Chapter 5: Fear of Appreciation: Exchange Rate Policy as a Development Strategy
* Eduardo Levy-Yeyati and Federico Sturzenegger 5.1 INTRODUCTION In 2005, four middle-income developing countries (Indonesia, Romania, the Slovak Republic and Turkey) joined the group of 21 economies that officially run inflation-targeting regimes in the context of freely floating exchange rates.1 While this trend has been heralded as the triumph of floating regimes, many countries (China, Malaysia, Thailand and Argentina, to name a few) are still actively pursuing active exchange rate policies. In fact, the trend seems to point this way, with floating regimes accounting in 2004 for only 19 percent of all countries, down from 26 percent in 2000 according to the International Monetary Fund (IMF)’s regime classification. Additionally, international reserves in most developing countries are growing when even at a historical high, and two emerging economies (Argentina in 2005, Thailand in 2006) introduced controls on capital inflows to countervail the appreciation of their currencies. Are we re-enacting the fear of floating of the 1990s, or is this a new breed of active exchange rate policy? If so, are its premises validated in the data? We tackle these questions in two ways. First, we trace the evolution of exchange rate regimes over the recent period based on an updated version of Levy-Yeyati and Sturzenegger’s (2005) (hereafter LYS) de facto exchange rate regime classification, to document the prevalence of a ‘fear of appreciation’ – namely, the tendency to intervene to depreciate (or to postpone the appreciation of) the local currency. Indeed, we find that the convergence to the float-cum-inflation-targeting (FIT) paradigm adopted...
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