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Inflation persistence: Implications for a design of monetary policy in a small open economy subject to external shocks

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  • Karlygash Kuralbayeva

    (Lincoln College, University of Oxford)

Abstract

We analyze implications of in.ation persistence for business cycle dynamics following terms of trade and risk-premium shocks in a small open economy, under fixed and flexible exchange rate regimes. We show that the country's adjustment paths are slow and cyclical if there is a signi.cant backward-looking element in the in.ation dynamics and the exchange rate is fixed. We also show that such cyclical adjustment paths are moderated if there is a high proportion of forward-looking price setters. In contrast, with an independent monetary policy, flexible exchange rate allows to escape severe cycles, supporting the conventional wisdom about the insulation role of flexible exchange rates.

Suggested Citation

  • Karlygash Kuralbayeva, 2007. "Inflation persistence: Implications for a design of monetary policy in a small open economy subject to external shocks," CEIS Research Paper 93, Tor Vergata University, CEIS.
    • Handle: RePEc:rtv:ceisrp:93
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    More about this item

    Keywords

    inflation inertia; monetary policy; exchange rates; persistence; Phillips curve; small open economy;
    All these keywords.

    JEL classification:

    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • F40 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - General
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics

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