US monetary policy uncertainty spillover and the role of exchange rate regime

We analyze the international spillover effects of US monetary policy uncertainty shocks on countries with fixed versus flexible exchange rate regimes. Our findings show that such shocks lead to a larger contraction in countries with flexible exchange rates than in those with fixed exchange rates, contradicting the conventional view that flexible exchange rates serve as a buffer against external shocks. We also document that US monetary policy uncertainty shocks raise economic uncertainty more strongly in countries with flexible exchange rate regimes. On the theoretical side, we demonstrate that a standard small open economy New Keynesian DSGE model cannot replicate this empirical result, but an augmented model that incorporates the direct international spillover of policy uncertainty is able to reproduce the findings.