Financial Intermediation, Exchange Rates, and Unconventional Policy in an Open Economy / Luis Felipe Céspedes, Roberto Chang, Andrés Velasco.

Format:

Book

Author/Creator:

Céspedes, Luis Felipe.

Contributor:

National Bureau of Economic Research.

Chang, Roberto.

Velasco, Andrés.

Series:

Working Paper Series (National Bureau of Economic Research) no. w18431.

NBER working paper series no. w18431

Language:

English

Physical Description:

1 online resource: illustrations (black and white);

Place of Publication:

Cambridge, Mass. National Bureau of Economic Research 2012.

Summary:

This paper develops an open economy model in which financial intermediation is subject to occasionally binding collateral constraints, and uses the model to study unconventional policies such as credit facilities and foreign exchange intervention. The model highlights the interaction between the real exchange rate, interest rates, and financial frictions. The exchange rate can affect the financial intermediaries' international credit limit via a net worth effect and a leverage ratio effect; the latter is novel and depends on the equilibrium link between exchange rates and interest spreads. Unconventional policies are nonneutral if and only if financial constraints are binding in equilibrium. Credit programs are more effective if targeted towards financial intermediaries rather than the corporate sector. Sterilized foreign exchange interventions matter because the increased availability of tradables, resulting from the sterilizing credit, can relax financial frictions; this perspective is new in the literature. Finally, self fulfilling expectations can lead to the coexistence of financially constrained and unconstrained equilibria, justifying a policy of defending the exchange rate and the accumulation of international reserves.

Notes:

Print version record

October 2012.