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Two-Country New Keynesian DSGE Model: A Small Open Economy as a Limit Case

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  • Marcos Antonio Coutinho da Silveira
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    Abstract

    We build a two-country version of the model in Gali & Monacelli(2005), which extends for a small open economy the new KeynesainDSGE model used as tool for monetary policy analysis in closedeconomies. A distinctive feature of the model is that the terms oftrade enters directly into the new Keynesian Phillips curve as a newpushing-cost variable feeding the inflation. Furthermore, home bias inhouseholds? preferences allows for real exchange rate fluctuation, givingrise to alternative channels of monetary transmission. Unlike mostpart of the literature, the small domestic open economy is derived asa limit case of the two-coutry model, rather than assuming exogenousprocesses for the foreign variables. This procedure preserves the roleplayed by foreign nominal frictions in the way as international monetarypolicy shocks are conveyed into the small domestic economy.

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    Bibliographic Info

    Paper provided by Instituto de Pesquisa Econômica Aplicada - IPEA in its series Discussion Papers with number 1157.

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    Length: 48 pages
    Date of creation: Feb 2006
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    Handle: RePEc:ipe:ipetds:1157

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    1. Clarida, Richard & Gali, Jordi & Gertler, Mark, 2002. "A simple framework for international monetary policy analysis," Journal of Monetary Economics, Elsevier, vol. 49(5), pages 879-904, July.
    2. Monacelli, Tommaso, 2003. "Monetary policy in a low pass-through environment," Working Paper Series 0227, European Central Bank.
    3. Calvo, Guillermo A., 1983. "Staggered prices in a utility-maximizing framework," Journal of Monetary Economics, Elsevier, vol. 12(3), pages 383-398, September.
    4. Claudio Soto, 2003. "Non-Traded Goods and Monetary Policy Trade-Offs in a Small Open Economy," Working Papers Central Bank of Chile 214, Central Bank of Chile.
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