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Zheng Liu
- 22 August 2005
- WORKING PAPER SERIES - No. 514Details
- Abstract
- This paper presents a new argument for international monetary policy coordination based on considerations of structural asymmetries across countries. In a two-country world with a traded and a non-traded sector in each country, optimal independent monetary policy cannot replicate the natural-rate allocations. There are potential welfare gains from coordination since the planner under a cooperating regime internalizes a terms-of-trade externality that independent central banks tend to overlook. Yet, with symmetric structures across countries, the gains are quantitatively small. If the size of the traded sector differs across countries, the gains can be sizable and increase with the degree of asymmetry. The planner's optimal policy not only internalizes the terms-of-trade externality, it also creates a terms-of-trade bias in favor the country with a larger traded sector. Further, the planner tries to balance the terms-of-trade bias against the need to stabilize fluctuations in the terms-of-trade gap.
- JEL Code
- E52 : Macroeconomics and Monetary Economics→Monetary Policy, Central Banking, and the Supply of Money and Credit→Monetary Policy
F41 : International Economics→Macroeconomic Aspects of International Trade and Finance→Open Economy Macroeconomics
F42 : International Economics→Macroeconomic Aspects of International Trade and Finance→International Policy Coordination and Transmission
- 7 May 2004
- WORKING PAPER SERIES - No. 355Details
- Abstract
- The international welfare effects of a country's monetary policy shocks have been controversial in the new open economy macro (i.e., NOEM) literature. While a unilateral monetary expansion increases the production efficiency in each country, it affects the terms of trade in favor of one country against another depending on the currencies of price setting. In this paper, we incorporate multiple stages of production and trade into a standard NEOM model to capture world production interdependence, and show that increased world production interdependence tends to magnify the e±ciency-improvement effect while dampening the terms-of-trade effect. As a consequence, a unilateral monetary expansion can be mutually beneficial regardless of in which currency prices are set. In this sense, international monetary policy transmission may not be a source of potential conflict in a world with production interdependence.
- JEL Code
- E32 : Macroeconomics and Monetary Economics→Prices, Business Fluctuations, and Cycles→Business Fluctuations, Cycles
F31 : International Economics→International Finance→Foreign Exchange
F41 : International Economics→Macroeconomic Aspects of International Trade and Finance→Open Economy Macroeconomics
- 1 September 2002
- WORKING PAPER SERIES - No. 173Details
- Abstract
- This paper shows that the conditions under which inflation-targeting interest rate rules lead to equilibrium uniqueness in a small open economy in general differ from those in a closed economy. As the monetary authority adjusts nominal interest rates in response to inflation, the real interest rate changes. The overall effect of this change on aggregate demand has important implications for equilibrium determinacy. In an open economy, an increase in the real interest rate is transmitted to aggregate demand through an intertemporal substitution effect, as in a closed economy, but also through a terms of trade effect that is absent in the closed economy. These effects move aggregate demand in opposite directions. We find that, in a broad class of models, the conditions for local equilibrium uniqueness depend crucially on the degree of openness to international trade. Openness matters not only quantitatively, but also qualitatively.
- JEL Code
- E52 : Macroeconomics and Monetary Economics→Monetary Policy, Central Banking, and the Supply of Money and Credit→Monetary Policy
E58 : Macroeconomics and Monetary Economics→Monetary Policy, Central Banking, and the Supply of Money and Credit→Central Banks and Their Policies
F41 : International Economics→Macroeconomic Aspects of International Trade and Finance→Open Economy Macroeconomics