capital Flows, and Monetary Policy in a Changing World Economy: Proceedings of a Conference Federal Reserve Bank of Dallas Dallas, Texas September 14–15, 1995 PDF
Preview Exchange Rates, Capital Flows, and Monetary Policy in a Changing World Economy: Proceedings of a Conference Federal Reserve Bank of Dallas Dallas, Texas September 14–15, 1995
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NNoo ppaarrii ooff tthhiiss ppuubblliiccaattiioonn mmaayy bbee rreepprroodduucceedd,, ssttaarreedd iinn aa rreettrriieevvaall ssyysstteemm aarr ttrraannssmmiittlleedd iinn aannyy ffoorrmm aarr bbyy aannyy mmeeaannss,, mmeecchhaanniiccaall,, pphhoottooccooppyyiinngg,, rreeccoorrddiinngg,, oorr ootthheennwwiissee,, wwiitthhoouutt tthhee pprriioorr wwrriittlleenn ppeerrmmiissssiioonn ooff tthhee ppuubblliisshheerr,, SSpprriinnggeerr SScciieennccee++BBuussiinneessss MMeeddiiaa,, LLLLCC.. PPrriinntteedd aann aacciidd--ffrreeee ppaappeerr.. CONTENTS Preface: Exchange Rates, Capital Flows, and Monetary Policy in a Changing World Economy vii Proceedings of a Conference Federal Reserve Bank of Dallas September 14-15, 1995 About the Participants ix Part I Exchange Rates and Monetary Policy Presenter: Jeffrey A. Frankel Moderator: William C. Gruben Discussants: Leonardo Auernheimer Steve Hanke Part " Optimal Exchange Rate Policy for Stabilizing Inflation in Developing Countries 27 Presenter: Sebastian Edwards Moderator: Evan Koenig Discussants: Graciela Kaminsky John Welch Appendix to Part /I Exchange Rate Policy and Macroeconomic Stability 44 By Sebastian Edwards v vi CONTENTS Part III Exchange Rate Volatility, Investment, and Growth: Some New Evidence 55 Presenter: Vittorio Corbo Moderator: W. Michael Cox Discussants: David Gould Liliana Rojas-Suarez Appendix to Part 111 Description of the Data 83 Part IV Speculative Attacks 85 Presenter: Peter M. Garber Moderator: Carlos Zarazaga Discussants: Guillermo Mondino Miguel Savastano Appendix to Part IV Foreign Exchange Hedging with Synthetic Options and the Interest Rate Defense of a Fixed-Exchange-Rate Regime 100 By Peter M. Garber and Michael G. Spencer Part V The Role of the Dollar as an International Currency 129 Presenter: Alan S. Blinder Part VI International Capital Flows: Direct vs. Portfolio Investment 141 Presenter: Michael P. Dooley Moderator: John Duca Discussants: Agustin Carstens Edwin M. Truman Appendix A to Part VI A Survey of Academic Literature on Controls Over International Capital Transactions 165 By Michael P. Dooley Appendix B to Part VI Are Recent Capital Inflows to Developing Countries a Vote For or Against Economic Policy Reforms? 211 By Michael P. Dooley Part VII Central Bank Coordination in the Midst of Exchange Rate Instability 223 Moderator: Harvey Rosenblum Panelists: John W. Crow Ricardo Hausmann Allan Meltzer Miguel Urrutia The views expressed are those of the authors and do not necessarily reflect the positions of the Federal Reserve Bank of Dallas or the Federal Reserve System. PREFACE: EXCHANGE RATES, CAPITAL FLOWS, AND MONETARY POLICY IN A CHANGING WORLD ECONOMY The dramatic growth of international capital flows has provided unprecedented opportunities and risks in emerging markets. Investors, policymakers, central bankers, and other practitioners who interact in these markets participated in a lively exchange of ideas about these risks and opportunities during a Federal Reserve Bank of Dallas Conference on September 14-15, 1995. Exchange Rates, Capital Flows, and Monetary Policy in a Changing World Economy is the proceedings of that conference. In Part I, "Exchange Rates and Monetary Policy," Jeffrey A. Frankel concludes that the system is broken "in the sense that it is not working in the perfect, idealized way that our theories say." He cautions against radical reforms but says "some intelligent intervention from time to time cannot hurt and sometimes can help." Leonardo Auernheimer and Steve Hanke offer comments. Part II consists of Sebastian Edwards', "Optimal Exchange Rate Policy for Stabilizing Inflation in Developing Countries," with discussion from Graciela Kaminsky and John Welch. Edwards focuses on the use of exchange rates as stabilization devices in anti-inflationary programs. He looks for determinants of success and considers dangers and challenges of such policies. In Part ill, Vittorio Corbo discusses his work with Patricio Rojas of Chile's Central Bank, "Exchange Rate Volatility, Investment, and Growth: Some New Evidence." Corbo examines how macroeconomic uncertainty about the inflation rate and the real exchange rate affect economic growth through two mechanisms: vii Vlll EXCHANGE RATES, CAPITAL FLOWS, AND MONETARY POLICY the rate of investment and the overall level of efficiency. Commentary is from David Gould and Liliana Rojas-Suarez. In Part IV, "Speculative Attacks," Peter M. Garber reviews theories about speculative attacks and considers what happens in the days or hours before a fixed-exchange-rate regime collapses. He relates his comments to two recent cases, the collapse of the European Exchange Rate Mechanism (ERM) in 1992 and 1993 and the collapse of the Mexican peso at the end of 1994. Discussion from Guillermo Mondino and Miguel Savastano follows. Part V is Alan S. Blinder's assessment: "The Role of the Dollar as an Inter national Currency." Although Blinder finds many claims about the decline of the dollar as a reserve currency, he concludes that they are remarkably undisciplined by facts. "Wherever we have data," Blinder says, the message seems to be more or less the same: the dollar is still unquestionably the world's dominant international currency by any conceivable definition. But its preeminent position is eroding slowly, as mainly the Deutsche mark and, secondarily, the yen move up on the pecking order. In Part VI, "International Capital Flows: Direct vs. Portfolio Investment," Michael P. Dooley challenges conventional wisdom about capital flows, control of capital flows, and what countries might hope to accomplish with capital controls. "Both lenders and the borrowers often see international capital flows as a welfare-reducing phenomenon," Dooley says. But he finds that the motivation for capital flows derives from government policy: the size of the capital inflow will be a function of the credibility of the insurance fund. Thus, policy reforms, particularly fiscal reforms, generate capital inflows, but the size of the capital inflow will be just sufficient to exhaust the insurance fund, he says. "The only way, in my view, to break the insurance chain and discourage these kinds of capital inflows is to introduce uncertainty in the exchange rate and ... make the private sector investor bear the risk of that investment," Dooley concludes. AgustIn Carstens and Edwin M. Truman offer comments. Part VII, "Central Bank Coordination in the Midst of Exchange Rate Instabil ity," is a panel discussion by Miguel Urrutia, John W. Crow, Ricardo Hausmann, and Allan Meltzer. This conference would not have been possible without the efforts of many people. We wish to thank Bob McTeer, Harvey Rosenblum, Sherry Kiser, KaSandra Goulding, Agnes Mitchell, Daniel Sanchez, and all the contributors, who made this conference possible. We also thank our editorial staff-Anne Coursey, Rhonda Harris, Monica Reeves, and Kathy Thacker. William C. Gruben David M. Gould Carlos E. Zarazaga ABOUT THE PARTICIPANTS Alan S. Blinder, now Professor of Economics at Princeton University, was serving as Vice Chairman of the Federal Reserve Board of Governors in September 1995. Before that, he was a member of President Clinton's Council of Economic Advisers, where he worked on forecasting, budget, international trade, and health-care issues. He is the author or coauthor of lO books, including Economics: Principles and Policy. Vittorio Corbo is Professor of Economics at the Catholic University of Chile. From 1984 to 1991, he served at the World Bank, most recently as chief of the Macroeconomic Adjustment and Growth Division. He has written more than 80 articles and edited eight books in the field of macroeconomics, economic adjustment, and development. John W. Crow is an adviser to the American International Group of companies and Levesque Beaubien Geoffrion, Inc. He served as Governor of the Bank of Canada from 1987 to 1994. Formerly chief of the North American Division of the International Monetary Fund, Crow is a fellow in residence at C.D. Howe Institute. Michael P. Dooley, Professor of Economics at the University of California, Santa Cruz, was formerly Assistant Director of Research at the International ix x EXCHANGE RATES, CAPITAL FLOWS, AND MONETARY POLICY Monetary Fund, He has authored more than two dozen articles on international capital flows and exchange rate policy, including "Capital Flight, External Debt, and Domestic Policies," "Exchange Rates, Country-Specific Shocks, and Gold," and "Portfolio Capital Flows: Hot or Cold?". Sebastian Edwards is Professor of Economics at the University of California, Los Angeles. In September 1995, he was Chief Economist for Latin America and the Caribbean at the World Bank. Coeditor of the Journal of Development Economics, he has authored several books, including Exchange Rate Misalignment in Developing Countries and Real Exchanges, Devaluations, and Adjustment: Exchange Rate Policy in Developing Countries. Jeffrey A. Frankel is Professor of Economics at the University of California, Berkeley, where he is also Director of the Center for International and Develop ment Economics Research. In addition, in 1996 he served on the Council of Economic Advisers at the Executive Office of the President. He also has been a Senior Fellow at the Institute for International Economics and Director for International Finance and Macroeconomics at the National Bureau of Economic Research. Peter M. Garber, Professor of Economics at Brown University, is a consultant for the International Monetary Fund. Among his published articles are "The Operation and Collapse of Fixed Exchange Rate Regimes," "The Collapse of the Bretton Woods Fixed Exchange Rate System," and "The Linkage Between Speculative Attack and Target Zone Models of Exchange Rates: Some Extended Results." Ricardo Hausmann is Chief Economist for the Inter-American Development Bank and Professor of Economics at IESA, Venezuela's leading graduate school of business. Previously, he was Minister of Coordination and Planning for Venezuela, the country's Governor in the Inter-American Development Bank and the World Bank, and Chairman of the Joint Development Committee of the International Monetary Fund and the World Bank. Allan Meltzer is Professor of Political Economy and Public Policy at Carnegie Mellon University. His work on money and capital markets has led to frequent consulting assignments with Congressional committees, the U.S. Treasury Depart ment, the President's Council of Economic Advisers, the Board of Governors of the Federal Reserve System, and foreign governments and central banks. Miguel Urrutia is Governor of Colombia's Central Bank, having previously served the bank as Director. He was formerly Director of the Inter-American Development Bank's Department of Economic and Social Development and was Vice-Rector of Development Studies at United Nations University in Tokyo. Part I EXCHANGE RATES AND MONETARY POLICY The enormous volatility of floating exchange rates has led to a call for limits on exchange rate fluctuations. An increasing number of countries have begun to question the benefits of floating exchange rates. Can central banks limit exchange rate fluctuations, and are there benefits from doing so? Presenter: Jeffrey A. Frankel Professor of Economics University of California, Berkeley Moderator: William C. Gruben Research Officer Federal Reserve Bank of Dallas Discussants: Leonardo Auernheimer Professor of Economics Texas A&M University 1
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