chapter  2
Theories of Exchange-Rate Regime Determination
WithMichael G. Hall
Pages 23

This chapter surveys literature on Exchange-Rate Regime choice and examines the causal logic behind the exchange-rate regime (ERR) theories. It examines the role of three political economy variables: elections, transparency, and the size of the manufacturing sector that have potential for explaining the persistence of pegging before examining the role of financial intermediation in more depth. Economists base almost all of their theorizing on ERR choice on the Mundell-Fleming model of exchange rates. Optimum currency area (OCA) theory developed in response to the question of whether or not different states should share a common currency. Both OCA theory and optimal exchange-rate management theory examined the economics of choosing between fixed and floating rates. Domestic-level theories emphasize the role of domestic politics. An emphasis on elections and transparency takes an "institutionalist" approach, where the rules and practices of the political process are assumed to influence policy. Politicians are loath to offend voters as an election approaches.