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Policy Choices and Resilience to International Monetary Shocks

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  • Xuehui Han
  • Shang-Jin Wei

Abstract

The well-known trilemma theory states that the nominal exchange rate regime plays a crucial role in a country's ability to pursue monetary policy that is for its domestic objectives independent from other countries' influences. In particular, a flexible exchange rate is required for an independent monetary policy. Capital controls may help a country with a fixed exchange rate to gain some policy space but the effect of capital controls is leaky and often short-lived. We revisit these conventional wisdoms and find no strong evidence supporting them in practice. In particular, a flexible exchange rate does not reliably deliver monetary policy independence, but capital controls do. This is consistent with the view that most (developing) countries dislike either depreciation or appreciation of their currencies, and therefore would choose to follow US monetary policy moves even if they are on a flexible exchange rate regime. In other words, to build resilience to international monetary policy shocks, capital controls are a necessarily component.

Suggested Citation

  • Xuehui Han & Shang-Jin Wei, 2014. "Policy Choices and Resilience to International Monetary Shocks," Global Economic Review, Taylor & Francis Journals, vol. 43(4), pages 319-337, December.
    • Handle: RePEc:taf:glecrv:v:43:y:2014:i:4:p:319-337
    DOI: 10.1080/1226508X.2014.982297
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    Cited by:

    1. Taeyoon Sung & Jong-Hee Kim, 2016. "Unconventional Monetary Policy, Global Liquidity Circulation, and Inflation Divergence around the World," The Developing Economies, Institute of Developing Economies, vol. 54(1), pages 6-26, March.
    2. Han, Xuehui & Wei, Shang-Jin, 2018. "International transmissions of monetary shocks: Between a trilemma and a dilemma," Journal of International Economics, Elsevier, vol. 110(C), pages 205-219.
    3. Wei, Shang-Jin & Han, Xuehui, 2016. "International Transmissions of Monetary Shocks," CEPR Discussion Papers 11070, C.E.P.R. Discussion Papers.
    4. Ovidiu Stoica & Iulian Ihnatov, 2016. "Exchange Rate Regimes And External Financial Stability," Economic Annals, Faculty of Economics and Business, University of Belgrade, vol. 61(209), pages 27-44, April - J.
    5. Shang-Jin Wei, 2018. "Managing Financial Globalization: Insights from the Recent Literature," NBER Working Papers 24330, National Bureau of Economic Research, Inc.
    6. Ahmed, Rashad, 2021. "Monetary policy spillovers under intermediate exchange rate regimes," Journal of International Money and Finance, Elsevier, vol. 112(C).
    7. Ahmed, Rashad, 2020. "Monetary Policy Spillovers under Intermediate Exchange Rate Regimes," MPRA Paper 98852, University Library of Munich, Germany.
    8. Ki Young Park & Ji Yong Um, 2016. "Spillover Effects of United States’ Unconventional Monetary Policy on Korean Bond Markets: Evidence from High-Frequency Data," The Developing Economies, Institute of Developing Economies, vol. 54(1), pages 27-58, March.
    9. Timmer, Yannick, 2018. "Emerging market corporate bond yields and monetary policy," Emerging Markets Review, Elsevier, vol. 36(C), pages 130-143.
    10. Wei, Shang-Jin, 2018. "Managing Financial Globalization: A Guide for Developing Countries Based on the Recent Literature," ADBI Working Papers 804, Asian Development Bank Institute.

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