The Timing Of Asset Trade And Optimal Policy In Dynamic Open Economies

Using a standard open economy DSGE model, it is shown that the timing of asset trade relative to policy decisions has a potentially important impact on the welfare evaluation of monetary policy at the individual-country level. If asset trade in the initial period takes place before the announcement of policy, a national policy maker can choose a policy rule that reduces the work effort of households in the policy maker's country, in the knowledge that consumption is fully insured by optimally chosen international portfolio positions. But if asset trade takes place after the policy announcement, this insurance is absent and households in the policy maker's country bear the full consumption consequences of the chosen policy rule. The welfare incentives faced by national policy makers are very different between the two cases. Numerical examples confirm that asset-market timing has a significant impact on the optimal policy rule.