BOFIT Discussion Papers, Institute for Economies in Transition, Bank of Finland
No 11/2006:
The inflationary consequences of real exchange rate targeting via accumulation of reserves
Kirill Sosunov and Oleg Zamulin ()
Abstract: The paper investigates the ability of monetary authorities
to keep the real exchange rate undervalued over the long run by
implementing a policy of accumulating foreign exchange reserves. We
consider a model of a three-sector, small, open economy, where the central
bank continuously purchases foreign currency reserves and compare them to
Russian and Chinese economies in recent years. Both countries appear to
pursue reserve accumulation policies. We find a clear trade-off between the
steady state levels of the real exchange rate and inflation. After
calibration, the model predicts an 8.5% real undervaluation of the Russian
currency and a 13.7% undervaluation of the Chinese currency. Predicted
inflation is found to match observed levels.
Keywords: real exchange rate targeting; foreign exchange reserves; Dutch disease; (follow links to similar papers)
JEL-Codes: E52; F41; (follow links to similar papers)
26 pages, August 24, 2006
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