The Interest Rate-Exchange Rate Link in the Mexican Float



Provided by Research Papers in Economics

The Interest Rate-Exchange Rate
Link in the Mexican Float

Carlos A. Ibarra*

Fecha de recepcion: 22 de enero de 2002; fecha de aceptacion: 28 de mayo de 2003

Abstract: This paper examines empirically the interest rate-exchange rate
link in the context of the Mexican experience with a floating exchange
regime. The impulse response function derived from an ECM estimated
by GMM reveals a lasting positive effect of a currency depreciation on
the peso-dollar interest rate differential. Some of the macroeconomic
consequences from this pattern are discussed, together with a possible
explanation based on the incorporation of the central bank reaction
function into private expectations.

Keywords: interest rate-exchange rate link, floating exchange rate
regimes.

Resumen : Este artîculo examina empmicamente el nexo tasa de
interés-tipo de cambio en el contexto de la experiencia de México con un
régimen de Aotacion cambiaria. La funcion de impulso respuesta derivada
de un modelo de correccion de errores (ECM) estimado por GMM revela
la existencia de un efecto positivo persistente de una depreciacion
cambiaria sobre el diferencial peso-dolar de tasas de interés. Se discuten
algunas de las consecuencias macroeconomicas de este patron, y se
presenta una posible explicacion basada en la incorporacion de la funcion
de reaccion del banco central en las expectativas del sector privado.

Palabras clave : nexo tasa de interés-tipo de cambio, regnnenes
cambiarios de flotacion.

* Thanks to two anonymous referees for their valuable comments and suggestions. Financial
support from CONACYT is gratefully acknowledged.

Departamento de Economia, Universidad de las Américas Puebla, ibarra@mail.udlap.mx.

economιa mexicana nueva ÉPOCA, vol. XIII, num. 1, primer semestre de 2004



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