Currency substitution in Asia

This dissertation consists of four chapters. Chapter one contains an introduction and the review of literature.; Chapter two examines the existence of currency substitution for Indonesia, Japan, Korea, Malaysia, Singapore, and Thailand during the time period from 1977 to 1996. Toward this goal, I estimate the Morishima elasticities of substitution between domestic real balance (MI), time and savings deposits, and the domestic holding of U.S. dollar using the symmetric generalized McFadden cost function. I observe that the domestic currency and U.S. dollar are Morishima substitutes and there is evidence of currency substitution in every country although only weak substitutes are found in some countries. The demand for U.S. dollar relative to the domestic currency appears to respond more to a change in the cost of holding domestic money than the cost of holding U.S. dollar. A higher degree of currency substitution is found in Japan, Korea, and Singapore compare to the rest of the countries due to the fact that the financial markets of these countries are relatively more developed.; In chapter three, the long-run equilibrium relationship between exchange rate and currency substitution is investigated for Indonesia, Japan, Korea, Malaysia, Singapore, and Thailand using quarterly data from 1980 to 1996. The monetary and portfolio balance models are combined in order to improve the estimates of the reduced-form equation for exchange rate determination. The hybrid portfolio/monetary model of exchange rate determination is derived and extended to incorporate the currency substitution factor. The domestic demand for foreign currency (U.S. dollar) variable is built into the model, i.e., home residents are allowed to hold both domestic and foreign currencies denominated assets. Using the cointegration analysis, I find that currency substitution is a significant factor along with other fundamental macroeconomic variables, money, income, and interest rate, in the long-run exchange rate determination for four of the six countries examined: Indonesia, Malaysia, Singapore, and Thailand.; Chapter four deals with the issue of independent monetary policy and the stability of the domestic money demand function in the presence of currency substitution. The main objective is to investigate the importance of international factors measured by either capital mobility or currency substitution on the stability of domestic money demand. It is argued that money demand will be less stable and more difficult to control in the presence of international variables. The money demand function is derived using the portfolio balance approach. The results from the cointegration analysis reveal that capital mobility and currency substitution are significant factors in the domestic money demand equations for Indonesia, Japan, Korea, Malaysia, Singapore, and Thailand. (Abstract shortened by UMI.)...