An economist is analyzing the monetary policy of a country during a historical period when it issued a significant portion of its government bonds in a foreign currency (e.g., U.S. dollars) instead of its own domestic currency. Why would the interest rate on these foreign-currency-denominated bonds be a poor proxy for the country's domestic policy interest rate?

In the pre-euro era, the interest rate on Spanish government bonds served as a valid proxy for Spain's policy interest rate. The primary reason for this validity is that the Spanish government had a strong reputation for fiscal responsibility, which minimized the perceived risk of default.

Evaluating Proxies for Monetary Policy

Choosing a Reliable Proxy for Historical Policy Rates

For each scenario describing a country's borrowing, match it with the correct assessment of whether its government bond rate is a good or poor proxy for its domestic policy interest rate.