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Optimal Monetary Policy in an Estimated Local Currency Pricing Model

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  • Okano, Eiji
  • Eguchi, Masataka
  • Gunji, Hiroshi
  • Miyazaki, Tomomi

Abstract

We analyze fluctuations in inflation and the nominal exchange rate under optimal monetary policy with local currency pricing by developing two-country DSGE local currency pricing and producer currency pricing models. We estimate our models using Bayesian techniques with Japanese and US data, and calculate impulse response functions. Our estimation results show that local currency pricing is strongly supported against producer currency pricing. From the estimated parameters, we show that completely stabilizing consumer price index inflation is optimal from the viewpoint of minimizing welfare costs and that completely stabilizing consumer price index inflation is consistent with completely stabilizing the nominal exchange rate.

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File URL: http://hermes-ir.lib.hit-u.ac.jp/rs/bitstream/10086/22136/1/DP558.pdf
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Bibliographic Info

Paper provided by Institute of Economic Research, Hitotsubashi University in its series Discussion Paper Series with number 558.

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Length: 32 p.
Date of creation: Jan 2012
Date of revision:
Handle: RePEc:hit:hituec:558

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Keywords: local currency pricing; optimal monetary policy; CPI inflation; fixed exchange rate; Bayesian estimation;

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  1. Benigno, Gianluca & Benigno, Pierpaolo, 2003. "Designing targeting rules for international monetary policy cooperation," Working Paper Series 0279, European Central Bank.
  2. Betts, Caroline & Devereux, Michael B., 2000. "Exchange rate dynamics in a model of pricing-to-market," Journal of International Economics, Elsevier, vol. 50(1), pages 215-244, February.
  3. Ferrero, Andrea, 2005. "Fiscal and monetary rules for a currency union," Working Paper Series 0502, European Central Bank.
  4. Michael B. Devereux & Philip Lane, 2001. "Exchange Rates and Monetary Policy in Emerging Market Economies," Trinity Economics Papers 200111, Trinity College Dublin, Department of Economics.
  5. Pau Rabanal, 2006. "Euro-Dollar Real Exchange Rate Dynamics in an Estimated Two-Country Model," Computing in Economics and Finance 2006 87, Society for Computational Economics.
  6. Jordi Gal� & Tommaso Monacelli, 2005. "Monetary Policy and Exchange Rate Volatility in a Small Open Economy," Review of Economic Studies, Oxford University Press, vol. 72(3), pages 707-734.
  7. Noah Williams & Andrew Levin & Alexei Onatski, 2005. "Monetary Policy under Uncertainty in Micro-Founded Macroeconometric Models," Computing in Economics and Finance 2005 478, Society for Computational Economics.
  8. Gianluca Benigno & Pierpaolo Benigno, 2004. "Designing target rules for international monetary policy cooperation," LSE Research Online Documents on Economics 3759, London School of Economics and Political Science, LSE Library.
  9. Michael Woodford, 2001. "Inflation Stabilization and Welfare," NBER Working Papers 8071, National Bureau of Economic Research, Inc.
  10. Adjemian, Stéphane & Darracq Pariès, Matthieu & Smets, Frank, 2008. "A quantitative perspective on optimal monetary policy cooperation between the US and the euro area," Working Paper Series 0884, European Central Bank.
  11. Sugo, Tomohiro & Ueda, Kozo, 2008. "Estimating a dynamic stochastic general equilibrium model for Japan," Journal of the Japanese and International Economies, Elsevier, vol. 22(4), pages 476-502, December.
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