Monetary policy under conditions of currency substitution, the Lebanese case, 1975-1986

This dissertation examines the setting and implementation of monetary policy in Lebanon during the period 1975-1986 with special attention to currency substitution. A derivative goal is to test the existence and elasticity of money substitution in Lebanon.; Chapter 1 reviews the literature on currency substitution and discusses its implications for monetary theory and policy. The motives for holding foreign money are analyzed in Chapter 2, where a testable model of currency substitution is developed. A distinction is made between transactions and nontransactions substitution and the concept of currency location is also introduced.; The empirical investigation is left to Chapter 3. In the case of transactions balances, it is shown that the quality of domestic money affects the holdings of real domestic and foreign balances, while in the case of nontransactions balances, expectations of exchange rate changes influence both domestic and foreign real money demand.; Chapter 4 discusses the Lebanese economy in terms of output, external balance, and prices, while Chapter 5 investigates the structure and performance of the Lebanese banking system. Both these chapters describe the historical and institutional contexts in order to explain the type of monetary policy pursued by the central bank during the 1975-1986 period.; Monetary policy and its instruments--foreign exchange intervention, restrictions on foreign exchange holdings, and increases in the banks' reserve ratios--are analyzed in Chapter 6. Monetary policy failed to halt the process of currency substitution to foreign-denominated balances.; After a decade of warfare and currency mismanagement, Lebanon appears to be on the verge of hyperinflation. An epilogue presents some current evidence and discusses a possible stabilization policy that could avoid a currency collapse.