Merely applying this formula might create a downward bias in the index, i.e., exaggerating the “flexibility” of the exchange rate especially when the rate usually follows a narrow band, but is de- or revalued infrequently. <br>To avoid such downward bias, we also apply a threshold to the exchange rate movement as has been done in the literature. <br>That is, if the rate of monthly change in the exchange rate stayed within +/-0.33 percent bands, we define the exchange rate as “fixed” and assign a value of one for the ERS index. <br>Single year pegs are dropped because they are quite possibly not intentional ones. <br>Higher values of the index indicate greater exchange rate stability against the currency of the base country.
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