Is Exchange Rate Stabilization an Appropriate Cure for the Dutch Disease?
by Ruy Lama and Juan Pablo Medina
International Monetary Fund
This paper evaluates how successful a policy of exchange
rate stabilization is in counteracting the negative effects of
a Dutch disease episode. We consider a small open-economy
model that incorporates nominal rigidities and a learning-bydoing
externality in the tradable sector. The paper shows that
leaning against an appreciated exchange rate can prevent an
inefficient loss of tradable output but at the cost of generating
a misallocation of resources in other sectors of the economy.
The paper also finds that welfare is a decreasing function of
exchange rate intervention. These results suggest that stabilizing
the nominal exchange rate in response to a Dutch disease
episode could be highly distortionary.
JEL Codes: E52, F31, F41.
(PDF, 42 pages 903 kb)
Discussion by Michael B. Devereux