Question
In the context of an open-economy with two key ingredients: (i) partial segmentation of home and foreign bond markets and (ii) a pecuniary externality that
In the context of an open-economy with two key ingredients: (i) partial segmentation of home and foreign bond markets and (ii) a pecuniary externality that makes the real exchange rate excessively volatile in response to capital flows, why does such a country tend to over-accumulate reserves, reducing welfare and leading to inefficiently low world interest rates? Since such interventions allow the central bank to address the pecuniary externality, and are also costly, as foreigners make carry-trade profits discuss a optimal intervention policy that solves this trade-off.
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