The Political Economy of Exchange Rate Regime Determination: A Comparison of Developing and Developed Countries

The non-optimal choice of exchange rate policy is a serious obstacle to improving the country's economic situation. Considering that the involvement of political economy factors in the adoption of exchange rate policy causes its inefficiency and the choice of exchange rate regime in developing countries seems to has been more influenced by the political economy factors, the study of amount and how the political economy factors influence on the choice of exchange rate regime of developing countries in comparison with developed countries is necessary and important. Therefore, the purpose of this study is to investigate the effect of trade, financial and political economy factors on the de facto exchange rate regime in developing and developed countries over the time period 1996-2012. The estimates of the present study have been estimated using logit and probit models. The results of the research show that in developing and developed countries, an increase in the size of economy increases the likelihood of choosing a floating exchange rate regime, and an increase in government strength, the power of interest groups, the level of democracy, and oil rents increases the likelihood of choosing a fixed exchange rate regime, although the power of interest groups is not significant in developed countries. The nonlinear relationship between the institutional quality and the exchange rate regime has been proposed by Alsina and Wagner (2006) is also confirmed.