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The Exchange Rate Response to Monetary Policy Innovations

Author

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  • Viktoria Hnatkovska
  • Amartya Lahiri
  • Carlos A. Vegh

Abstract

We present a new data fact: in response to a monetary tightening, the domestic currency tends to appreciate in developed countries but depreciate in developing countries. A model is developed to rationalize this contrasting pattern. It has three key channels of monetary transmission: a liquidity demand channel, a fiscal channel, and an output channel. The paper shows that a calibrated version of the model can explain the contrast between developed and developing countries. Using counterfactual experiments and empirical evidence, we identify differences in the liquidity demand effect as critical in explaining the contrasting responses generated by the model. (JEL E23, E43, E52, F31, F33, O19)

Suggested Citation

  • Viktoria Hnatkovska & Amartya Lahiri & Carlos A. Vegh, 2016. "The Exchange Rate Response to Monetary Policy Innovations," American Economic Journal: Macroeconomics, American Economic Association, vol. 8(2), pages 137-181, April.
  • Handle: RePEc:aea:aejmac:v:8:y:2016:i:2:p:137-81
    Note: DOI: 10.1257/mac.20140362
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    More about this item

    JEL classification:

    • E23 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Production
    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • F33 - International Economics - - International Finance - - - International Monetary Arrangements and Institutions
    • O19 - Economic Development, Innovation, Technological Change, and Growth - - Economic Development - - - International Linkages to Development; Role of International Organizations

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