Dirty Float

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Dirty Float

BIBLIOGRAPHY

Dirty float is a term used in international economics to describe a specific policy of a countrys monetary authority with respect to control over movements in the value of the nations currency within the foreign-exchange market. Specifically, a dirty float, also known as a managed float, is a type of exchange-rate regime, or policy, in which the government or the central bank of the country occasionally intervenes in the foreign-exchange market in order to affect the exchange rate. The term is coined as a counterpart to the clean, or free, float, under which the government never intervenes in the foreign-exchange market. Both clean and dirty floats represent the floating exchange-rate regime, under which the government does not commit to maintain a specific level of the exchange rate, as is the case with a fixed exchange-rate regime.

Under dirty float, a country maintains an independent monetary policy that allows its central bank to achieve a balance between inflation and growth. At the same time, occasional interventions in the foreign-exchange market allow the government or the central bank to avoid large swings in the exchange rates that might destabilize the economy. Countries that have a floating exchange-rate regime have to decide on the goals of their monetary policy and whether they want to engage in inflation targeting, as opposed to exchange-rate targeting, which is the case with a fixed exchange-rate regime.

Most economists consider the dirty float to be inferior to the clean float and believe that the exchange rate should be determined by the markets, while other tools of monetary policy, such as interest rates, should be used to assure the price stability.

Empirical and theoretical work suggests that when clean float is not an option, then dirty float is preferable for the developing countries, as compared to a fixed exchange-rate regime. Theoretical reasons for the superiority of a dirty float over a fixed exhange-rate regime include independence of monetary policy and freedom from currency crises. Empirical analysis also shows that countries that have more flexible exchange-rate regimes experience better economic growth on average.

International organizations such as the International Monetary Fund recommend that developing countries adopt a floating exchange-rate regime in combination with inflation targeting. As a result, the dirty float has been a dominant exchange-rate regime in the world since the beginning of the century.

Most of the countries that claim that their exchangerate regime is floating, rather than fixed, actually engage in dirty float. For this reason, economic researchers do not simply rely on the official statement of the exchange-rate policy, or de jure classification, but rather use de facto classifications they construct based on actual volatility of the exchange rates. Most commonly used classification is constructed by Carmen Reinhart and Kenneth Rogoff in their 2004 article The Modern History of Exchange Rate Arrangements: A Reinterpretation, based on their study of official and black market exchange rates.

The United States has had a floating exchange-rate regime since the collapse of the Bretton-Woods system in August 1971. Until 2000, the United States has had to maintain a dirty float regime. Nevertheless, the U.S. Treasury, which is in charge of the exchange-rate policy in the United States, has not intervened in the foreign-exchange market since September 2000. Thus, since 2000, the exchange-rate policy in the United States has been a clean, or free, float.

SEE ALSO Exchange Rates; Policy, Monetary

BIBLIOGRAPHY

Levy-Yeyati, Eduardo, and Federico Sturzenegger. 2005. Classifying Exchange Rate Regimes: Deeds vs. Words. European Economic Review 49 (6): 16031635.

Reinhart, Carmen M., and Kenneth S. Rogoff. 2004. The Modern History of Exchange Rate Arrangements: A Reinterpretation. Quarterly Journal of Economics 119 (1): 148.

Galina Hale

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Dirty Float

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