Exchange rate determination under interest rate rules

We propose a theory of exchange rate determination under interestrate rules in a two-country model. We first show that simpleinterest rate feedback rules can determine a unique and stableequilibrium without any explicit reaction to the nominal exchangerate.We characterize how the behavior of the exchange rate and ofthe terms of trade depends in a critical way on the monetaryregime chosen, though not necessarily on monetary shocks. Wegive a simple account of exchange rate volatility in terms ofmonetary policy rules, we provide an explanation of the relationbetween nominal exchange rate volatility and macroeconomicvariability in terms of the monetary regime adopted by monetaryauthorities.[...]