PPP, random walks, and UIP after interest rate liberalisation in a small developing economy

This paper investigates the impact of interest rate liberalisation on exchange rate expectations in the Dominican Republic (DR). The research employs a nested purchasing power parity, random walk, and uncovered interest parity specification that facilitates the recovery of the fundamentals behind the exchange rate expectations formation mechanism. The findings reveal that the most significant driver of exchange rate expectations is the interest rate differential between the DR and its main trading partner -the United States. These results are of relevance for the design and implementation of financial reforms and exchange rate policy alike, and in anticipating abrupt exchange rate movements.