Credibility, Public Debt and Foreign Exchange Intervention

McGill Finance Research Centre Working Paper

38 Pages Posted: 18 Sep 2001

See all articles by Mo Chaudhury

Mo Chaudhury

McGill University - Desautels Faculty of Management

K. Ramagopal

Federal Home Loan Mortgage Corporation (FHLMC) - Financial Research

Date Written: July 20, 2001

Abstract

This paper presents a generalized framework where a discretionary government finds it ex-post optimal to create a downward bias in the exchange rate in addition to the inflation bias of Barro-Gordon type. This dual credibility model helps explain the empirical pattern of public debt financing most recently reported by Falcetti and Missale (2000). Most notably, large and developed economies are predicted to have lower inflation and more conventional home currency bonds. The small and emerging economies, on the other hand, are expected to have relatively higher inflation and more foreign currency bonds. This suggests that a judicious use of a portfolio of home and foreign currency bonds may help economies that are in transition to independent central banking.

Keywords: credibility, public debt, foreign exchange intervention

JEL Classification: E52, E58, F41, H63

Suggested Citation

Chaudhury, Mo and Ramagopal, K., Credibility, Public Debt and Foreign Exchange Intervention (July 20, 2001). McGill Finance Research Centre Working Paper, Available at SSRN: https://ssrn.com/abstract=283692 or http://dx.doi.org/10.2139/ssrn.283692

Mo Chaudhury (Contact Author)

McGill University - Desautels Faculty of Management ( email )

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HOME PAGE: http://www.mcgill.ca/desautels/mo-chaudhury

K. Ramagopal

Federal Home Loan Mortgage Corporation (FHLMC) - Financial Research ( email )

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McLean, VA 22102
United States
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(703) 903-3591 (Fax)

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