ABSTRACT
This chapter discusses the new challenges facing monetary policy regimes in developing and transition countries in the era of globalization. It summarizes the critique of the so-called intermediate (hybrid) regimes which leads to the recommendation that countries should choose between the two extreme 'comer' solutions: either sovereign monetary policy with a freely floating exchange rate, or the surrender of monetary sovereignty by adopting a 'hard' peg. The chapter also discusses various theoretical aspects of this choice. It revisits optimum currency area theory. The chapter talks about the advantages of flexible exchange rates. It addresses the credibility issue and analyzes the phenomenon of currency substitution. The chapter introduces the political economy dimension to the choice analyzed, and the issue of 'network externalities.' It also analyzes the case of the transition economies of Central and Eastern Europe and the former Soviet Union. The biggest problem with optimum currency area theory in its original version relates to its static character.
