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The Exchange Rate and Monetary Conditions in the Euro Area

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  • Mayes, David G.

    ()
    (Bank of Finland Research)

  • Viren, Matti

    ()
    (Bank of Finland Research)

Abstract

Using information from a variety of sources, including our own estimates from quarterly data for each of the countries over the period 1972–1997, this paper suggests that the exchange rate will play an important role in the transmission of the impact of monetary policy through to the real economy and inflation in the euro area. Although the share of external trade in the euro area's GDP is only around 10 per cent this is only one factor that affects the transmission mechanism and the role of the exchange rate is likely to be substantially greater when all factors are taken into account. As a first approximation it would be reasonable to assume that an increase in the real 90-day interest rate of 100 basis points would have approximately the same effect on demand pressure two years later as a 3.5 per cent fall in the real euro exchange rate. This implies that the euro area will tend to behave like a large open economy rather than a closed economy and hence that it would be helpful in informing monetary policy to construct a Monetary Conditions Index (MCI) using these weights. A separate paper (Mayes and Virén, 1998) suggests how an MCI provides a useful summary of high frequency information to assist monetary policy and financial markets in short run decisions.

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File URL: http://www.suomenpankki.fi/en/julkaisut/tutkimukset/keskustelualoitteet/Documents/DP_27_1998.pdf
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Bibliographic Info

Paper provided by Bank of Finland in its series Research Discussion Papers with number 27/1998.

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Length: 26 pages
Date of creation: 11 Dec 1998
Date of revision:
Handle: RePEc:hhs:bofrdp:1998_027

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Postal: Bank of Finland, P.O. Box 160, FI-00101 Helsinki, Finland
Web page: http://www.suomenpankki.fi/en/
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Keywords: monetary conditions index; exchange rate; monetary policy; euro area;

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Citations

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Cited by:
  1. Mayes, David G. & Viren, Matti, 2005. "Monetary policy problems for currency unions: asymmetry and the problem of aggregation in the euro area," Economic Modelling, Elsevier, Elsevier, vol. 22(2), pages 219-251, March.
  2. Alberto Montagnoli & Oreste Napolitano, 2005. "Financial Condition Index And Interest Rate Settings: A Comparative Analysis," Working Papers, D.E.S. (Department of Economic Studies), University of Naples "Parthenope", Italy 8_2005, D.E.S. (Department of Economic Studies), University of Naples "Parthenope", Italy.
  3. Muhamed Zulkhibri Abdul Majid, 2012. "Measuring monetary conditions in a small open economy: the case of Malaysia," Journal of Financial Economic Policy, Emerald Group Publishing, Emerald Group Publishing, vol. 4(3), pages 218-231, August.
  4. Wai Ching Poon, 2010. "Augmented MCi: AN Indicator Of Monetary Policy Stance For ASEAN-5?," Development Research Unit Working Paper Series, Monash University, Department of Economics 25-10, Monash University, Department of Economics.
  5. Matti Virén, 1999. "Fiscal Policy, Automatic Stabilisers and Policy Coordination in EMU," Discussion Papers, Government Institute for Economic Research Finland (VATT) 204, Government Institute for Economic Research Finland (VATT).
  6. Fritz Breuss, 2002. "Was ECB's monetary policy optimal?," Atlantic Economic Journal, International Atlantic Economic Society, International Atlantic Economic Society, vol. 30(3), pages 298-319, September.
  7. Mayes, David G & Virén, Matti, 2000. "Asymmetry and the Problem of Aggregation in the Euro Area," Research Discussion Papers, Bank of Finland 11/2000, Bank of Finland.
  8. Alfred Guender, 2005. "On Optimal Monetary Policy Rules and the Construction of MCIs in the Open Economy," Open Economies Review, Springer, Springer, vol. 16(2), pages 189-207, April.
  9. Bofinger, Peter & Wollmershäuser, Timo, 2001. "Is there a third way to EMU for the EU accession countries?," Munich Reprints in Economics, University of Munich, Department of Economics 20209, University of Munich, Department of Economics.
  10. Mayes, David & Virén, Matti, 2009. "Changes in behaviour under EMU," Economic Modelling, Elsevier, Elsevier, vol. 26(4), pages 751-759, July.
  11. Wladimir Andreff, 2001. "The benefits of EU enlargement and Euro membership for Central and Eastern European Countries," Revue d'Économie Financière, Programme National Persée, Programme National Persée, vol. 6(1), pages 48-63.
  12. Wladimir Andreff, 2001. "Les gains attendus par les pays d'Europe Centrale et Orientale de l'élargissement de l'Union européenne et de l'entrée dans l'euro," Revue d'Économie Financière, Programme National Persée, Programme National Persée, vol. 6(1), pages 49-64.
  13. Andrzej Toroj, 2011. "Competitiveness channel in Poland and Slovakia: a pre-EMU DSGE analysis," National Bank of Poland Working Papers, National Bank of Poland, Economic Institute 86, National Bank of Poland, Economic Institute.

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