Exchange Rate Appreciation As a Signal of a New Policy Stance

IMF Working Papers, March 1, 1991

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Exchange Rate Appreciation As a Signal of a New Policy Stance

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Bibliographic details

• Authors: Georg Winckler
• Published: March 1, 1991
• Series: IMF Working Papers
• DOI: https://doi.org/10.5089/9781451845068.001

Summary

• The paper demonstrates, within a game theoretic framework, that signaling a “conservative” policy stance—giving a high priority to price stability—can be achieved by appreciating the exchange rate.
• Exchange rate appreciation serves to demonstrate to domestic producers, and more precisely to the trade union, that the new policy stance is meant to be serious.
• An example in the paper explores the welfare implications for the policy maker and the trade union.
• The empirical background refers to monetary policy in Europe and explains the occurrence of exchange rate commitments to the deutsche mark with appreciated rates.

Core findings

• Signaling mechanism:
  • Appreciating the exchange rate can function as a credible signal of a conservative, price-stability–oriented monetary policy.
  • The signal is targeted at domestic producers and trade unions to influence wage-setting and expectations.
• Welfare implications:
  • The paper presents an example that explores welfare implications for both the policy maker and the trade union (details are developed in the paper).
• Empirical context:
  • The phenomenon is situated in the context of European monetary policy, specifically explaining exchange rate commitments to the deutsche mark accompanied by appreciated rates.

Policy-relevant observations

• A policy maker may choose exchange rate appreciation as a strategic instrument to alter private-sector expectations about inflation and wage behavior.
• Targeting trade unions’ expectations via exchange rate movements can be part of a strategy to achieve lower inflationary pressures consistent with a conservative policy stance.

Subjects and keywords

• Subjects: Banking, Exchange rates, Foreign exchange, Labor, Labor unions, Real exchange rates, Wage adjustments, Wages
• Keywords: central bank act, Europe, exchange rate appreciation, exchange rate commitment, exchange rate expectation, Exchange rates, expectation of the union, full employment, Labor unions, Real exchange rates, utility function, Wage adjustments, Wages, Western Europe, WP

IMF Working Papers — Exchange Rate Appreciation As a Signal of a New Policy Stance (Georg Winckler, March 1, 1991).