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Stability and Transitions in Emerging Market Policy Rules

Author

Listed:
  • Goyal, Ashima

    (Indira Gandhi Institute of Development Research, Mumbai)

  • Tripathi, Shruti

    (National Institute of Public Finance and Policy, Delhi)

Abstract

Conditions for stability in an open economy dynamic stochastic general equilibrium model adapted to a dualistic labor market (SOEME) are the same as for a mature economy. But the introduction of monetary policy transmission lags makes it deviate from the Taylor Principle. Under rational expectations a policy rule is unstable, but under adaptive expectations traditional stabilization gives a determinate path, with weights on the objective of less than unity. Estimation of a Taylor rule for India and optimization in the SOEME model itself, all confirm the low weights. The results imply that under rational expectations, optimization is better than following a rule. If backward lookingbehavior dominates, however, a policy rule can prevent overshooting and instability. Economy-specific rigidities must inform policy design, and the appropriate design will change as the economy develops.

Suggested Citation

  • Goyal, Ashima & Tripathi, Shruti, 2014. "Stability and Transitions in Emerging Market Policy Rules," Indian Economic Review, Department of Economics, Delhi School of Economics, vol. 49(2), pages 153-172.
  • Handle: RePEc:dse:indecr:0088
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    References listed on IDEAS

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    More about this item

    Keywords

    DSGE; Emerging Market; Rigidities; Stability; Optimization; Taylor Rule;

    JEL classification:

    • E26 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Informal Economy; Underground Economy
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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