Changes in government policies adopted by one country can have spillover effects on other
countries. International macroeconomic policy coordination involves some degree of joint
determination of several countries’ macroeconomic policies to improve joint performance.
Efforts at policy coordination in the late 1970s and 1980s include the agreement at the Bonn
Summit of 1978, the Plaza Agreement of 1985, and the Louvre Accord of 1987, but major efforts
at coordination are infrequent. Countries disagree about goals and about how the macroeconomy
works, and the benefits of coordination often are probably rather small.
The box on “Can Governments Manage the Float?” discusses whether selective intervention
which is often sterilized can have significant effects on floating exchange rates between the
major currencies. The conventional wisdom in the early 1980s was that sterilized intervention
was ineffective, but several studies in the early 1990s challenged that conclusion. Recent studies
use recently released data on daily intervention. The general conclusions are that intervention is
usually effective for a number of days, but often there is no effect one month later, and that larger
interventions and coordinated interventions tend to be more effective.
The chapter has the final two boxes in the series on the global financial and economic crisis. The
box “Liquidity Trap!” examines the challenge for monetary policy when the country’s short-term
nominal interest rate hits the lower bound, and the use of quantitative easing as an
unconventional monetary policy to try to escape the trap. The box “Central Bank Liquidity
Swaps” describes the coordinated efforts by central banks to use a new kind of swap line to
address dollar shortages in foreign financial systems that arose during the crisis. The U.S. Fed
essentially lends dollars to foreign central banks so they can lend these dollars to their banks.
Tips
This chapter is deliberately organized to parallel that of the previous Chapter 23 to the extent
possible. This allows for carryover of students’ insights and capabilities through Chapters 22, 23,
and 24. It also results in clear contrasts between the behavior of a macroeconomy that has a fixed
exchange rate and one that has a floating exchange rate. The contrasts in the effects of shocks are
summarized in Figure 24.7, and other contrasts are reviewed in the next Chapter 25.
The method of analysis of policy changes and shocks used in the text is a bit mechanical, but it
does seem to assist students in grasping the implications of floating exchange rates. We
deliberately follow the same sequence for each change or shock: (1) the effects of the shock on
the economy if (hypothetically) the exchange rate were unchanged, (2) the resulting pressure that
causes a change in the floating exchange rate, and (3) the (additional) effects on the economy of
this exchange rate change.
In presenting this material one should probably offer cautions that the effects do not always play
out as suggested by the theory, because floating exchange rates do not always move in the
directions indicated. This may be due to changes in investors’ expectations of future exchange
rates that are not captured by the approach, or it may be due to other shocks and news that are
also influencing exchange rates.