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US Monetary Policy Announcements and the Term Structure of Interest Rate Differentials: Evidence from Hong Kong and Singapore

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Author Info

  • Assaf Razin

    (Hong Kong Institute for Monetary Research, Tel Aviv University and Cornell University)

  • Prakash Loungani

    (International Monetary Fund)

Abstract

The paper analyzes how globalization forces induce monetary authorities, guided in their policies by the welfare criterion of a representative household, to put a greater emphasis on reducing the inflation rate than on narrowing the output gaps. We demonstrate that with capital account liberalization the representative household is able to smooth fluctuations in consumption, and thus becomes relatively insensitive to fluctuations in the output gap. With trade liberalization the economy tends to specialize in the production of relatively few varieties of goods. The specialization in production as a result of trade openness increases the distortion originating from fluctuations in the inflation rate. Therefore, policymakers (guided by efficiency considerations) become more aggressive on inflation and less responsive to the output gap when trade and financial openness increases. We provide evidence on the effect on preferences towards fluctuations in the output gap and in inflation of trade and capital openness, which supports the theory predictions.

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Bibliographic Info

Paper provided by Hong Kong Institute for Monetary Research in its series Working Papers with number 102005.

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Length: 22 pages
Date of creation: Oct 2005
Date of revision:
Handle: RePEc:hkm:wpaper:102005

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  1. Robert J. Barro & David B. Gordon, 1981. "A Positive Theory of Monetary Policy in a Natural-Rate Model," NBER Working Papers 0807, National Bureau of Economic Research, Inc.
  2. Loungani, P. & Eazin, A. & Yuen, C.W., 1996. "Capital Mobility and the Output-Inflation Tradeoff," Papers 38-96, Tel Aviv.
  3. Okun, Arthur M, 1978. "Efficient Disinflationary Policies," American Economic Review, American Economic Association, vol. 68(2), pages 348-52, May.
  4. Laurence Ball, 1993. "What Determines the Sacrifice Ratio?," NBER Working Papers 4306, National Bureau of Economic Research, Inc.
  5. Richard N. Cooper, 1999. "Should Capital Controls be Banished?," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 30(1), pages 89-142.
  6. Lane, Philip R., 1997. "Inflation in open economies," Journal of International Economics, Elsevier, vol. 42(3-4), pages 327-347, May.
  7. Marvin Goodfriend & Robert G. King, 1998. "The new neoclassical synthesis and the role of monetary policy," Working Paper 98-05, Federal Reserve Bank of Richmond.
  8. Assaf Razin & Chi-Wa Yuen, 2001. "The "New Keynesian" Phillips Curve: Closed Economy vs. Open Economy," NBER Working Papers 8313, National Bureau of Economic Research, Inc.
  9. Kydland, Finn E & Prescott, Edward C, 1977. "Rules Rather Than Discretion: The Inconsistency of Optimal Plans," Journal of Political Economy, University of Chicago Press, vol. 85(3), pages 473-91, June.
  10. David Romer, 1991. "Openness and Inflation: Theory and Evidence," NBER Working Papers 3936, National Bureau of Economic Research, Inc.
  11. Chen, Natalie & Imbs, Jean & Scott, Andrew, 2004. "Competition, Globalization and the Decline of Inflation," CEPR Discussion Papers 4695, C.E.P.R. Discussion Papers.
  12. David Romer, 1998. "A New Assessment Of Openness And Inflation: Reply," The Quarterly Journal of Economics, MIT Press, vol. 113(2), pages 649-652, May.
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