Testing the Unstable Middle and Two Corners Hypotheses About Exchange Rate Regimes

Open Economies Review, Vol. 20, No. 1, February 2009

Posted: 17 Dec 2007 Last revised: 14 Aug 2009

See all articles by Apanard Penny Prabha

Apanard Penny Prabha

University of Illinois at Springfield

Eric M.P. Chiu

National Chung Hsing University

Thomas D. Willett

Independent

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Abstract

The recent rash of international currency crises has generated considerable interest in the role that exchange rate regimes have played in contributing to these crises. Many economists have argued that efforts to operate adjustably pegged exchange rate regimes have been a major contributor to the unstable middle hypothesis and some have argued that this unstable middle is so broad that only the two corners of hard fixes or floating rates will be stable in a world of high capital mobility - the two corners or bipolar hypothesis. Two recent empirical studies by researchers at the International Monetary Fund reach opposing conclusions on these issues. We examine the issue further and show that conclusions can be quite sensitive to how exchange rate regimes are grouped into categories and the measures of currency crises that are used. In general we find that the dead center of the adjustable peg is by far the most crisis prone broad type of exchange rate regimes, but that countries need not go all the way to freely floating rates or hard fixes to substantially reduce the risks of currency crises.

Keywords: exchange rate regimes, classifications, currency crises

JEL Classification: F31, F41

Suggested Citation

Prabha, Apanard Penny and Chiu, Eric M.P. and Willett, Thomas D., Testing the Unstable Middle and Two Corners Hypotheses About Exchange Rate Regimes. Open Economies Review, Vol. 20, No. 1, February 2009 , Available at SSRN: https://ssrn.com/abstract=1071984

Apanard Penny Prabha (Contact Author)

University of Illinois at Springfield ( email )

Springfield, IL 62703
United States

Eric M.P. Chiu

National Chung Hsing University ( email )

402, No. 250 Kuo Kuang Road, Taiwan
Taichung, Taiwan
China

Thomas D. Willett

Independent

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