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The currency denomination of public debt and the choice of the monetary regime

Falcetti, E. and Milner, S. (1999) The currency denomination of public debt and the choice of the monetary regime. CEPDP, 427. Centre for Economic Performance, London School of Economics and Political Science, London, UK.

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Abstract

This paper examines the interactions between monetary regimes and public debt management. The analysis shows that delegation of monetary policy to an independent central bank is more effective in containing inflationary expectations than the use of foreign currency or price-indexed debt. If delegation of monetary policy is viable, the optimal policy is to issue conventional debt so as to reduce the cost of supply shocks and thus the need for policy accommodation. The role of debt management changes in a fixed exchange regime, since foreign currency debt may enhance the credibility of the peg. However, if a crisis nevertheless materialises, it would be worse than had foreign debt not been issued. Empirical evidence on the EMS appears to support this result. Probit estimates show that the decision to issue foreign currency debt significantly reduced the likelihood of an official realignment within the ERM. However, conditional on a crisis taking place, those countries that increased the share of foreign currency debt experienced larger devaluation sizes.

Item Type: Monograph (Discussion Paper)
Official URL: http://cep.lse.ac.uk
Additional Information: © 1999 the authors
Library of Congress subject classification: H Social Sciences > HG Finance
Sets: Collections > Economists Online
Research centres and groups > Centre for Economic Performance (CEP)
Rights: http://www.lse.ac.uk/library/usingTheLibrary/academicSupport/OA/depositYourResearch.aspx
Identification Number: 427
Date Deposited: 31 Jul 2008 09:05
URL: http://eprints.lse.ac.uk/20218/

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