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The Credibility of a Fixed Exchange Rate: How Reputation Is Gained or Lost

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  • Holden, Steinar
  • Vikoren, Birger

Abstract

The authors examine the interest rate differential between each of the four largest Nordic countries and the countries of their foreign currency baskets on monthly data for the period 1978/79-92. The interest rate differential is assumed to reflect devaluation expectations, which partly depend on government reputation. The authors investigate the formation of the reputation of the government, assuming that reputation is updated using Bayes's formula. It is shown theoretically that, when there is no devaluation, the improvement in government reputation is larger, the larger the prior devaluation expectations. For Norway, the evidence gives support to this assertion. Copyright 1996 by The editors of the Scandinavian Journal of Economics.

Suggested Citation

  • Holden, Steinar & Vikoren, Birger, 1996. "The Credibility of a Fixed Exchange Rate: How Reputation Is Gained or Lost," Scandinavian Journal of Economics, Wiley Blackwell, vol. 98(4), pages 485-502, December.
    • Handle: RePEc:bla:scandj:v:98:y:1996:i:4:p:485-502
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    Cited by:

    1. Holden, Steinar, 2005. "Monetary regimes and the co-ordination of wage setting," European Economic Review, Elsevier, vol. 49(4), pages 833-843, May.
    2. Peter Tillmann, 2003. "The Regime-Dependent Determination of Credibility: A New Look at European Interest Rate Differentials," German Economic Review, Verein für Socialpolitik, vol. 4, pages 409-431, November.
    3. Nora Abu Asab & Juan Carlos Cuestas, 2017. "The Credibility of a Soft Pegged Exchange Rate in Emerging Market Economies: Evidence from a Panel Data Study," Annals of Economics and Finance, Society for AEF, vol. 18(1), pages 29-51, May.
    4. Bernhardsen, Tom, 2000. "The relationship between interest rate differentials and macroeconomic variables: a panel data study for European countries," Journal of International Money and Finance, Elsevier, vol. 19(2), pages 289-308, April.

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