Wednesday, July 09, 2008

To peg or not to peg

The Financial Times answers the question
Countries such as the UAE cannot simply adopt a floating exchange rate, however. They are too small, and dependence on a volatile commodity makes it all but impossible to predict what their purchasing power will be the year after next, and what a sensible monetary policy might therefore be.

The Gulf needs to peg to something. A first step (after revaluation) would be to peg to a basket of currencies that included the euro and the yen. A bolder step would be to include the price of oil in that basket, so that currencies would appreciate when oil is strong, and depreciate when it is weak. That would make for smoother adjustments than double-digit inflation.
Brad Setzer has more.

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