DP3758 Is Official Exchange Rate Intervention Effective?

Author(s): Mark P Taylor
Publication Date: February 2003
Keyword(s): mean reversion, non-linearity, official intervention, real exchange rate
JEL(s): C10, F31, F41
Programme Areas: International Macroeconomics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=3758

I examine the effectiveness of exchange rate intervention within the context of a Markov-switching model for the real exchange rate. The probability of switching between stable and unstable regimes depends non-linearly upon the amount of intervention, the degree of misalignment and the duration of the regime. Applying this to dollar-mark data for the period 1985-98, I find that intervention increases the probability of stability when the rate is misaligned, and that its influence grows with the degree of misalignment. Intervention within a small neighbourhood of equilibrium will result in a greater probability of instability.