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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. Mark Gertler & Jordi Gali & Richard Clarida, 1999. "The Science of Monetary Policy: A New Keynesian Perspective," Journal of Economic Literature, American Economic Association, vol. 37(4), pages 1661-1707, December.
    2. Giancarlo Corsetti & Paolo Pesenti, 1997. "Welfare and Macroeconomic Interdependence," NBER Working Papers 6307, National Bureau of Economic Research, Inc.
    3. McCallum, Bennett T & Nelson, Edward, 2001. "Monetary Policy for an Open Economy: An Alternative Framework with Optimizing Agents and Sticky Prices," CEPR Discussion Papers 2756, C.E.P.R. Discussion Papers.
    4. 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.
    5. Ascari, Guido, 2002. "Staggered Price and Trend Inflation:Some Nuisances," Royal Economic Society Annual Conference 2002 10, Royal Economic Society.
    6. Kiley, Michael T, 2000. "Endogenous Price Stickiness and Business Cycle Persistence," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 32(1), pages 28-53, February.
    7. Michael T. Kiley, 2007. "Is Moderate-to-High Inflation Inherently Unstable?," International Journal of Central Banking, International Journal of Central Banking, vol. 3(2), pages 173-201, June.
    8. repec:sae:niesru:v:164:y::i:1:p:100-109 is not listed on IDEAS
    9. Clarida, Richard & Galí, Jordi & Gertler, Mark, 2002. "A Simple Framework for International Monetary Policy Analysis," CEPR Discussion Papers 3355, C.E.P.R. Discussion Papers.
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