Stabilization Mechanism of Exchange Rate: From the Perspective of Currency Crisis under a Pegged Exchange Rate System

Author: Huang Ruiling
Publisher:
Publish Date: 2005-06-01
Features: Dr. Huang Ruiling's work takes the exchange rate regimes of countries that experienced currency crises in the 1990s as the logical starting point of its research and weaves the exchange rate stability mechanism as the main thread throughout the chapters. It comprehensively analyzes the defects of both the internal and external stability mechanisms of the pegged exchange rate system and, based on this, discusses relevant adjustment and improvement measures. In a sense, the research in this book achieves a certain "grafting" between currency crises and exchange rate regimes, integrating theoretical, policy-oriented, practical, and forward-looking aspects, making it a reference book with academic and applied value. Since the 1990s, the international financial situation has been turbulent and crises have occurred one after another. From the European currency crisis to the Mexican currency crisis, from the Asian currency crisis to the Argentine currency crisis, people have experienced the harsh winds and severe consequences of international currency crises. At the same time, with the continuous advancement of financial globalization, a financial crisis in one country or region can quickly spread to neighboring countries and regions. This "SARS-like" phenomenon in the financial field (or the "domino effect," "tequila effect," "butterfly effect," "tango effect"), may even trigger global financial instability. From the four relatively severe financial crises since the 1990s, the author surprisingly found two commonalities: first, the countries that experienced crises mostly adopted inflexible pegged exchange rate systems before the crisis and had highly open capital accounts; second, before the crisis, these countries' current accounts were mostly in deficit. This prompted the author to think and become interested in researching the phenomenon: Why did most developing countries adopt inflexible pegged exchange rate systems after the Jamaica Agreement? What is the intrinsic link between the pegged exchange rate system and current account deficits? Why were the foreign exchange reserves interventions of crisis countries ineffective? What are the defects of the exchange rate stability mechanism under the pegged exchange rate system, and how should they be coordinated? And so on. Numerous facts show that in the early stages of implementing the pegged exchange rate system, it is beneficial for the foreign investment and foreign trade economy of developing countries, helps curb inflation, and enhances the credibility of developing countries. However, as the macroeconomic fundamentals of developing countries change, both the internal and external stability mechanisms of their pegged exchange rate system deviate. If adjustments are not made in a timely manner, it can lead to many negative effects, even triggering currency crises. From the perspective of the internal stability mechanism of the pegged exchange rate system, because the nominal exchange rate is often detached from its equilibrium exchange rate for a long time, there are issues such as exchange rate overvaluation leading to long-term current account deficits and increased risks in the scale and structure of foreign debt. The external stability mechanism of the pegged exchange rate system also has certain defects. From the perspective of direct external stability mechanisms, the function of the central bank directly using foreign exchange reserves to intervene in the market to maintain exchange rate stability has gradually weakened in the process of financial globalization. Indirect external stability mechanisms also have certain risks. In view of this, before the currency crises of the 1990s, although crisis countries used both direct and indirect external stability mechanisms, they all failed. Due to the deviations in the internal and external stability mechanisms of the pegged exchange rate system, developing countries should gradually exit the pegged exchange rate system or make timely adjustments to its internal and external stability mechanisms when their economy reaches a certain stage, otherwise, it will trigger a currency crisis. In light of China's actual situation, the RMB exchange rate has undergone long-term evolution and is currently in a phase of a de facto pegged exchange rate system with the U.S. dollar. Its exchange rate stability mechanism has certain hidden risks, and therefore, as China's integration into the process of financial globalization accelerates after joining the WTO, it is necessary to make timely adjustments to the RMB exchange rate to coordinate its internal and external stability mechanisms and maintain China's financial security. The study of exchange rate stability mechanisms is a relatively new, multi-level, multi-perspective, and complex topic. To conduct a relatively comprehensive and in-depth research and analysis of this topic, it is necessary to identify the starting point and study the exchange rate stability mechanism from a certain level or perspective in order to obtain valuable research results. In terms of previous research achievements, studies on exchange rate regimes and currency crises have been relatively concentrated and rich, while research on the relationship between exchange rate regimes and currency crises has been relatively scattered, especially research on exchange rate stability mechanisms from the perspective of the relationship between pegged exchange rate systems and currency crises is even rarer. The research in this book is an attempt in this regard. Its research approach is: under open economic conditions, taking the currency crisis under the pegged exchange rate system as the starting point, from the perspective of institutional arrangements and policy design, with the exchange rate stability mechanism and its coordination as the logical main thread, to systematically and deeply study the exchange rate stability mechanism under the pegged exchange rate system and its coordination, and to explore reasonable paths for the reform and coordination of the RMB exchange rate stability mechanism. This book mainly uses economic theories to analyze the exchange rate stability mechanism. Economics studies the optimal allocation of limited resources from the perspective of resource scarcity to increase social wealth and welfare. It mainly includes theories such as monetary banking theory, international finance theory, and international economics theory, especially exchange rate theory, financial crisis theory, and policy coordination theory. In addition to the introduction, which elaborates on the research topic and scope, the main concepts and their explanations, the research approach, and the basic theoretical framework, the book is divided into six chapters, with the main content including: general theoretical analysis of exchange rate regimes and currency crises, analysis of the cost and benefits of the exchange rate stability mechanism under the pegged exchange rate system, empirical analysis of currency crises since the 1990s, adjustment measures for the exchange rate stability mechanism, and defects and reform of the RMB exchange rate stability mechanism. Among them, in the analysis of currency crises in Chapter 3, a (economic model) was established to conduct regression analysis and practical verification of the contagion of the four currency crises since the 1990s. The author hopes that the research can contribute to the exchange rate system reform of developing countries, especially China, and the maintenance of their financial security.