The 'Walters Critique' of the EMS - A Case of Inconsistent Expectations

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Abstract
Alan Walters has suggested that the European Monetary System will prove dynamically unstable when capital controls are removed. The argument is analysed within a model which includes overlapping contracts. It is found that the short run effects predicted by Walters only arise when the credibility of the peg differs as between the labour and financial markets: but even if such a difference exists the system is stable in the long run.
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