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Monetary-Exchange Rate Policy and Current Account Dynamics

Author

Listed:
  • Hamza Ali Malik

    (Carleton University)

Abstract

A dynamic stochastic general equilibrium monetary model with incomplete and imperfect asset markets, monopolistic competition and staggered nominal price rigidities is developed to shed light on the role of exchange rate and its relation with current account dynamics in the formulation of monetary-exchange rate policies. The paper shows that the dynamic relationship between real exchange rate and net foreign assets affect the behavior of domestic inflation and aggregate output as a result of incomplete risk sharing due to incomplete asset markets.This, in turn, implies that the optimal monetary policy should entail a response to net foreign asset position or the real exchange rate gap defined as the difference between actual real exchange rate and the value that would prevail with flexible prices and complete asset markets. In comparing the performance of alternative monetary-exchange rate policy rules, an interesting and fairly robust result that stands out is that ‘dirty floating’ outperforms flexible exchange rate regime with domestic inflation targeting.

Suggested Citation

  • Hamza Ali Malik, 2006. "Monetary-Exchange Rate Policy and Current Account Dynamics," SBP Research Bulletin, State Bank of Pakistan, Research Department, vol. 2, pages 23-57.
    • Handle: RePEc:sbp:journl:05
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    File URL: http://www.sbp.org.pk/research/bulletin/2006/Monetary_Exchange_Rate_Policy.pdf
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    Cited by:

    1. PLASMANS, Joseph & FORNERO, Jorge & MICHALAK, Tomasz, 2006. "A microfounded sectoral model for open economies," Working Papers 2007013, University of Antwerp, Faculty of Business and Economics.
    2. Hisao Kumamoto & Masao Kumamoto, 2017. "Currency Substitution and Monetary Policy Effects: The Case of Latin American Countries," International Journal of Economics and Finance, Canadian Center of Science and Education, vol. 9(2), pages 32-45, February.
    3. Ali, Syed Zahid & Anwar, Sajid, 2011. "Supply-side effects of exchange rates, exchange rate expectations and induced currency depreciation," Economic Modelling, Elsevier, vol. 28(4), pages 1650-1672, July.

    More about this item

    JEL classification:

    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics

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