Economic Fundamentals on Exchange Rates under Different Exchange Rate Regimes: Recent Experiences from the Korean Exchange Rate Regime Change

This paper investigates the structural differences of the free floating exchange rate regime after the economic crisis compared to the managed float exchange rate regime before the economic crisis. This paper focuses on th e relationship between exchange rates and economic fundamentals. It is well documented that the exchange rate is very difficult to predict using any theoretical models for th e exchange rate determination. Korean exchange rates provide one of the unique opportunities to stud y the different behaviors or roles, if any, of managed float and free fl oating exchange rate regimes. Based on the simple monetary model, we found that the Korean exchange rates are more sensitive to the economic fundamentals under the free floa ting regime than under the managed float regime. Exchange rate path-through into th e domestic variable, especially inflation rate, has become more stable under the floating re gime than under the managed regime. This finding may contradict the traditional argument s for the managed regime. However, this finding is consistent with the view that the free floating regime is better for the economic growth in the long-run. In short, the fixed or managed regimes are short-run solutions for the economic growth. Exchange rate volatilities under the flexible regime could be reduced if there is a well-functioning future’s market.