REAL EXCHANGE-RATE TARGETING AND INFLATION IN TURKEY - AN EMPIRICAL-ANALYSIS WITH POLICY CREDIBILITY

In this paper we make an empirical investigation into the conflict amo ng objectives under a real exchange rate policy, i.e. between the trad e balance and domestic inflation. This occurs when the nontinal exchan ge rate is managed to achieve a certain level of the real exchange rat e in order to main external competitiveness. Our empirical analysis dr aws on the Turkish case, whereby the exchange rate has been the key po licy instrument since the 1980s. The results from the simulation exper iments with a well-defined macromodel, where the devaluation expectati ons are explicitly considered, indicate moderate inflationary conseque nces of a real exchange rate policy based on the relative purchasing p ower parity (PPP) rule in Turkey. Moreover, a real exchange rate appre ciation is found to be contractionary. These are common characteristic s of the demand-determined output case. Another major conclusion is th at the exchange rate policy can provide an anchor for price stability only if it is credible. (C) 1997 Elsevier Science Ltd.