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Cost-push shocks and monetary policy in open economies

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  • Alan Sutherland

Abstract

This paper analyses the implications of cost-push shocks for the optimal choice of monetary policy target in a two-country sticky-price model. In addition to cost-push shocks, each country is subject to labour-supply and money-demand shocks. It is shown that the fully optimal coordinated policy can be supported by independent national monetary authorities following a policy of flexible inflation targeting. A number of simple (but non-optimal) targeting rules are compared. Strict producer-price targeting is found to be the best simple rule when the variance of cost-push shocks is small. Strict consumer-price targeting is best for intermediate levels of the variance of cost-push shocks. And nominal-income targeting is best when the variance of cost-push shocks is high. In general, money-supply targeting and fixed nominal exchange rates are found to yield less welfare than these other regimes. Copyright 2005, Oxford University Press.

Suggested Citation

  • Alan Sutherland, 2005. "Cost-push shocks and monetary policy in open economies," Oxford Economic Papers, Oxford University Press, vol. 57(1), pages 1-33, January.
  • Handle: RePEc:oup:oxecpp:v:57:y:2005:i:1:p:1-33
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    File URL: http://hdl.handle.net/10.1093/oep/gpi008
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    References listed on IDEAS

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    Cited by:

    1. Benigno, Gianluca & Benigno, Pierpaolo, 2006. "Designing targeting rules for international monetary policy cooperation," Journal of Monetary Economics, Elsevier, vol. 53(3), pages 473-506, April.
    2. Tatiana Kirsanova & Campbell Leith & Simon Wren-Lewis, 2006. "Should Central Banks Target Consumer Prices or the Exchange Rate?," Economic Journal, Royal Economic Society, vol. 116(512), pages 208-231, June.
    3. Benigno, Gianluca & Benigno, Pierpaolo, 2008. "Implementing International Monetary Cooperation Through Inflation Targeting," Macroeconomic Dynamics, Cambridge University Press, vol. 12(S1), pages 45-59, April.
    4. Iyer, Tara, 2016. "Optimal Monetary Policy in an Open Emerging Market Economy," Working Paper Series WP-2016-6, Federal Reserve Bank of Chicago.
    5. Sang-Kun Bae & Ronald A. Ratti, 2008. "Conservative Central Banks and Nominal Growth, Exchange Rate and Inflation Targets," Economica, London School of Economics and Political Science, vol. 75(299), pages 549-568, August.
    6. Ondra Kamenik & Michael Kumhof, 2014. "Trade Openness and Exchange Rate Regimes," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 46(8), pages 1657-1686, December.
    7. Gianluca Benigno & Pierpaolo Benigno, 2004. "Designing Target Rules for International Monetary Policy Cooperation," CEP Discussion Papers dp0666, Centre for Economic Performance, LSE.
    8. Wolfram Berger, 2008. "Monetary Policy Rules for a Small Open Economy," Economic Notes, Banca Monte dei Paschi di Siena SpA, vol. 37(1), pages 1-30, February.
    9. Wolfram Berger, 2010. "International Policy Coordination and Simple Monetary Policy Rules," Swiss Journal of Economics and Statistics (SJES), Swiss Society of Economics and Statistics (SSES), vol. 146(II), pages 451-479, June.

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