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China's Monetary Policy and the Exchange Rate

  • Aaron Mehrotra

    ()

    (Bank of Finland, Institute for Economies in Transition (BOFIT), PO Box 160, FI-00101 Helsinki, Finland.)

  • José R Sánchez-Fung

    ()

    (School of Economics, Kingston University, London, Penrhyn Road, Kingston upon Thames, Surrey, KT1 2EE, UK.)

The paper models monetary policy in China using a hybrid McCallum–Taylor empirical reaction function. The feedback rule allows for reactions to inflation and output gaps, and to developments in a trade-weighted exchange rate gap measure. The investigation finds that monetary policy in China has, on average, accommodated inflationary developments. But exchange rate shocks do not significantly affect monetary policy behaviour, and there is no evidence of a structural break in the estimated reaction function at the end of the strict dollar peg in July 2005. The paper also runs an exercise incorporating survey-based inflation expectations into the policy reaction function and meets with some success.

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Article provided by Palgrave Macmillan & Association for Comparative Economic Studies in its journal Comparative Economic Studies.

Volume (Year): 52 (2010)
Issue (Month): 4 (December)
Pages: 497-514

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Handle: RePEc:pal:compes:v:52:y:2010:i:4:p:497-514
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  1. Michael Woodford, 2000. "Pitfalls of Forward-Looking Monetary Policy," American Economic Review, American Economic Association, vol. 90(2), pages 100-104, May.
  2. Julio J. Rotemberg & Michael Woodford, 1999. "Interest Rate Rules in an Estimated Sticky Price Model," NBER Chapters, in: Monetary Policy Rules, pages 57-126 National Bureau of Economic Research, Inc.
  3. Candelon, Bertrand & Lütkepohl, Helmut, 2000. "On the reliability of chow type test for parameter constancy in multivariate dynamic models," SFB 373 Discussion Papers 2000,95, Humboldt University of Berlin, Interdisciplinary Research Project 373: Quantification and Simulation of Economic Processes.
  4. Mehrotra, Aaron & Sánchez-Fung, José R., 2010. "China's monetary policy and the exchange rate," BOFIT Discussion Papers 10/2010, Bank of Finland, Institute for Economies in Transition.
  5. Li-gang Liu & Wenlang Zhang, 2007. "A New Keynesian Model for Analysing Monetary Policy in Mainland China," Working Papers 0718, Hong Kong Monetary Authority.
  6. Guonan Ma & RobertN McCauley, 2008. "Efficacy Of China'S Capital Controls: Evidence From Price And Flow Data," Pacific Economic Review, Wiley Blackwell, vol. 13(1), pages 104-123, 02.
  7. Jeffrey A. Frankel, 2009. "New Estimation Of China'S Exchange Rate Regime," Pacific Economic Review, Wiley Blackwell, vol. 14(3), pages 346-360, 08.
  8. Rawski, Thomas G., 2001. "What is happening to China's GDP statistics?," China Economic Review, Elsevier, vol. 12(4), pages 347-354.
  9. Granville, Brigitte & Mallick, Sushanta, 2010. "Monetary Policy in Russia: Identifying exchange rate shocks," Economic Modelling, Elsevier, vol. 27(1), pages 432-444, January.
  10. Meixing Dai, 2006. "Inflation-targeting under a Managed Exchange Rate: the Case of the Chinese Central Bank," Journal of Chinese Economic and Business Studies, Taylor & Francis Journals, vol. 4(3), pages 199-219.
  11. Svensson, Lars E O, 1998. "Inflation Targeting as a Monetary Policy Rule," CEPR Discussion Papers 1998, C.E.P.R. Discussion Papers.
  12. Mccallum, Bennet T., 1988. "Robustness properties of a rule for monetary policy," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 29(1), pages 173-203, January.
  13. Jeffrey A. Frankel & Shang-Jin Wei, 2007. "Assessing China's Exchange Rate Regime," NBER Working Papers 13100, National Bureau of Economic Research, Inc.
  14. Zhang, Wenlang, 2009. "China's monetary policy: Quantity versus price rules," Journal of Macroeconomics, Elsevier, vol. 31(3), pages 473-484, September.
  15. Calvo, Guillermo A., 1983. "Staggered prices in a utility-maximizing framework," Journal of Monetary Economics, Elsevier, vol. 12(3), pages 383-398, September.
  16. Tuuli Koivu & Aaron Mehrotra & Riikka Nuutilainen, 2009. "An analysis of Chinese money and prices using a McCallum-type rule," Journal of Chinese Economic and Business Studies, Taylor & Francis Journals, vol. 7(2), pages 219-235.
  17. Tomasz Koluk & Aaron Mehrotra, 2009. "The impact of Chinese monetary policy shocks on East and South-East Asia," The Economics of Transition, The European Bank for Reconstruction and Development, vol. 17(1), pages 121-145, 01.
  18. Barry Naughton, 2007. "The Chinese Economy: Transitions and Growth," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262640643, March.
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