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The Impact of Trend Inflation in an Open Economy Model

  • Emilio Fernandez-Corugedo
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    Most New Keynesian models are derived under the assumption that inflation is equal to zero in the steady-state and yet most central banks around the world have inflation targets that are greater than such a number. In this paper we consider the open economy (welfare) implications of non-zero steady-state inflation rates both in the domestic and foreign economies. We show that higher inflation rates in the steady-state, both in the domestic and foreign economies, reduce welfare in the domestic economy. We also show that high domestic inflation rates in the steady-state have a more adverse effect on domestic welfare than high foreign inflation rates.

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    File URL: http://www.banxico.org.mx/publicaciones-y-discursos/publicaciones/documentos-de-investigacion/banxico/%7B35F44A59-DE16-8EE6-EE64-2EC08E0FB346%7D.pdf
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    Paper provided by Banco de México in its series Working Papers with number 2007-15.

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    Date of creation: Dec 2007
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    Handle: RePEc:bdm:wpaper:2007-15
    Contact details of provider: Web page: http://www.banxico.org.mx

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    1. Guido Ascari, 2004. "Staggered Prices and Trend Inflation: Some Nuisances," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 7(3), pages 642-667, July.
    2. Giancarlo Corsetti & Paolo Pesenti, 1997. "Welfare and Macroeconomic Interdependence," NBER Working Papers 6307, National Bureau of Economic Research, Inc.
    3. Nelson, Edward, 2002. "Comment on: A simple framework for international monetary policy analysis," Journal of Monetary Economics, Elsevier, vol. 49(5), pages 905-912, July.
    4. Bennett T McCallum & Edward Nelson, 2001. "Monetary Policy for an Open Economy: An Alternative Framework with Optimising Agents and Sticky Prices," Discussion Papers 05, Monetary Policy Committee Unit, Bank of England.
    5. Richard Clarida & Jordi Galí & Mark Gertler, 1997. "The science of monetary policy: A new Keynesian perspective," Economics Working Papers 356, Department of Economics and Business, Universitat Pompeu Fabra, revised Apr 1999.
    6. repec:sae:niesru:v:164:y::i:1:p:100-109 is not listed on IDEAS
    7. Michael T. Kiley, 1996. "Endogenous price stickiness and business cycle persistence," Finance and Economics Discussion Series 96-23, Board of Governors of the Federal Reserve System (U.S.).
    8. Michael Kiley, 2004. "Is Moderate-To-High Inflation Inherently Unstable?," Econometric Society 2004 North American Summer Meetings 193, Econometric Society.
    9. Clarida, Richard & Gali, Jordi & Gertler, Mark, 2002. "A simple framework for international monetary policy analysis," Journal of Monetary Economics, Elsevier, vol. 49(5), pages 879-904, July.
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