Limits of Floating Exchange Rates: The Role of Foreign Currency Debt and Import Structure

By Pascal Towbin, S. Weber. Social Science Research Network, 2011

147 citations recorded by the source corpus.

A traditional argument in favor of flexible exchange rates is that they insulate output better from real shocks, because the exchange rate can adjust and stabilize demand for domestic goods through expenditure switching. This argument is weakened in models with high foreign currency debt and low exchange rate pass-through to import prices. The present study evaluates the empirical relevance of these two factors. We analyze the transmission of real external shocks to the domestic economy under fixed and flexible exchange rate regimes for a broad sample of countries in a Panel VAR and let the responses vary with foreign currency debt and import structure. We find that flexible exchange rates do not insulate output better from external shocks if the country imports mainly low pass-through goods and foreign indebtedness is high.

Subfields: Finance

View Paper: https://www.semanticscholar.org/paper/585f7c47eba82858362e43ded82309c2c26ffa34

Citations in the corpus

• Estimating the Real Effects of Uncertainty Shocks at the Zero Lower Bound (2017, unknown): “Towbin and Weber (2013) study a panel of open-economy countries to investigate how the reaction of output and investment to foreign shocks is in uenced by variables such as external debt, import structure, as well as the exchange rate regime in place.”
• Reserve Requirements for Price and Financial Stability - When are They Effective? (2012, unknown): “The paper is also related to the papers which find that interest rate policy is less effective in stabilizing the economy when there is foreign currency debt (for example, Choi and Cook, 2004, Elekdag and Tchakorov, 2007, Towbin and Weber, 2011).”