Econometrica Vol. 59 No. 1 1991

Stochastic Process Switching: Some Simple Solutions

Kenneth A. Froot^1,2; Maurice Obstfeld³

¹ National Bureau of Economic Research · ² Harvard University · ³ University of California, Berkeley

Abstract

When changes in the economic policy regime occur stochastically, asset prices will reflect the possibility of such shifts. In this paper we apply techniques of regulated Brownian motion to obtain closed-form analytic price solutions when policy reaction functions are subject to prospective changes. We focus on the case in which the authorities promise to peg a currency's exchange rate once it reaches a predetermined future level. We also show how an open-ended commitment to exchange-rate targeting may lead to multiple equilibria.

DOI

10.2307/2938249

Volume

59

Issue

1

Pages

241

Sources

bibtex:phds-export.bib openalex crossref

Cite

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