Monetary and Exchange Rate Policy in Colombia: Effects on the Real Exchange Rate in the 1990s

Abstract

This article examines the causes and effects of the real exchange rate appreciation in Colombia during the 1990s. The substantial appreciation of the real exchange rate during the 1990s was an important factor contributing to the economic crisis of 1998-2000. While a number of Colombian economists have argued that the real appreciation was an equilibrating response to real shocks, such as rising fiscal deficits, petroleum discoveries, and increased productivity, this paper argues that nominal variables (including the nominal exchange rate, monetary policy and capital flows) also played an important role. These transitory shocks caused the real exchange rate to overshoot its long-run equilibrium, contributing to the recent economic crisis and the necessity for the large nominal depreciation of the peso in 1998-99.