Target Zones and Realignment Expectations: The Israeli and Mexican Experiences

This paper studies the Mexican and Israeli experiences with a target zone. The first part of the paper develops a model of exchange rate determination under a target zone regime with stochastic realignments and examines the conditions under which the adoption of the target zone, instead of a fixed e...

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Bibliographic Details
Published inStaff papers - International Monetary Fund Vol. 43; no. 3; pp. 571 - 586
Main Author Werner, Alejandro M.
Format Journal Article
LanguageEnglish
Published International Monetary Fund 01.09.1996
Subjects
Depreciation
Differentials
Economic conditions
Exchange rates
Fixed exchange rates
Fixed interest rates
Foreign exchange rates
Interest rates
Israel
Mexico
Nominal interest rates
Statistical variance
Stochastic models
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Summary:This paper studies the Mexican and Israeli experiences with a target zone. The first part of the paper develops a model of exchange rate determination under a target zone regime with stochastic realignments and examines the conditions under which the adoption of the target zone, instead of a fixed exchange rate, reduces the volatility of the interest rate differential. We conclude that, if the variance of the expected realignment is sufficiently large, then the target zone will be useful. The second part of the paper is an empirical study that shows that the target zone regime helped reduce interest rate variability in Israel and Mexico by absorbing part of the shocks to the expected realignment with movements of the exchange rate inside the band.
Bibliography:ObjectType-Article-2
SourceType-Scholarly Journals-1
ObjectType-Feature-1
content type line 23
ISSN:0020-8027
DOI:10.2307/3867554