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The Impossible Trinity Revised: An Application to China

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  • Benjamin Carton

Abstract

In a fixed exchange-rate regime, monetary policy is not devoted to internal equilibrium, such that the Taylor principle is no more the condition to insure the determinacy of the dynamic. Monetary policy is in charge of stabilizing the fixed-exchange rate regime in the long run, i.e. to avoid an excessive accumulation of foreign reserves, or their depletion. For this purpose, the monetary policy rule has to include the evolution of the net foreign asset position. Stabilizing the fixed exchange-rate regime entrenches the ability of monetary policy to influence the internal equilibrium, despite sizable restrictions on capital mobility. This translates into a restriction on implementable monetary-policy rules. Ill-designed monetary-policy rules generates long-lasting fluctuations of the trade balance and the real exchange rate.

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Paper provided by CEPII research center in its series Working Papers with number 2011-27.

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Date of creation: Dec 2011
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Handle: RePEc:cii:cepidt:2011-27

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Keywords: Impossible Trinity; Monetary Policy; CHINA;

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Cited by:
  1. Kai Liu, 2014. "Dollar Hegemony and China’s Economy," Cambridge Working Papers in Economics 1410, Faculty of Economics, University of Cambridge.

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