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The Mundellian Trilemma and Optimal Monetary Policy in a World of High Capital Mobility

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  • Richard T. Froyen

    (University of North Carolina)

  • Alfred V. Guender

    (Department of Economics and Finance, University of Canterbury
    Centre for Applied Macroeconomic Analysis)

Abstract

This paper proposes that the Mundellian Trilemma remains valid despite the emergence of a world financial cycle. A clear distinction must be made between monetary policy independence and insulation of an open economy’s financial system. A flexible exchange rate allows an optimizing central bank to chart an independent course but does not insulate the domestic financial sector or broader economy from foreign monetary or financial shocks. The gains from a flexible exchange rate may be considerable and vary in accordance with the mandate of the central bank. The Mundellian Trilemma highlights the acute shortage of policy instruments and resulting tradeoffs among policy goals.

Suggested Citation

  • Richard T. Froyen & Alfred V. Guender, 2022. "The Mundellian Trilemma and Optimal Monetary Policy in a World of High Capital Mobility," Open Economies Review, Springer, vol. 33(4), pages 631-656, September.
    • Handle: RePEc:kap:openec:v:33:y:2022:i:4:d:10.1007_s11079-021-09662-2
    DOI: 10.1007/s11079-021-09662-2
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    More about this item

    Keywords

    Mundellian trilemma; Policy independence; Capital mobility; Instrument shortage; Capital controls;
    All these keywords.

    JEL classification:

    • E3 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles
    • E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit
    • F3 - International Economics - - International Finance

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