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Optimal Simple Monetary Policy Rules in a Small Open Economy with Exchange Rate Imperfections

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Author Info
Deming Luo (Department of Economics, Carleton University)
Stephen Ferris () (Department of Economics, Carleton University)

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Abstract

The paper addresses whether or not the exchange rate or some other dimension of the external side of the economy should form an integral part of the monetary rule for a small open economy (SOE) in which the central bank faces data deficiencies. Under a number of information scenarios, the model’s simulations suggest that some reflection of the external environment facing the SOE—either the real exchange rate gap and/or the law of one price gap—is needed to improve monetary policy performance. When the money rule includes both interest rate smoothing and the real exchange rate (or law of one price gap), the relative welfare gain from their inclusion increases as the monetary authorities loses access to more current and reliable information.

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Publisher Info
Paper provided by Carleton University, Department of Economics in its series Carleton Economic Papers with number 08-03.

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Length: 37 pages
Date of creation: 01 Aug 2008
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Publication status: Published: Carleton Economic Paper
Handle: RePEc:car:carecp:08-03

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Keywords: New Keynesian small open economy model; exchange rate pass through; optimal simple money rules; stochastic general equilibrium model.;

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