The paper evaluates the effectiveness of the high interest rate policy in stabilizing the exchange rate during the Korean crisis, based on a nonlinear impulse response function approach. By tracing impulse responses within an estimated model, we find that high interest rates induce depreciation for a very short period (five days), followed by a substantial appreciation for an extensive period (more than three months). In contrast, a low interest rate policy would appreciate the exchange rate only for a very short period but have little impact afterwards, indicating an asymmetry in the exchange rate response to an interest rate shock. The impulse function analysis also suggests that a cutback of interest rates to the pre-crisis level does not cause serious depreciation. Our findings suggest that the IMF's interest rate policy in Korea, which was characterized by a sharp increase in interest rates at the onset of the crisis followed by a cutback after several months, contributed to the stabilization of the exchange rate.

Executive Summary

I. Introduction

II. Empirical Methodology
1. SNP Estimation of the Conditional Density
2. Impulse Response Analysis of Nonlinear Models

III. Data

IV. Main Empirical Results

V. Evaluation of the IMF's High Interest Rate Policy

VI. Conclusion

Reference