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Discussion Paper/Document d’analyse 2011-5 External Stability, Real Exchange Rate Adjustment and the Exchange Rate Regime in Emerging-Market Economies by Olivier Gervais, Lawrence Schembri and Lena Suchanek Bank of Canada Discussion Paper 2011-5 June 2011 External Stability, Real Exchange Rate Adjustment and the Exchange Rate Regime in Emerging-Market Economies by Olivier Gervais, Lawrence Schembri and Lena Suchanek International Economic Analysis Department Bank of Canada Ottawa, Ontario, Canada K1A 0G9 Corresponding author: lsuchanek@bankofcanada.ca Bank of Canada discussion papers are completed research studies on a wide variety of technical subjects relevant to central bank policy. The views expressed in this paper are those of the authors. No responsibility for them should be attributed to the Bank of Canada. 2 ISSN 1914-0568 © 2011 Bank of Canada Acknowledgements We would like to thank Jeannine Bailliu, Charles Engel, Wei Dong, Michael Francis, Sharon Kozicki, René Lalonde, Robert Lavigne, and participants at the 2009 Canadian Economics Association meetings, in seminars at the Kiel Institute for the World Economy, the Bank of England, the Bank of Canada and Carleton University for helpful comments, and Firas Abu-Sneneh and Amberly Jane Coates for excellent research assistance. ii Abstract In emerging-market economies, real exchange rate adjustment is critical for maint