Exchange Rate Regimes: Is the Bipolar view correct? Stanley Fischer Class: International Finance & Open Macroeconomy Dr. Nayef N. Al-shammari Date 5th March, 2012 Presented by Mahdi Akbar

Introduction What is bipolar view?  The intermediate regimes between hard pegs and free floating which are unsustainable. Type of exchange rate group:  Hard pegs group consists of economies with currency boards or those with no separate currency.  Intermediate group consists of economies with conventional fixed pegs, crawling pegs, horizontal bands, and crawling bands. These will sometimes be referred to as soft pegs.  Floating group consists of economies whose systems are described either as a managed float with no specified central rate, or as independently floating. The proportion of IMF members with intermediate arrangements fell during the 1990s, while the use of hard pegs and more flexible arrangements rose

Introduction How believers of bipolar argue? For countries open to international capital flows: 1.pegs are not sustainable unless they are very hard indeed 2.a wide variety of flexible rate arrangements are possible 3.most countries' policies will still take some account of exchange rate movements if exchange rate arrangements lie along a line connecting – free floating on the left with currency boards, dollarization 3 or – currency union on the right The intent was to show unsustainable segment of that line representing a variety of soft pegging exchange rate arrangements.

Introduction Countries get often concern about level of exchange rate because they are not willing to accept the extend of exchange rate fluctuations generated by a totally free float of exchange rate what is called “fear of floating” Since they are not willing to accept the extend of exchange rate fluctuation generated by a totally free float of exchange rate. Monetary policy and exchange rate intervention policy will respond to exchange market pressure.

Introduction This formulation accommodates all three of the above positions : – For countries open to capital flows, it leaves open a wide range of arrangements running from free floating to a variety of crawling bands with wide ranges, and then very hard pegs sustained by a highly credible policy commitment, notably currency boards and the abandonment of a national currency, but also, exceptionally, less formal arrangements that have been demonstrated to be very hard, as in the Netherlands and Austria pre-EMU. – For countries not as yet open to international capital flows, it includes the full gamut of exchange rate arrangements. And by noting that countries are likely to be concerned about the behavior of the exchange rate, it also makes room for the fear of floating argument.

Introduction what exchange rate arrangement are excluded by the bipolar view ?  For countries open to international capital flow in which a government is committed to defending a particular value (or range of values) of the exchange rate, but is not committed to devoting monetary (and, on occasion, fiscal) policy solely to the goal of defending the parity.  In essence, the excluded arrangements are fixed, adjustable-peg, and narrow-band systems

Introduction The goal of the article is that for developed and emerging market countries, adjustable peg exchange rate systems have not proved to be viable for the long term, and should not be expected to be viable. Other issue where it will be focused:  the fear of floating argument, and monetary policy under floating rate regimes  the nature of the hard peg arrangements that may be expected to be viable;  the use of the exchange rate as a nominal anchor in disinflation;  the behavior of exchange rates among the big three; and what can be said about exchange rate arrangements for developing countries not open to international capital flows.

Developed and emerging market countries Two groups of countries can be considered as integrated or integrating into international capital markets: the advanced countries, and emerging market countries. Developed Market economies contains 22 economies. The emerging market group is defined as the 33 economies. Among the developed economies listed in Table 1, and depending on how the EMU countries are regarded, half the economies have established very hard pegs, and nearly half the countries float

Developed and emerging market countries During the 1990s—some toward harder pegs, but more toward regimes with greater flexibility It proved the adjustable pegs within the EMS after the rise in German interest rates necessitated by unification had imposed a domestically inappropriate monetary policy on the other EMS members. The proportion with intermediate regimes fell from 64 percent to 42 percent over the decade. By the end of 1999, 16 of these countries had floating rates and 3 had very hard pegs in the form of currency boards or no legal tender. The remainder had intermediate arrangements: five crawling bands, one horizontal band, one crawling peg, and seven fixed pegs.

Developed and emerging market countries The 33 emerging market economies listed in Table 2 are grouped by exchange rate arrangement in Table 3 The largest group of countries (13) consists of those described as independently floating. Six of those countries (Indonesia, Korea, Thailand, Russia, Brazil and Mexico) became floaters after the major crises of the last decade, while Colombia joined the group in Thus, in terms of the categories used in this paper, half the emerging market group of countries has some form of floating rate arrangement. Of the remaining 17 countries listed in Table 3, at the end of 1999 three either had currency boards or no independent legal tender; Ecuador and Greece have subsequently joined this group, Ecuador (an independent floater in December 1999) by dollarizing and Greece by joining EMU.

Developed and emerging market countries Eight countries had fixed or adjustable pegs at the end of 1999 The pattern that most of the emerging market have shift between hard peg and floating from intermediate The proportion with intermediate regimes fell from 64 percent to 42 percent over the decade. By the end of 1999, 16 of these countries had floating rates and 3 had very hard pegs in the form of currency boards or no legal tender. The remainder had intermediate arrangements: five crawling bands, one horizontal band, one crawling peg, and seven fixed pegs.

Developed and emerging market countries It is thus reasonable to say that economies open to international capital flows have been and are in the process of moving away from adjustable peg exchange rate systems, some towards harder pegs, more towards systems with greater exchange rate flexibility. The real reason is that soft peg systems have not proved viable over any lengthy period, especially for countries integrated or integrating into the international capital markets. Extensive damage has been caused by the collapses of pegged rate regimes that lasted for some time, and enjoyed some credibility. it should be possible to reduce the potential damage through prudential regulations that limit the open foreign exchange positions of banks, but it is harder to control corporate sector financing through such regulations

Definition Pegged floating currencies are pegged to some band or value, either fixed or periodically adjusted. Pegged floats are: Crawling bands: the rate is allowed to fluctuate in a band around a central value, which is adjusted periodically. This is done at a preannounced rate or in a controlled way following economic indicators.fluctuate in a bandeconomic indicators Crawling pegs: Here, the rate itself is fixed, and adjusted as above. Crawling pegs Pegged with horizontal bands: The currency is allowed to fluctuate in a fixed band (bigger than 1%) around a central rate.