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Fear (no more) of Floating: Asset Purchases and Exchange Rate Dynamics

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  • Yasin Mimir

Abstract

We provide a theory on currency dynamics, capital flows and conditions for emerging market economy central bank asset purchases to leave room for manoeuvre for conventional monetary policy. Local-currency asset purchases ease financial conditions and boost banks’ foreign borrowing capacity. Therefore, they curb the financial amplification of government bond sell-off shocks by mitigating private sector capital outflows and the accompanying exchange rate depreciation. The resulting limited rise in inflation reduces the pro-cyclicality of conventional monetary policy. Our framework sheds light on stable exchange rate dynamics observed after the unprecedented asset purchase announcements in emerging-market economies during the COVID-19 crisis.

Suggested Citation

  • Yasin Mimir, 2023. "Fear (no more) of Floating: Asset Purchases and Exchange Rate Dynamics," Working Papers 57, European Stability Mechanism.
    • Handle: RePEc:stm:wpaper:57
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    File URL: https://www.esm.europa.eu/system/files/document/2023-05/ESM%20WP%2057_0.pdf
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    References listed on IDEAS

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    More about this item

    Keywords

    Asset purchases; exchange rate; conventional monetary policy;
    All these keywords.

    JEL classification:

    • E62 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Fiscal Policy; Modern Monetary Theory
    • E63 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Comparative or Joint Analysis of Fiscal and Monetary Policy; Stabilization; Treasury Policy
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages

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