Exchange rates

Jon Danielsson, 26 February 2021

As the price of bitcoin continues to rise, this column argues that most of us would not want to live in a society where bitcoin succeeds. Fortunately, the internal contradictions and perverse consequences of cryptocurrencies' success mean that they are destined for failure. Until then, it might make sense for speculators to ride the cryptocurrency bubble, so long as they get out in time.

Raphael Auer, Ariel Burstein, Sarah Lein, 03 February 2021

In 2015, the Swiss National Bank discontinued the minimum exchange rate of the Swiss franc relative to the euro, prompting a large and sudden appreciation of the franc. This column describes how the episode affected border prices, retail prices, and consumer expenditure. It shows how cross-sectional variation in border price changes by currency of invoicing carried over to consumer prices and allocations. This episode can help inform estimates of the sensitivity of retail prices to border prices and the sensitivity of import expenditures to relative price movements. 

Giancarlo Corsetti, Keith Kuester, Gernot Müller, Sebastian Schmidt, 27 January 2021

Recent evidence suggests flexible exchange rates do not always insulate economies from external shocks. This column provides novel evidence on how shocks that originate in the euro area spill over to its neighbour countries. In response to euro area shocks economic activity in the neighbour countries contracts as much as in the euro area – not only in countries that peg their currency to the euro, but also in those with a flexible exchange rate. It shows that a standard open economy model predicts this lack of insulation for floating exchange rates, provided the central bank targets CPI inflation. 

Eleonora Granziera, Markus Sihvonen, 26 November 2020

High short-term interest rates predict domestic currency appreciation and low excess returns for long-term bonds. These facts are at odds with two textbook conditions describing the relationship between different maturity interest rates and exchange rates: uncovered interest parity (UIP) and the expectations hypothesis. This column explains that both conditions can be reconciled with the data if agents are assumed to have sticky rather than perfectly rational expectations concerning short rates. It also demonstrates how this empirically motivated change in model assumptions has broad implications for interpreting the effects of monetary policy on exchange rates and yield curves.  

Sebastian Edwards, 10 November 2020

While today almost every advanced nation has a flexible exchange rate regime similar to that advocated by Milton Friedman, most emerging countries continue to have ‘conventional peg’. This column draws on the historical work of Milton Friedman to examine the conditions under which he thought that flexible rates were the right system for developing countries, and when he thought that it was appropriate to have an alternative regime. 

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