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Monetary policy rules and the exchange rate channel

  • Kai Leitemo
  • �istein R�island
  • Ragnar Torvik

A discretionary monetary policy leads to suboptimal stabilization in models with the New Keynesian assumption of forward-looking price setting, and various policy rules that improve the discretionary equilibrium have been considered in the literature. The empirical evidence for forward-looking price determination is mixed. This note shows, however, that forward-looking price setting is not essential for the results. Policy rules that improve welfare under the New Keynesian assumptions, also do so within a traditional backward-looking model if asset prices, such as the exchange rate, are forward-looking.

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Article provided by Taylor & Francis Journals in its journal Applied Financial Economics.

Volume (Year): 15 (2005)
Issue (Month): 16 ()
Pages: 1165-1170

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Handle: RePEc:taf:apfiec:v:15:y:2005:i:16:p:1165-1170
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  1. Nicoletta Batini & Andrew G Haldane, 1999. "Forward-looking rules for monetary policy," Bank of England working papers 91, Bank of England.
  2. John M. Roberts, 1998. "Inflation expectations and the transmission of monetary policy," Finance and Economics Discussion Series 1998-43, Board of Governors of the Federal Reserve System (U.S.).
  3. Smets, Frank & Wouters, Raf, 2002. "Openness, imperfect exchange rate pass-through and monetary policy," Journal of Monetary Economics, Elsevier, vol. 49(5), pages 947-981, July.
  4. Leitemo, Kai, 2004. "A game between the fiscal and the monetary authorities under inflation targeting," European Journal of Political Economy, Elsevier, vol. 20(3), pages 709-724, September.
  5. Rogoff, Kenneth, 1985. "The Optimal Degree of Commitment to an Intermediate Monetary Target," The Quarterly Journal of Economics, MIT Press, vol. 100(4), pages 1169-89, November.
  6. Dennis, Richard, 2001. "Inflation Expectations and the Stability Properties of Nominal GDP Targeting," Economic Journal, Royal Economic Society, vol. 111(468), pages 103-13, January.
  7. Woodford, M., 1999. "Optimal Monetary Policy Inertia.," Papers 666, Stockholm - International Economic Studies.
  8. Leitemo, Kai & Roisland, Oistein & Torvik, Ragnar, 2002. " Time Inconsistency and the Exchange Rate Channel of Monetary Policy," Scandinavian Journal of Economics, Wiley Blackwell, vol. 104(3), pages 391-97, September.
  9. Henrik Jensen, . "Targeting Nominal Income Growth or Inflation?," EPRU Working Paper Series 99-23, Economic Policy Research Unit (EPRU), University of Copenhagen. Department of Economics.
  10. Bennett T. McCallum, 1997. "The alleged instability of nominal income targeting," Reserve Bank of New Zealand Discussion Paper Series G97/6, Reserve Bank of New Zealand.
  11. Roberts, John M., 1997. "Is inflation sticky?," Journal of Monetary Economics, Elsevier, vol. 39(2), pages 173-196, July.
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