We study the stabilizing properties of exchange rates in five small open
economies during to periods of floating exchange rates and inflation targeting. In
the cases of Sweden and Canada, the nominal exchange rates behave in a stabilizing
manner. Most exchange rate movements emanate from the exchange rate itself
and are hence not responses to fundamental shocks. However, these non-fundamental
shocks have only negligible effects on output and inflation. Our findings indicate that
exchange rates display some stabilizing properties but can mainly be characterized as
disconnected from the rest of the economy.