The political economy of exchange rate regimes in transition economies

We show that political economy factors play an important role in shaping the exchange rate policies of transition economies. We argue that tradables producers prefer a floating rate to allow active exchange rate policy to affect their competitiveness, while internationally exposed sectors prefer a fixed rate to provide currency stability. We find support for that argument using data on de facto and de jure exchange rate behavior for 21 countries during the period from 1992 to 2004. Our empirical results serve as the basis for predictions regarding the adoption of the euro in the EU accession countries and other countries in Central and Eastern Europe.