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Exchange Rates in Chile

Exchange Rates in Chile. William R. Keech Carnegie Mellon University. Basics. Economic “Locus classicus” of inflation But hyperinflation only with Allende Currently “nil” Political Democracy 1932-1973 Dictatorship 1973-1990 Democracy 1990-present. 2 Episodes of rigid ER policy.

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Exchange Rates in Chile

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  1. Exchange Rates in Chile William R. Keech Carnegie Mellon University

  2. Basics • Economic • “Locus classicus” of inflation • But hyperinflation only with Allende • Currently “nil” • Political • Democracy 1932-1973 • Dictatorship 1973-1990 • Democracy 1990-present

  3. 2 Episodes of rigid ER policy • Last period of gold standard: 1925-1931 • Hirschman: “misguided stubbornness” • ER fixed at 39 to US dollar 1979-1982 • Dornbusch and Edwards: “monstrously incompetent”

  4. Crawling Peg • First instituted under Frei 1965-1970 • Rate announced by Central Bank • 3 exchange rates • Main rate for bulk of trade: forward bank rate • Rate for copper: spot bank rate • Tourism, etc: broker’s rate • Purpose: more stability in RER

  5. Unidad Popular: 1970-73 • Focus on macroeconomic performance • 1971 vs 1972 and 1973 • Massive public expenditure, debt, printing money • Multiple exchange rates • Lowest 3 percent of highest • Big devaluations, but still < inflation

  6. Crawling peg again: 1974-79 • Dictatorship reduced govt. role in economy • Eliminated ISI; promoted trade • But continued to control exchange rates • Reduced multiple rates to 3 and then 1 • Devaluation then revaluations • Fluctuating RER • But inflation down to only mid 30s by 1979

  7. Fixed ER: 1979-1982 • Inflation not falling • Fixed ER 6/1979 to reduce inflationary expectations • 39 peso to the US $ • RER appreciated by a third • Inflation fell to 10% by 1982 • But deep, deep recession

  8. 1982-1989 • Abrupt devaluation • Free float for a time • Return to crawling peg

  9. Since the 1980s • Democracy bears fruits of market reforms • Keeping the neoliberal policies • Main economic change: • Orientation to distributional issues • Raising taxes to do it • Inflation fell to single digits, while maintaining growth

  10. Return to democracy, cont. • Export success and inflow of capital • Led to appreciation in RER • CB dealt with this “problem” but nominal rate remained at bottom of band • 1992 revaluation and increase of band

  11. Lessons • Too much credibility? • 1925-1932 and 1979-1982 • But other (external) factors? • Crawling peg seems to have provided a good combination of discretion and commitment • Biggest lesson: get the fundamentals right

  12. Questions • Could Chile have gotten the fundamentals right under democratic institutions? • Could the dictatorship have done it faster and at less cost than it did?

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