The Nominal-Real Volatility Trade-off and the Selection of the Exchange Rate Regime

Abstract

This paper studies the way a rational policymaker endogenously selects the exchange rate regime. To this end, two main ideas are intensively explored: i) the exchange rate regimes are non-neutral; and it) there exists a trade-off between nominal volatility and real volatiity. Regarding the empirical evidence, it is proposed a methodology to analyze the underlying factors of the exchange rate regime choices. The central empirical result is that the policymaker desired degree of exchange rate flexibility is influenced by both nominal and real volatity. Furthermore, these empirical results are in the same line of the theoretical findings.