Exchange - rate adjustment in a multicurrency monetary system

Abstract

A multination monetary system like the European Monetary System (EMS) is intended to concentrate trade and employment within the block of member na tions by stabilising internal exchange rates. Each member nation accepts a defined responsibility for intervention by its central bank to maintain exchange rates within a specified band. Since intermember exchange rates are affected by changes in the ex change rates of individual member currencies with respect to major currencies outside the block, monetary systems like the EMS use a formula to allo cate responsibility among the member nations for counteracting such exogenous disturbances of inter- block exchange rates. Though the rules for assigning responsibility for intervention are clearly stated, their consequences to the member nations are not. For this reason, a simulation model of the EMS was built. (It could, of course, be adapted to represent any similar sys tem.) This paper describes the results of a simula tion study of the EMS based on this model. The study was undertaken to increase understanding of the impact on EMS members of the external economic environment, of changes in the number of members of the EMS, and of changes in their relative trading importance. Simulation was used because the EMS is too complex for conventional mathematical analysis.