Volatility of Macro fundamentals across exchange rate regimes : a theoretical exploration
Document Type
Journal article
Source Publication
International Journal of Economics and Finance
Publication Date
10-1-2013
Volume
3
Issue
6
First Page
79
Last Page
90
Keywords
Linked/Flexible Regime, Volatility, Macroeconomic Fundamentals, Mundell-Fleming Model, Taylor Monetary Reaction Function
Abstract
This paper seeks a novel theoretical support for the analysis of volatility changes in macro fundamentals with a shift in exchange rate regime by incorporating Rotemberg’s sticky-price adjustment rule and the forward-looking Taylor monetary reaction function into a stochastic dynamic Mundell-Fleming framework. The model predicts that, with flexible prices, output and real exchange rate exhibit the same variability after a shift. Interest rates are more volatile and the inflation rate is less volatile under the float. With fixed prices, inflation and the interest rate volatility are unchanged. The real exchange rate is more volatile under the float. Volatility in output and money co-moves. Our theoretical findings shed some light on the diverse empirical results in the literature—exchange rate regime shift does not lead to a uniform change in macro volatility; country-specific factors such as the degree of price rigidity, among others, are influential as well.
DOI
10.5539/ijef.v3n6p79
Print ISSN
1916971X
E-ISSN
19169728
Publisher Statement
Copyright © Canadian Center of Science and Education
Access to external full text or publisher's version may require subscription.
Full-text Version
Publisher’s Version
Language
English
Recommended Citation
Wu, H., & Ran, J. (2013). Volatility of Macro fundamentals across exchange rate regimes: A theoretical exploration. International Journal of Economics and Finance, 3(6), 79-90. doi: 10.5539/ijef.v3n6p79