On the sustainability of exchange rate target zones with central parity realignments

- I model a target zone with imperfect credibility and central parity realignments.
- I explore the use of discrete interventions with finite reserves on the target zone.
- Low credibility and frequent realignments lead to excess exchange rate volatility.
- Parity realignments do not prevent the eventual depletion of finite reserves.
- The sustainability of the target zone does not depend on its credibility in general.

I show that parity realignments alone do not suffice to ensure the long-run sustainability of an exchange rate target zone with imperfect credibility due to the gambler's ruin problem. However, low credibility and frequent realignments can destabilize the exchange rate.