black markets for currency hoarding activity and policy reforms abstract in emerging market economies under development of financial markets leads to goods hoarding and foreign currency accumulation as forms of investment in this paper an asset market model supplemented by explicit treatment of smuggling and second economy activity is used to study the paths of black market exchange rates second economy prices hoarding stocks and privately held dollar balances following policy reforms we discuss conditions for overshooting and related dynamics of exchange rates and prices following official exchange rate adjustments price reforms and altered risks of monetary confiscation or currency reforms the saddlepath trajectory of financial adjustment is simulated using data from recent russian experience 1997 elsevier science b v

a search theoretic model of legal and illegal currency abstract using a search theoretic model of money we explore the conditions under which two currencies domestic and foreign will co exist despite legal restrictions on the use of foreign currency for internal trade we study how changes in government policy i e its enforcement of currency laws through fines or the rate of enforcement affects the acceptability of illegal currency the equilibrium value of both currencies and the implicit exchange rate first we construct a model with indivisible goods to show conditions under which legal currency is fully acceptable but illegal currency circulates with varying acceptability we then introduce bargaining to determine prices in legal and illegal currency we show that some enforcement polices can create multiple equilibria while others will not also some methods of enforcement are capable of driving the illegal currency out of circulation while others are not

money velocity and the natural rate of interest abstract m1 velocity is approximately the permanent component of the short term rate this implies that agents in deciding how much wealth to allocate to non interest bearing m1 as opposed to interest bearing assets almost uniquely react to permanent shocks to the opportunity cost essentially ignoring transitory shocks this suggests that money demand models must be modified to allow for such distinct reaction to permanent and transitory variation in the opportunity cost of holding m1 under monetary regimes making inflation stationary permanent fluctuations in m1 velocity uniquely reflect to a close approximation permanent shifts in the natural rate of interest

law enforcement and the black market exchange rate abstract this paper examines how a system of multiple exchange rates can give rise to unreported exports and imports and a black market for foreign exchange risk aversion rather than an assumed smuggling or detection technology generally guarantees the coexistence of legal and illegal trading evidence for brazil suggests that enforcement of the exchange rate and trade regime is an important fundamental of the black market exchange rate that has so far invariably been left out of empirical work

dual exchange rates in europe and latin america this article uncovers some important empirical regularities surrounding the operation of formal dual exchange rates in europe and latin america in the 1970s and 1980s although there are some parallels between the european and latin american experiences there are also interesting differences in terms of the size and nature of the distortion created by two official exchange rates the response of the distortion to foreign interest rates real commercial exchange rates and domestic budget deficits and the motives for adopting this exchange rate regime empirical work on dual exchange rate regimes is made difficult by the transitory nature of these regimes and by frequent changes in institutional practices

inflation and welfare in a monetary economy it is in everyone s private interest to try to get someone else to hold non interest bearing cash and reserves but someone has to hold it all so these efforts must simply cancel out all of us spend several hours per year in this effort and employ thousands of talented and highly trained people to help us these person hours are simply thrown away wasted on a task that should not have to be performed at all

on the complementarity of commercial policy capital controls and inflation tax this paper studies the optimal use of distortive policies aimed at raising a given real revenue in a general equilibrium framework in which lump sum taxes are absent the policies analysed are an inflation tax commercial policy and an implicit tax on capital inflows it is shown that we would tend to avoid activating an inflation tax for small revenue needs if the policy target were allocative we would tend to use only one policy instrument thus each policy has its own comparative advantage and their combined use is justified when the target is raising government revenue

exchange rate behavior with currency inconvertibility abstract the paper analyzes exchange rate dynamics in a world where the domestic currency is inconvertible into foreign currency and there is a black market for foreign exchange the official exchnage rate is thus set by policy but the black market rate is determined by portfolio balance the stock of domestic money changes with the reported current account and the stock of foreign assets of the private sector changes with smuggling and other unreported current account transactions the effects of capital and current account disturbances as well as the effects of changes in the level and the rate of crawl of the official rate on the black market premium and on the currency substitution ratio are analyzed in variants of the basic model

money credit and banking in monetary models where agents are subject to trading shocks there is typically an ex post inefficiency since some agents are holding idle balances while others are cash constrained this problem creates a role for financial intermediaries such as banks who accept nominal deposits and make nominal loans in general financial intermediation improves the allocation the gains in welfare come from the payment of interest on deposits and not from relaxing borrowers liquidity constraints we also demonstrate that when credit rationing occurs increasing the rate of inflation can be welfare improving

changes in income inequality and the black market premium is a high black market premium for us dollars associated with rising or falling income inequality within a nation this paper empirically examines this issue within a cross section of countries and finds that the black market premium is strongly associated with rising income inequality as measured by changes in the gini coefficient others have used the black market premium as a proxy to measure protectionist policies so a possible implication is that protectionist policies further skew the distribution of income within a country however other measures of protectionist policies are not associated with changes in income inequality instead other factors which might drive the black market premium such as interest rate differentials appear to be more relevant in explaining why the black market premium is positively related with increases in income inequality

a note on dual foreign exchange markets with official rationing predetermined versus floating official exchange rate abstract this paper examines the relationship between the long run rate of inflation and the allocation of transactions between markets in economies that operate dual exchange market regimes and ration foreign exchange in the official market it shows that wider access of importers to the official market and wider access of exporters to the free market are associated with higher rates of inflation and vice versa the direction of causality among the various variables and thus the effects of economic policies depend on whether the official exchange rate is predetermined or floating

the demand for m1 in the u s a 1960 1988 estimated u s m1 demand functions appear unstable regularly breaking down over 1960 1988 e g missing money great velocity decline m1 explosion we propose a money demand function whose arguments include inflation real income long term bond yield and risk t bill interest rates and learning curve weighted yields on newly introduced instruments in m1 and non transactions m2 the model is estimated in dynamic error correction form it is constant and with an equation standard error of 0 4 variance dominates most previous models estimating alternative specifications explains earlier breakdowns showing the model s distinctive features to be important in accounting for the data

black markets for foreign exchange real exchange rates and inflation abstract the black market foreign exchange premium is a tax on exports creating a conflict between the financing of government spending and the allocative goal of stimulating exports the premium is solved for in a model that includes private portfolio choice dual exchange markets and money financing of the fiscal deficit the inflationary implications of switching to floats as a means of unifying official and black market rates are then analyzed inflation could rise substantially if the lost revenues from exports are replaced with a higher tax on money the paper is motivated with examples from sub saharan africa

capital market integration in the pacific basin region an impulse response analysis abstract we examine the extent of capital market integration in a group of pacific basin countries following the deregulation of their markets and explore whether the financial influence of japan in the region has overtaken that of the us looking at long run comovements of real interest rates through the use of cointegration and using impulse response analysis to examine the speed of adjustment of real interest rates to long run equilibrium following a shock in one of the markets which is another indicator of the degree of capital market integration we find that these countries are closely linked with world financial markets and more so with japan than with us

exchange rate differential and balance of payments under dual exchange markets abstract this paper develops a model of an economy that uses two exchange markets an official market in which the exchange rate is determined by central bank intervention and a free market in which the exchange rate is determined by market forces the official market handles selected imports and exports while the free market handles the remaining imports and exports and capital transactions the model is used to discuss the effects of various policies on the differential between the free and the official exchange rates and on the balance of payments

long run income and interest elasticities of money demand in the united states econometric techniques designed to accommodate nonstationary data are used to reexamine the stability of interest and income elasticities of money demand in the united states estimates based on postwar monthly data reveal a stable relationship between m1 velocity and various measures of interest rates that proxy the opportunity cost of holding money balances tests for the existence of cointegration and methods used to estimate the income and interest elasticities are based on procedures prescribed by soren johansen 1988 corresponding error correction estimates offer insight as to the dynamics of the process that maintains the equilibrium relation between velocity and interest rates copyright 1991 by mit press

black and official exchange rates in morocco an analysis of their long run behaviour and short run dynamics 1974 1992 using vector error correction vec model estimation on monthly data from morocco for the period january 1974 to december 1992 this article tests the hypothesis that there is a long run stable relationship between the official and the black market exchange rates for us dollars we also examine the short run dynamics in the relationship between the two markets the econometric results indicate that the two exchange rates are cointegrated furthermore we reject weak exogeneity in the case of the official exchange rate but fail to reject it in the case of the black market rate granger causality tests show that the black market rate causes the official exchange rate the results seem to support the efficiency hypothesis suggesting that participants in the black market are able to anticipate changes in the official exchange rate the findings also suggest that morocco s decision in january 1993 to introduce only current account convertibility and keep controls on capital accounts was wise

reserve and exchange rate cycles abstract many latin american countries appear locked into cycles of reserve loss devaluation and temporary reserve gains this paper shows how a dual exchange rate system with leakages may generate cycles in reserves and the premium between official and parallel exchange rates we study the dynamics of these cycles and their asymptotic behavior both analytically and numerically

monetary equilibrium and the cost of banking activity we investigate the effects of banks operating costs on allocations and welfare in a low interest rate environment we introduce an explicit production function for banks in a microfounded model where banks employ labor resources hired on a competitive market to run their operations in equilibrium this generates a spread between interest rates on loans and deposits which reflects the underlying monetary policy and the efficiency of financial intermediation in a deflation or low inflation environment equilibrium deposits yield zero returns hence banks soak up labor resources to offer deposits that do not outperform idle balances thus reducing aggregate efficiency

exchange rate policy and price level changes casualty tests for turkey in the post liberalisation period the purpose of the present study is to examine the relationship between exchange rate changes and price level changes in turkey during the 1980s using some modified granger causality tests during this period turkish exchange rate policy was characterised by considerable flexibility in contrast to the long standing policy of fixing the exchange rate until a foreign exchange crisis necessitated devaluation the weight of the evidence presented suggests that granger causality runs from price level changes to exchange rate changes but that there is not feedback causality from exchange rate changes to price level changes this conclusion is not altered by the inclusion of a money supply variable thus for turkey exchange rate adjustment does not seem to have created a vicious cycle of currency depreciation leading to inflation as is often feared whether this result will hold for other developing countries which adopt flexible exchange rate regimes will require further testing

a currency crisis model with a misaligned central parity a stochastic analysis abstract the currency crisis model outlined in this paper assumes state contingent reserve dynamics which depend on the deviations of the exchange rate from a misaligned central parity the size of the misalignment is affected by an underlined fundamental which embodies money aggregates and a stochastic shock the main result in the presence of an irreversible switch of regime is that the size of the attack is amplified by the feedback effect from the composite fundamental to the exchange rate

exchange rate rules black market premia and fiscal deficits the bolivian hyperinflation with dual exchange rates where a managed official exchange rate co exists with a floating black market rate a given budget deficit may be consistent with many different inflation rates rather than two which is the normal result in closed economy systems further all these inflation equilibria are saddle point stable a policy of adjusting the official exchange rate towards the black market rate may cause the economy to converge to a high inflation saddle point stable equilibrium where money inflation elasticity exceeds unity the analytics are motivated and illustrated by the bolivian hyperinflation of 1984 1985

special exchange rates for capital account transactions the governments of developing countries are constrained in the effective implementation of domestic policy by the interlinkages of national and international financial markets domestic macroeconomic conditions are influenced by the interaction of national and world interest rates and prices and through the impact of real exchange rates on employment the domestic responses to changes in these factors are often strong and rapid this article suggests that dual rates can indeed be used successfully as a strictly transitory policy to offset sudden shocks in capital markets the article develops models which indicate why these dual systems are able to prevent inflationary or recessionary pressures caused by a misaligned exchange rate in the short term while free capital account rates can cut the flow of capital flight however a dual rate system cannot prevent a possibly equivalent loss of foreign reserves that will ultimately result because of the impact of the overvaluation of the commercial rate on the trade balance in the longer term a dual rate system with a misaligned commercial rate exacerbates the government s deficit ultimately real wages must be cut and real interest rates raised to generate sufficient foreign exchange to finance the external debt thus a dual rate works well if the commercial rate is maintained close to the equilibrium level

a unified framework for monetary theory and policy analysis search theoretic models of monetary exchange are based on explicit descriptions of the frictions that make money essential however tractable versions of these models typically make strong assumptions that render them ill suited for monetary policy analysis we propose a new framework based on explicit micro foundations within which macro policy can be studied the framework is analytically tractable and easily quantifiable we calibrate the model to standard observations and use it to measure the cost of inflation we find that going from 10 percent to 0 percent inflation is worth between 3 and 5 percent of consumption much higher than previous estimates

financial policy and speculative runs with a crawling peg argentina 1979 1981 abstract in this paper we present a model of a balance of payments crisis and examine the argentine experiment with a crawling peg between december 1978 and february 1981 the approach taken allows us to examine the evolution of a crisis when a collapse is not perfectly foreseen and yields plausible estimates of one month ahead probabilities of a collapse of the crawling peg the results suggest that the viability of an exchange rate regime depends on the consistency of exchange rate policy with domestic credit policy if the two are not consistent confidence in exchange rate policy is undermined

banking in a matching model of money and capital we introduce banks in a model of money and capital with trading frictions banks offer demand deposit contracts and hold primary assets to maximize depositors utility if banks operating costs are small banks reallocate liquidity eliminating idle balances and improving the allocation at moderate costs idle balances are reduced but not eliminated at larger costs banks are redundant a central bank policy of paying interest on bank reserves can reverse inflation s distortionary effects and increase welfare but only when costs are small the threshold levels of banks costs increase with inflation suggesting inflation and banks utilization are positively associated

the black market for dollars in brazil the model of the black market for dollars focuses on the interaction of portfolio decisions relevant to the holding of asset stocks and the determinants of net flows of dollars associated with tourism and smuggling a partial equilibrium model of the black market shows that the level of the premium is determined by the official real exchange rate and the official depreciation adjusted interest differential as well as seasonal factors associated with tourism expectations of future exchange rate changes under rational expectations are shown to affect the current level of the black market premium the empirical evidence provides ample support for the role of the key determinants of the premium as well as for an important seasonal pattern the magnitude of the seasonal variation is evidence of the imperfect substitutability between black dollars and cruzeiro assets in portfolios

the welfare costs of price controls for cars and color televisions in poland contrasting estimates of rent seeking from recent experience the welfare costs of price controls can vary enormously depending on the method of allocating the goods in shortage and the possible rent seeking costs that may result with full rent dissipation the welfare loss from price controls on polish color televisions in 1989 was about ten times the standard estimates of distortion costs which ignore rent seeking and was more than 100 percent of the value of domestic producers sales the methods of allocating cars however did not result in rent seeking costs the domestic price controls were an unintended implicit subsidy to imports subsidies for cars were estimated at 43 percent and for color televisions at 22 percent

inflation dynamics and the parallel market for foreign exchange abstract pinto 1990 in world bank economic review 3 321 338 showed that unification of official and parallel market exchange rates may lead to an increase in steady state inflation because of the fiscal impact of real official exchange rate changes this paper shows how this and other comparative static and stability results in pinto 1990 are reversed under the assumption that official exchange rate devaluation reduces money creation in the economy it is argued that this was the case for uganda in the 1980s and we give a simple rule of thumb for estimating when unification will increase or decrease steady state inflation

economic liberalization and price response of aggregate private investment time series evidence from india this paper presents evidence on the effects of economic liberalization of 1991 on the price responsiveness of aggregate private investment in india the wide ranging reforms are expected to increase the price response of private investment due to i the le chatelier effect ii a higher price elasticity of demand for final goods and iii possible relaxation of the credit constraint the empirical results based on alternative specifications estimation methods and sample periods show a dramatic increase in the price response the elasticity of investment with respect to the relative cost of capital has increased five times after the dismantling of the licence raj ce texte examine les effets de la liberalisation de 1991 sur la reponse des prix de l investissement prive agrege en inde on aurait pu s attendre a ce que ces reformes importantes accroissent la reponse des prix de l investissement privea cause i de l effet le chatelier ii de la plus forte elasticite de la demande de biens finaux et iii de la relaxation possible de la contrainte financiere les resultats empiriques fondes sur des specifications des methodes d estimation et des periodes d echantillonnage differentes suggerent un accroissement dramatique dans la reponse des prix l elasticite de l investissement par rapport au cout relatif du capital s est accru par un facteur de 5 apres le demantelement du regime raj

devaluation exchange controls and black markets for foreign exchange in developing countries abstract this paper analyzes the response of external balance indicators to anticipated devaluation in a model incorporating the movement of black market exchange rates under rational expectations the analysis is then extended to the case of devaluation cycles to examine the behavior of black market rates and official trade statistics in the face of persistent inflation that appreciates the real exchange rate and motivates periodic devaluation the data confirm the predicted response of the black market rate to devaluation as well as the sensitivity of official exports data to movements in the black market rate

collapsing exchange rate regimes some linear examples abstract we construct a pair of linear examples to study the collapse time of a fixed exchange rate regime the first example is a perfect foresight continuous time model which allows calculation of the exact collapse time and the tracking of reserves the second example is a discrete time stochastic model which yields an endogenous probability distribution over the collapse time and produces a forward discount of the exchange rate

inflation in argentina stop and go since the austral plan the austral plan launched in 1985 was argentina s most recent stabilization strategy for reducing high inflation a heterodox program it combined orthodox components tight fiscal policy and monetary restraint with less conventional wage and price controls the austral plan failed to bring inflation down on a sustained basis but it provided useful lessons about the design of heterodox stabilization programs the difficulties of sustaining this type of effort and the consequences of failure

unification of dual exchange markets abstract this paper develops the model of an economy under a dual exchange system comprising an official market with a crawling exchange rate and a free market with a floating exchange rate after analyzing the behavior of the economy under the dual system the paper discusses the effects that switching to a unified floating system or a unified crawling peg system has on the exchange rate and on the balance of payments particularly in the short run the paper shows that these effects depend on the composition of the private sector s portfolio at the time of unification which in turn depends on the various policies that were followed while the economy was under the dual system

export adjustment to currency depreciation in the presence of parallel markets for foreign exchange the experience of selected sub saharan african countries in the 1980s the primary focus of this study is an empirical investigation of the implications of parallel exchange markets for export adjustment to official currency depreciation an econometric model incorporating the features of exchange control and credit constraint was estimated using pooled data from 13 sub saharan african countries a rise in the parallel currency premium was found to adversely affect official exports and the estimates suggest that official depreciations which are launched in the presence of large exchange rate misalignment and which succeed in reducing the latter are likely to exert greater favourable effects on export performance than otherwise equivalent depreciations

estimating long run economic equilibria with stochastic trends an asymptotic theory is provided to analyze a menu of currently existing estimators of cointegrated systems we study in detail the single equation ecm seecm approach of hendry our theoretical results lead to prescriptions for empirical work such as specifying seecm s nonlinearly and including lagged equilibrium relationships rather than lagged differences of the dependent variable as covariates simulations support these prescriptions and point to problems of overfitting not encountered in the semiparametric approach of phillips and hansen 1990

costly intermediation and consumption smoothing i introduction financial intermediaries play an essential role in economies transferring funds from agents who do not wish to use them immediately to those who do improving the allocation of resources with consequences for efficiency and welfare as hahn 1971 pointed out financial intermediation is not a costless activity it uses real resources such as labor and capital and governments often tax such activity this generates a wedge between the deposit and borrowing rates and consequently implies that households face different interest rates depending on whether they are savers or borrowers we construct a neoclassical growth model with costly intermediation in order to analyze two positive questions 1 what are the quantitative welfare implications of intermediation costs 2 are the welfare effects evenly distributed across individuals with different levels of wealth individuals in our neoclassical growth model face uninsurable idiosyncratic shocks to labor productivity an endogenous borrowing limit and costly intermediation households smooth consumption over time by making deposits at a financial intermediary in good times and running down credit balances or getting loans in bad times intermediation costs generate a wedge between loan and deposit rates with interest payments on loans higher than the return on deposits we assume that financial institutions provide all the intermediation and therefore abstract from direct borrowing and lending between households 1 as in martins da rocha and vailakis 2010 the intermediary has a labor intensive technology maximizes profit is remunerated by the marginal product of labor and takes regulation as given 2 see hahn 1971 diaz gimenez et al 1992 and mehra piguillem and prescott 2011 for similar approaches our goal is to analyze the effects of intermediation costs on agents intertemporal ability to smooth consumption and insure against labor income shocks as a consequence we focus on unsecured consumption loans such as personal loans and credit card debt and abstract from the effects of intermediation costs on entrepreneurship and productivity unsecured consumption loans while only a subset of the total credit market allow us to construct a direct measure of intermediation costs for our quantitative exercise in addition the fraction of unsecured credit over all credit in the data provides another dimension on which we can assess the performance of our model we use our model to measure key statistics of the u s economy including intermediation costs and perform counterfactual experiments reducing intermediation costs leads to two effects first for a given interest rate decreasing borrowing costs expands net borrowers consumption possibility frontiers and even current savers may benefit with positive probability they may need to borrow to smooth consumption in the future due to bad labor productivity shocks second there is an indirect effect lower intermediation costs imply an increase in the demand for loans which raises the interest rate this offsets part of the decrease in borrowing costs and also increases interest income improving savers welfare determining the net impact of these effects requires a quantitative analysis we interpret a reduction in intermediation costs as an improvement in the financial intermediation technology or a reduction in taxes on financial transactions the welfare analysis focuses on stationary equilibria and transitional dynamics the transition is slow and abstracting from it can lead to misleading welfare calculations also mobility in wealth means that comparing for instance the agent with median wealth in two stationary equilibria may not involve the same household we find three main quantitative results first intermediation costs have a large effect on welfare for the u s economy the average aggregate welfare gain of all agents from reducing intermediation costs from 3

confidence sets for cointegrating coefficients based on stationarity tests standard methods for inference in cointegrating systems require all the variables to have exact unit roots and are not at all robust even to slight violations of this condition in this article i consider an alternative approach to inference in a cointegrating system this involves testing the hypothesis that a cointegrating vector takes on a specified value by testing for the stationarity of the associated residual confidence sets for the cointegrating vector can be constructed by exploiting the equivalence between tests and confidence sets this method has the advantage that it remains valid even if the regressors have roots that are not exactly equal to unity