Arbeitspapier

The exchange rate insulation puzzle

We confront the notion that flexible rates insulate a country from external disturbances with new evidence on spillovers from euro-area shocks to neighboring countries. We find that in response to euro-area shocks, spillovers are not smaller, and currency movements not significantly larger, in countries that float their currency, relative to those that peg to the euro - the insulation puzzle. Unconditionally, however, currency volatility is significantly higher for floaters. A state-of-the-art open-economy model can fit our conditional evidence on lack of insulation, provided monetary policy targets headline inflation, but only at the cost of missing the unconditional evidence on currency volatility.

ISBN
978-92-899-4917-0
Language
Englisch

Bibliographic citation
Series: ECB Working Paper ; No. 2630

Classification
Wirtschaft
Open Economy Macroeconomics
International Policy Coordination and Transmission
Price Level; Inflation; Deflation
Subject
Exchange-rate regime
Insulation
External shock
International spillovers,Exchange-rate disconnect

Event
Geistige Schöpfung
(who)
Corsetti, Giancarlo
Küster, Keith
Müller, Gernot J.
Schmidt, Sebastian
Event
Veröffentlichung
(who)
European Central Bank (ECB)
(where)
Frankfurt a. M.
(when)
2021

DOI
doi:10.2866/002227
Handle
Last update
10.03.2025, 11:44 AM CET

Data provider

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Object type

  • Arbeitspapier

Associated

  • Corsetti, Giancarlo
  • Küster, Keith
  • Müller, Gernot J.
  • Schmidt, Sebastian
  • European Central Bank (ECB)

Time of origin

  • 2021

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