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Real Indeterminacy and the Timing of Money in Open Economies

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  • Stephen McKnight

    ()
    (Department of Economics, University of Reading)

Abstract

This paper investigates the conditions under which interest-rate rules induce real equilibrium indeterminacy in a two-country, sticky-price, monetary model. Using a discrete-time framework, we employ the two most commonly used timing assumptions on which money balances enter into the utility function. This paper shows that the tim- ing equivalence result derived for a closed-economy no longer holds for open economies. This arises because modifications in the trading environment impact on the behavior of the real exchange rate. Consequently this helps explain the seemingly contradictory findings in the literature on real indeterminacy in open economies. Furthermore it challenges the belief that domestic inflation targeting is superior to consumer price inflation targeting, in minimizing aggregate instability.

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Bibliographic Info

Paper provided by Henley Business School, Reading University in its series Economics & Management Discussion Papers with number em-dp2007-46.

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Length: 31 pages
Date of creation: 2007
Date of revision:
Handle: RePEc:rdg:emxxdp:em-dp2007-46

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Related research

Keywords: Real indeterminacy; Open economy macroeconomics; Interest rate rules; Monetary Policy;

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References

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  1. Galí, Jordi & Gertler, Mark & Lopez-Salido, Jose David, 2003. "Mark-ups, Gaps and the Welfare Costs of Business Fluctuations," CEPR Discussion Papers 4134, C.E.P.R. Discussion Papers.
  2. Richard Clarida & Jordi Gali & Mark Gertler, 2002. "A Simple Framework for International Monetary Policy Analysis," NBER Working Papers 8870, National Bureau of Economic Research, Inc.
  3. Kollmann, Robert, 2003. "Monetary Policy Rules in an Interdependent World," CEPR Discussion Papers 4012, C.E.P.R. Discussion Papers.
  4. Charles T. Carlstrom & Timothy S. Fuerst, 2003. "Investment and interest rate policy: a discrete time analysis," Working Paper 0320, Federal Reserve Bank of Cleveland.
  5. Clarida, R. & Gali, J. & Gertler, M., 1998. "Monetary Policy Rules and Macroeconomic Stability: Evidence and some Theory," Working Papers 98-01, C.V. Starr Center for Applied Economics, New York University.
  6. Cooley, T.F. & Hansen, G.D., 1988. "The Inflation Tax In A Real Business Cycle Model," RCER Working Papers 155, University of Rochester - Center for Economic Research (RCER).
  7. Nicoletta Batini & Paul Levine & Joseph Pearlman, 2004. "Indeterminacy with inflation-forecast-based rules in a two-bloc model," International Finance Discussion Papers 797, Board of Governors of the Federal Reserve System (U.S.).
  8. Charles T. Carlstrom & Timothy S. Fuerst, 2000. "Forward-looking versus backward-looking Taylor rules," Working Paper 0009, Federal Reserve Bank of Cleveland.
  9. Calvo, Guillermo A., 1983. "Staggered prices in a utility-maximizing framework," Journal of Monetary Economics, Elsevier, vol. 12(3), pages 383-398, September.
  10. Bernanke, Ben S & Woodford, Michael, 1997. "Inflation Forecasts and Monetary Policy," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 29(4), pages 653-84, November.
  11. De Fiore, Fiorella & Liu, Zheng, 2005. "Does trade openness matter for aggregate instability?," Journal of Economic Dynamics and Control, Elsevier, vol. 29(7), pages 1165-1192, July.
  12. Charles T. Carlstrom & Timothy S. Fuerst, 2001. "Timing and real indeterminacy in monetary models," Working Paper 9910R, Federal Reserve Bank of Cleveland.
  13. Benigno, Pierpaolo, 2001. "Price Stability with Imperfect Financial Integration," CEPR Discussion Papers 2854, C.E.P.R. Discussion Papers.
  14. Luis-Felipe Zanna, 2003. "Interest rate rules and multiple equilibria in the small open economy," International Finance Discussion Papers 785, Board of Governors of the Federal Reserve System (U.S.).
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Citations

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Cited by:
  1. Stephen McKnight & Alexander Mihailov, 2007. "Re-examining the Importance of Trade Openness for Aggregate Instability," Economic Analysis Research Group Working Papers earg-wp2007-12, Henley Business School, Reading University.
  2. Stephen McKnight, 2007. "Investment and Interest Rate Policy in the Open Economy," Economics & Management Discussion Papers em-dp2007-51, Henley Business School, Reading University.
  3. Fujisaki, Seiya, 2012. "Interest Rate Control Rules and Macroeconomic Stability in a Heterogeneous Two-Country Model," MPRA Paper 37017, University Library of Munich, Germany.
  4. Fujisaki, Seiya, 2012. "Taylor rules and equilibrium determinacy in a two-country model with non-traded goods," MPRA Paper 40023, University Library of Munich, Germany.
  5. repec:rdg:wpaper:em-dp2007-52 is not listed on IDEAS
  6. Fujisaki, Seiya, 2013. "Taylor rules and equilibrium determinacy in a two-country model with non-traded goods," Economic Modelling, Elsevier, vol. 35(C), pages 597-603.

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