Monetary Policy and Model Uncertainty in a Small Open Economy
AbstractWe study the effects of optimized monetary policy in a semi-structural, estimated small open economy in situations where the policymaker has either complete or less than complete confidence in the model being free from misspecification errors. We use the robust control techniques developed by Dennis, Leitemo and SÃ¶derstrÃ¶m (2006). We find that irrespective of the level of confidence to the model, the central bank may reduce loss by more than 80% by making a policy commitment. It is the open-economy channels introduce trade-offs in which commitment enhances policy outcome. If the policymaker lacks confidence in the model specification, a robust policymaker mainly fears that the exchange rate and domestic inflation equations are misspecified. Consequently, the robust policy is designed primarily to counteract these types of potential misspecifications. Policy becomes more aggressive towards all shocks. Although the exchange rate equation provides great opportunities for worst-case distortions, the exchange rate channels also provide ample ways in which policy can counteract distortions to the model, especially under policy commitment. The exchange rate channels can hence be viewed as both a curse and a blessing to the policymaker.
Download InfoTo our knowledge, this item is not available for download. To find whether it is available, there are three options:
1. Check below under "Related research" whether another version of this item is available online.
2. Check on the provider's web page whether it is in fact available.
3. Perform a search for a similarly titled item that would be available.
Bibliographic InfoPaper provided by Society for Computational Economics in its series Computing in Economics and Finance 2006 with number 14.
Date of creation: 04 Jul 2006
Date of revision:
Policy robustness; monetary policy rules; model uncertainty;
Find related papers by JEL classification:
- E42 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Monetary Sytsems; Standards; Regimes; Government and the Monetary System
- E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
- E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies
- E61 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Policy Objectives; Policy Designs and Consistency; Policy Coordination
You can help add them by filling out this form.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Christopher F. Baum).
If references are entirely missing, you can add them using this form.