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Is There an Exchange Rate Channel in the Forward-Looking Phillips Curve? A Theoretical and Empirical Investigation

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Author Info
Alfred V. Guender () (University of Canterbury)
Yu Xie

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Abstract

This paper shows how the exchange rate affects the price-setting behavior of monopolistically competitive firms in the sticky price framework that gives rise to a forward-looking Phillips Curve at the aggregate level. The open economy Phillips Curve differs from its closed economy counterpart in that the real exchange rate exerts a direct effect on domestic inflation. The exchange rate channel in the Phillips Curve is pivotal in determining the optimal policy setting in an open economy. On balance, we find only scant empirical evidence for the existence of a direct exchange rate channel in the Phillips Curve in a sample of six OECD countries. Indeed, the forward-looking Phillips Curve does not receive much backing from the data. The use of highly aggregated data may account for the poor fit.

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File URL: http://www.econ.canterbury.ac.nz/RePEc/cbt/econwp/0616.pdf
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Publisher Info
Paper provided by University of Canterbury, Department of Economics in its series Working Papers in Economics with number 06/16.

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Length: 30 pages
Date of creation: 01 Dec 2006
Date of revision:
Handle: RePEc:cbt:econwp:06/16

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Related research
Keywords: Open economy Phillips Curve; Exchange rate channel; Output gap;

Find related papers by JEL classification:
E3 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles
F4 - International Economics - - Macroeconomic Aspects of International Trade and Finance

This paper has been announced in the following NEP Reports:

References listed on IDEAS
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  2. Richard Clarida & Jordi Gali & Mark Gertler, 1999. "The Science of Monetary Policy: A New Keynesian Perspective," Journal of Economic Literature, American Economic Association, vol. 37(4), pages 1661-1707, December. [Downloadable!] (restricted)
    Other versions:
  3. Blanchard, Olivier Jean & Kiyotaki, Nobuhiro, 1987. "Monopolistic Competition and the Effects of Aggregate Demand," American Economic Review, American Economic Association, vol. 77(4), pages 647-66, September. [Downloadable!] (restricted)
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  5. Roberts, John M, 1995. "New Keynesian Economics and the Phillips Curve," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 27(4), pages 975-84, November. [Downloadable!] (restricted)
  6. Gali, Jordi & Gertler, Mark, 1999. "Inflation dynamics: A structural econometric analysis," Journal of Monetary Economics, Elsevier, vol. 44(2), pages 195-222, October. [Downloadable!] (restricted)
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  7. Bennett T. McCallum & Edward Nelson, 2000. "An Optimizing IS-LM Specification for Monetary Policy and Business Cycle Analysis," NBER Working Papers 5875, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  8. Athanasios Orphanides, 2001. "Monetary Policy Rules Based on Real-Time Data," American Economic Review, American Economic Association, vol. 91(4), pages 964-985, September. [Downloadable!] (restricted)
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  12. Calvo, Guillermo A., 1983. "Staggered prices in a utility-maximizing framework," Journal of Monetary Economics, Elsevier, vol. 12(3), pages 383-398, September. [Downloadable!] (restricted)
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  16. Rotemberg, Julio J, 1982. "Sticky Prices in the United States," Journal of Political Economy, University of Chicago Press, vol. 90(6), pages 1187-1211, December. [Downloadable!] (restricted)
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