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Structural Asymmetries and the Optimal Monetary Policy Instrument of the European Central Bank

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  • Carlo Monticelli

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    Abstract

    Although the existence of differences in economic structure across European countries is well known, their implications for the conduct of the single monetary policy in Stage Three of EMU have not yet been analyzed. This paper explores the issue on the basis of a two-country, rational-expectations, stochastic model characterized by asymmetric structural equations and a general formulation for monetary policy. Only if financial shocks are the main source of instability can heterogeneity in structures be neglected. When real shocks to aggregate demand prevail, their geographical distribution and the difference in the elasticity of aggregate supply are the key factors governing the response to structural differences. When supply shocks predominate, irrespective of their geographical distribution monetary policy should lean against the wind with more determination than if countries were identical. Differences in the transmission lag of monetary policy or some concern for growth when pursuing price stabilization reduce the size of the correction in monetary policy called for by structural asymmetries. Copyright Kluwer Academic Publishers 2000

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    File URL: http://hdl.handle.net/10.1023/A:1008353129721
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    Bibliographic Info

    Article provided by Springer in its journal Open Economies Review.

    Volume (Year): 11 (2000)
    Issue (Month): 1 (January)
    Pages: 49-71

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    Handle: RePEc:kap:openec:v:11:y:2000:i:1:p:49-71

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    Web page: http://www.springerlink.com/link.asp?id=100323

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    Keywords: European Central Bank; asymmetry; optimal monetary policy;

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    1. Ben S. Bernanke & Frederic S. Mishkin, 1997. "Inflation Targeting: A New Framework for Monetary Policy?," NBER Working Papers 5893, National Bureau of Economic Research, Inc.
    2. Lars E. O. Svensson, 1996. "Inflation Forecast Targeting: Implementing and Monitoring Inflation Targets," NBER Working Papers 5797, National Bureau of Economic Research, Inc.
    3. Rudi Dornbusch & Carlo Favero & Francesco Giavazzi, 1998. "Immediate challenges for the European Central Bank," Economic Policy, CEPR & CES & MSH, vol. 13(26), pages 15-64, 04.
    4. Bennett T. McCallum, 1986. "Some Issues Concerning Interest Rate Pegging, Price Level Determinacy, and the Real Bills Doctrine," NBER Working Papers 1294, National Bureau of Economic Research, Inc.
    5. Svensson, L-E-O, 1996. "Price Level Targeting vs Inflation Targeting : A free Lunch?," Papers 614, Stockholm - International Economic Studies.
    6. Rudiger Dornbusch & Carlo A. Favero & Francesco Giavazzi, 1998. "The Immediate Challenges for the European Central Bank," NBER Working Papers 6369, National Bureau of Economic Research, Inc.
    7. William Poole, 1969. "Optimal choice of monetary policy instruments in a simple stochastic macro model," Special Studies Papers 2, Board of Governors of the Federal Reserve System (U.S.).
    8. Roper, Don E & Turnovsky, Stephen J, 1980. "The Optimum Monetary Aggregate for Stabilization Policy," The Quarterly Journal of Economics, MIT Press, vol. 95(2), pages 333-55, September.
    9. Reinhard H. Schmidt, 2001. "Differences between Financial Systems in Europe: Consequences for EMU," Working Paper Series: Finance and Accounting 35, Department of Finance, Goethe University Frankfurt am Main.
    10. Turnovsky, Stephen J, 1980. "The Choice of Monetary Instrument under Alternative Forms of Price Expectations," The Manchester School of Economic & Social Studies, University of Manchester, vol. 48(1), pages 39-62, March.
    11. Rogoff, Kenneth, 1985. "The Optimal Degree of Commitment to an Intermediate Monetary Target," The Quarterly Journal of Economics, MIT Press, vol. 100(4), pages 1169-89, November.
    12. Ramana Ramaswamy & Torsten Sløk, 1998. "The Real Effects of Monetary Policy in the European Union: What Are the Differences?," IMF Staff Papers, Palgrave Macmillan, vol. 45(2), pages 374-396, June.
    13. Bennett T. McCallum, 1996. "Inflation Targeting in Canada, New Zealand, Sweden, the United Kingdom, and in General," NBER Working Papers 5579, National Bureau of Economic Research, Inc.
    14. Eichengreen, Barry, 1993. "European Monetary Unification," Journal of Economic Literature, American Economic Association, vol. 31(3), pages 1321-57, September.
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    Cited by:
    1. Nicola Acocella & Giovanni Di Bartolomeo, 2003. "Wage and Public Expenditure Setting in a Monetary Union," Zagreb International Review of Economics and Business, Faculty of Economics and Business, University of Zagreb, vol. 6(1-2), pages 1-16, May - Nov.

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