Stabilization of effective exchange rates under common currency basket systems

Abstract

We investigate the extent to which a common currency basket peg would stabilize effective exchange rates of East Asian currencies. We use an AMU (Asian Monetary Unit), which is a weighted average of ASEAN10 plus 3 (Japan, China, and Korea) currencies, as a common currency basket to investigate the stabilization effects. We compare our results with another result on stabilization effects of the common G3 currency (the US dollar, the Japanese yen, and the euro) basket in the East Asian countries [Williamson, J., 2005, A currency basket for East Asia, not just China. In: Policy Briefs in International Economics, No. PB05-1. Institute for International Economics]. We obtained the following results: first, the AMU peg system would be more effective in reducing fluctuations of the effective exchange rates of East Asian currencies as a number of countries applied the AMU peg system increases in East Asia. Second, the AMU peg system would more effectively stabilize the effective exchange rates than a common G3 currency basket peg system for four (Indonesia, the Philippines, South Korea, and Thailand) of the seven countries. The results suggest that the AMU peg system would be useful for the East Asian countries whose trade weights on Japan are relatively higher than others. J. Japanese Int. Economies 20 (4) (2006) 590–611.