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Optimal monetary policy for a small open economy

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  • Divino, Jose Angelo

Abstract

This paper focuses on the design of monetary policy rules for a small open economy. The model features optimizing behavior, general equilibrium and price stickiness. The real exchange rate is shown to affect the firm's real marginal cost, aggregate supply and aggregate demand. The welfare objective depends on the openness of the economy, and the optimal policy rule differs from that which obtains in a closed economy. The inflation versus output gap stabilization trade-off is caused by the real exchange rate. The implied optimal monetary policy regime is domestic inflation target coupled with controlled floating of the real exchange rate.

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Bibliographic Info

Article provided by Elsevier in its journal Economic Modelling.

Volume (Year): 26 (2009)
Issue (Month): 2 (March)
Pages: 352-358

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Handle: RePEc:eee:ecmode:v:26:y:2009:i:2:p:352-358

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Web page: http://www.elsevier.com/locate/inca/30411

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Keywords: Open economy Monetary policy Interest rate rule Stabilization trade-off Exchange rate;

References

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Citations

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Cited by:
  1. Joseph D. ALBA & Wai–Mun CHIA & Donghyun PARK, 2011. "Foreign Output Shocks and Monetary Policy Regimes in Small Open Economies: A DSGE Evaluation of East Asia," Economic Growth centre Working Paper Series 1105, Nanyang Technolgical University, School of Humanities and Social Sciences, Economic Growth centre.
  2. Bask, Mikael, 2011. "A Case for Interest Rate Inertia in Monetary Policy," Working Paper Series 2011:16, Uppsala University, Department of Economics.
  3. Jose Angelo Divino, 2006. "Cross-Country Evidence On Monetary Policy Rules," Anais do XXXIV Encontro Nacional de Economia [Proceedings of the 34th Brazilian Economics Meeting] 178, ANPEC - Associação Nacional dos Centros de Pósgraduação em Economia [Brazilian Association of Graduate Programs in Economics].
  4. Alba, Joseph D. & Chia, Wai-Mun & Park, Donghyun, 2012. "A Welfare Evaluation of East Asian Monetary Policy Regimes under Foreign Output Shock," ADB Economics Working Paper Series 299, Asian Development Bank.

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