Monetary policies for developing countries: The role of institutional quality

Weak public institutions, including high levels of corruption, characterize many developing countries. We demonstrate that this feature has important implications for the design of monetary policymaking institutions. We find that a pegged exchange rate or dollarization, while sometimes prescribed as a solution to the credibility problem, is typically not appropriate for countries with poor institutions. Such an arrangement is inferior to a Rogoff-style conservative central banker, whose optimal degree of conservatism is proportional to the quality of institutions. Finally, we cast doubt on the notion that a low inflationary framework can induce governments to improve public institutions. (c) 2006 Elsevier B.V. All rights reserved.