Abstract
In the paper we extend the Gerali et al. (2010) model to an open economy model with dual-currency banking and endogenously determined dollarization. The model incorporates a portfolio allocation problem in households' and entrepreneurs' decisions, so that they choose optimal currency structure of their deposits and loans based on interest rate differentials and their expectations about exchange rate movements. The optimal structure of deposit and loan portfolios yields in disparate dollarization rates.The model is estimated for Armenia using the data from 2004 to 2014. The comparison of the models with and without dollarization shows that the role of monetary policy in quite different in dollarized economies, since it primarily affects the economic activity by exchange rate channel, rather than by interest rate channel. This result claims for a different approach to monetary policy implementation in dollarized countries.
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