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316 CHAPTER 10. TARGET-ZONE MODELSThe signs of A and B follow from noting that λ 1 is positive and λ 2 isnegative so that e λ 1( ¯f−f) >e λ 2( ¯f−f) . It follows that the square bracketedterm in the denominator is positive.The solution becomes simpler if you make two symmetry assumptions.First, assume that there is no drift in the fundamentals η =0.Setting the drift to zero implies λ 1 = −λ 2 = λ > 0. Second, centerthe admissible region for the fundamentals around zero with ¯f = −fso that B = −A >0. The solution becomesG[f(t)] = f(t)+B[e −λf(t) − e λf(t) ], (10.40)withs2λ =ασ , 2e λ ¯f −λ ¯f− eB =λ[e 2λ ¯f − e−2λ ¯f].Figure 10.1 shows the relation between the exchange rate and thefundamentals under Krugman-style intervention. The free ßoat solutions(t) =f(t) serves as a reference point and is given by the dotted 45-degree line. First, notice that G[f(t)] has the shape of an ‘S.’ TheS-curve lies below the s(t) =f(t) line for positive values of f(t) andvice-versa for negative values of f(t). This means that under the targetzonearrangement, the exchange rate varies by a smaller amount inresponse to a given change in f(t) within[f, ¯f] than it would under afree ßoat.Second, note that by (10.21), we know that E( ús) < 0whenf>0,and vice-versa. This means that market participants expect the exchangerate to decline when it lies above its central parity and theyexpecttheexchangeratetorisewhenitliesbelowthecentralparity.The exchange rate displays mean reversion. Thisispotentiallythe explanation for why exchange rates are less volatile under a managedßoat than they are under a free ßoat. Since market participantsexpect the authorities to intervene when the exchange rate heads towardthe bands, the expectation of the future intervention dampenscurrent exchange rate movements. This dampening result is called theHoneymoon effect.