Exchange rate regime and central bank independence in a small volatile economy: the case of Iceland

Abstract

This paper is concerned with the factors that affect the choice of exchange rate and monetary regimes in Iceland. Iceland is a small open economy with a resource-based export sector. As such it has characteristics that give conflicting indications for the choice of an exchange rate regime. The choice of an exchange rate regime is not only conditioned by the structural characteristics of the economy. The parameters set by structural policies and the legal and political framework for monetary policy is also of importance. Financial liberalization, both internal and external, affects the exchange rate regime and the conduct of exchange rate policy and so does the Central Bank legislation and the relations between the Central Bank and other organs of economic policy making, especially the government. These issues will, therefore, be considered in this paper.