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Should inflation-targeting central banks respond to exchange rate movements?

  • Pavasuthipaisit, Robert
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    This paper examines whether it is optimal for inflation-targeting central banks to respond to exchange-rate movements. The paper finds that exchange-rate movements can provide a signal on the developments in the economy that the central bank cannot perfectly observe. The results suggest that when the degrees of exchange-rate pass-through and international financial integration are high, it is optimal for the central bank to pay more attentions to exchange-rate movements. These results however depend on two conditions: 1) the ability of the central bank to observe the true exchange-rate process and 2) the number of real frictions in the model economy.

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    Article provided by Elsevier in its journal Journal of International Money and Finance.

    Volume (Year): 29 (2010)
    Issue (Month): 3 (April)
    Pages: 460-485

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    Handle: RePEc:eee:jimfin:v:29:y:2010:i:3:p:460-485
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