This paper estimates the parameters of a pricing model which considers the possibility of discrete jumps in the Brazilian exchange rate (Merton's model), from January 1997 to January 1999. Those parameters can be seen as probabilities and expected magnitudes of real devaluation. Such estimates are defended as good measures of credibility of the exchange rate policy that prevailed from March 1995 to January 1999, and it is argued that the possibility of discrete jumps explains the existence of volatility smiles for Brazilian exchange rate options during that period. According to the results presented by this paper, the magnitude of the discrete jump occurred in January 1999 was underestimated by the market and the credibility of the exchange rate policy was mainly affected by crises in other developing countries.
