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Policy Rules for Open Economies

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  • Laurence Ball

Abstract

This paper examines the choice of a monetary-policy rule in a simple macroeconomic model. In a closed economy, the optimal policy is a output and inflation. In an open economy, the optimal rule changes in two ways. First, the policy instrument is a Conditions Index the exchange rate. Second, on the right side of the rule, inflation is replaced by filters out the transitory effects of exchange-rate movements. The model also implies that pure inflation targeting is dangerous in an open economy, because it creates large fluctuations in exchange rates and output. Targeting long-run inflation avoids this problem and produces a close approximation to the optimal instrument rule.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 6760.

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Date of creation: Oct 1998
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Publication status: published as Policy Rules for Open Economies , Laurence M. Ball. in Monetary Policy Rules , Taylor. 1999
Handle: RePEc:nbr:nberwo:6760

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  1. Svensson, Lars E. O., 1997. "Inflation forecast targeting: Implementing and monitoring inflation targets," European Economic Review, Elsevier, vol. 41(6), pages 1111-1146, June.
  2. David Gruen & Geoffrey Shuetrim, 1994. "Internationalisation and the Macroeconomy," RBA Annual Conference Volume, in: Philip Lowe & Jacqueline Dwyer (ed.), International Intergration of the Australian Economy Reserve Bank of Australia.
  3. Gerlach, Stefan & Smets, Frank, 2000. "MCIs and monetary policy," European Economic Review, Elsevier, vol. 44(9), pages 1677-1700, October.
  4. Ball, Laurence, 1999. "Efficient Rules for Monetary Policy," International Finance, Wiley Blackwell, vol. 2(1), pages 63-83, April.
  5. Mankiw, N. Gregory (ed.), 1997. "Monetary Policy," National Bureau of Economic Research Books, University of Chicago Press, edition 1, number 9780226503097.
  6. Hendry, David F., 1995. "Dynamic Econometrics," OUP Catalogue, Oxford University Press, number 9780198283164.
  7. Duguay, Pierre, 1994. "Empirical evidence on the strength of the monetary transmission mechanism in Canada: An aggregate approach," Journal of Monetary Economics, Elsevier, vol. 33(1), pages 39-61, February.
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