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The Open Economy Consequences of U.S. Monetary Policy

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  • John C. Bluedorn
  • Christopher Bowdler

Abstract

A failure to identify movements in the federal funds rate that are both unpredictable and independent of other determinants of open economy variables may lead to attenuation bias in the estimated effects of U.S. monetary policy on the exchange rate and foreign variables. Using a U.S. monetary policy measure which isolates unpredictable and independent federal funds rate changes, we quantify the magnitude of the attenuation bias for the exchange rate and foreign variables. The exchange rate appreciation following a monetary contraction is up to 4 times larger than a recursively-identified VAR estimate. There is stronger evidence of foreign interest rate pass-through. The expenditure-reducing effects of a U.S. monetary policy contraction dominate any expenditure-switching effects, leading to a positive conditional correlation of international outputs and prices. We compare our results with those obtained using identification based upon: (1) non-recursive VAR restrictions; and, (2) restrictions derived from high frequency asset price behavior.

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Bibliographic Info

Paper provided by University of Oxford, Department of Economics in its series Economics Series Working Papers with number 265.

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Date of creation: 01 Jun 2006
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Handle: RePEc:oxf:wpaper:265

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Keywords: Open economy monetary policy identification; Exchange rate adjustment; Interest rate pass-through;

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Citations

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Cited by:
  1. John C Bluedorn & Christopher Bowdler & Christoffer Koch, 2013. "Heterogeneous Bank Lending Responses to Monetary Policy," IMF Working Papers 13/118, International Monetary Fund.
  2. Tervala, Juha, 2013. "Learning by devaluating: A supply-side effect of competitive devaluation," International Review of Economics & Finance, Elsevier, vol. 27(C), pages 275-290.
  3. Christopher Bowdler & John C. Bluedorn, 2006. "Open Economy Codependence: U.S. Monetary Policy and Interest Rate Pass-through," Economics Series Working Papers 290, University of Oxford, Department of Economics.
  4. Engler, Philipp, 2011. "Monetary policy and unemployment in open economies," Discussion Papers 2011/24, Free University Berlin, School of Business & Economics.
  5. Delis, Manthos D & Hasan, Iftekhar & Mylonidis, Nikolaos, 2011. "The risk-taking channel of monetary policy in the USA: Evidence from micro-level data," MPRA Paper 34084, University Library of Munich, Germany.
  6. Bluedorn, John C. & Bowdler, Christopher & Koch, Christoffer, 2014. "Heterogeneous bank lending responses to monetary policy: new evidence from a real-time identification," Working Papers 1404, Federal Reserve Bank of Dallas.
  7. Juha Tervala, 2011. "International Welfare Effects of Monetary Policy," Discussion Papers 66, Aboa Centre for Economics.
  8. Tervala, Juha, 2014. "China, the Dollar Peg and U.S. Monetary Policy," MPRA Paper 53223, University Library of Munich, Germany.

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