This natural view of the problem emphasizes conditional probabilities, not unconditional
ones.
At an analytical level duration models allow for the easy characterization of duration
dependence. If we introduce duration as an explanatory variable in a logit regression and
look at the sign of the estimated coefficient, the probability of an exit either increases or
decreases with duration. In reality, however, there could be a non-monotonic relationship
between the probability of an exit and the duration of a regime. It could be that the
probability of an exit increases at shorter durations but that it decreases beyond a certain
time threshold. Moreover, duration analysis can easily cope with the problem of censoring.
It is likely that some regimes will not be terminated by the end of the sample period. At
the time of writing Hong Kong still has a currency board arrangement. Consequently, the
observation for Hong Kong will be right-censored. Such observations should be taken into
account.
This paper makes use of duration models to study duration dependence across types
of countries using the non-parametric Kaplan-Meier estimator. Moreover, we estimate a
semi-parametric proportional hazard specification that allows for time-varying independent
variables in order to identify the determinants of the probability of an exit. Regime du-
rations are constructed on the basis of the de facto classification of exchange rate regimes
proposed by Reinhart and Rogoff (2004).
The results show a clear non-monotonic pattern of duration dependence. The non-
parametric Kaplan-Meier estimator reveals that the relationship between the probability of
an exit and the time spent within a regime differs significantly across types of countries. The
semi-parametric approach shows that inflation, openness and current account balance affect
the conditional probability of an exit. Nevertheless, the pattern of duration dependence
remains non-monotonic even after introducing time-varying covariates. In other words, it
seems that the probability of an exit from a fixed exchange rate regime is affected by the
time spent within this regime, other things being equal.
The paper is organised as follows. Section 2 reviews the literature on exits from fixed
exchange rate regimes. Section 3 introduces important concepts for duration analysis and
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