Author(s)

Bing Tong / Guang Yang 


Abstract

This article proves in a New Keynesian model that interest rate fixation can explain ChinaŠs excessive business cycle fluctuations. The fixed nominal interest rate changes the propagation of external shocks, magnifies volatility of endogenous variables, and leads to economic instability. We then extend the model to a small open economy featuring capital controls, sterilized interventions and a managed exchange rate to capture the main characteristics of the Chinese economy. We prove that the magnifying effect of interest rate fixation holds in such an environment, but this effect diminishes with a more strictly managed exchange rate.

Keywords

New Keynesian model, Chinese economy, interest rate fixation, exchange rate, managed floating

Get Full Article

Tong, B. / Yang, G.: Interest rate fixation, excessive fluctuations and exchange rate management in China, in: Applied Economics, Vol. 53 (26), pp. 2993-3022, 2021