The Structure of Public Debt and the Choice of Exchange Rate Regime

15 Pages Posted: 14 Mar 2011

See all articles by Michael Bleaney

Michael Bleaney

University of Nottingham - School of Economics

F. Gulcin Ozkan

University of York


This paper explores the relationship between the denomination of public debt and the choice of exchange rate regime. Three types of debt (nominal, indexed, and foreign) and two regimes (fixed and flexible) are considered. Indexed debt is insulated against unexpected inflation. The real (domestic-currency) value of foreign debt is subject to valuation effects from real exchange rate shocks. The fear-of-floating result, that foreign debt makes pegging more attractive, is shown to hold unambiguously only if the peg is fully credible. If the peg lacks credibility, a critical factor is the perceived likelihood of using the escape clause of a switch to a float, which raises the costs of pegging. Foreign debt increases the temptation to resort to the escape clause, so when a peg is not fully credible (as is almost always the case in reality), pegging tends to be less attractive than floating in the presence of foreign debt.

Ce mmoire explore le rapport entre la dnomination de la dette publique et le choix d'un rgime de taux de change. Trois types de dettes sont considres (nominale, indexe, trangre), et deux types de rgimes (taux fixes et taux flexibles). La dette indexe est immunise contre l'inflation imprvue. La valeur relle (en monnaie domestique) de la dette trangre est sujette des effets attribuables aux chocs dans les taux de change rels. Lapeur de laisser flotter le taux de changeaide comprendre qu'une dette trangre rend le taux fixe plus attrayant, mais ce rsultat est sans ambigut seulement si le taux fix est pleinement crdible. Si le taux fix manque de crdibilit, un facteur critique est la perception de la probabilit qu'on va utiliserl'chappatoiredu passage au taux flottant, ce qui augmente les cots d'un taux fixe. La dette trangre accrot la tentation d'avoir recours laclause chappatoire, ce qui fait que quand un taux fix n'est pas pleinement crdible, (comme c'est peu prs toujours le cas en ralit), un rgime de taux de change fixe tend tre moins attrayant qu'un rgime de taux de change flottants quand il y a dette trangre.

JEL Classification: F33, H63

Suggested Citation

Bleaney, Michael and Ozkan, F. Gulcin, The Structure of Public Debt and the Choice of Exchange Rate Regime. Canadian Journal of Economics/Revue canadienne d'conomique, Vol. 44, No. 1, pp. 325-339, 2011, Available at SSRN: or

Michael Bleaney (Contact Author)

University of Nottingham - School of Economics ( email )

University Park
Nottingham, NG7 2RD
United Kingdom
+44 0 115 951 5265 (Phone)
+44 0 115 951 5141 (Fax)

F. Gulcin Ozkan

University of York ( email )

University of York
York, YO10 5DD
United Kingdom

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