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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. 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.
    2. 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.
    3. Ascari, Guido, 2003. "Staggered prices and trend inflation: some nuisances," Research Discussion Papers 27/2003, Bank of Finland.
    4. Giancarlo Corsetti & Paolo Pesenti, 1997. "Welfare and Macroeconomic Interdependence," NBER Working Papers 6307, National Bureau of Economic Research, Inc.
    5. 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.).
    6. repec:sae:niesru:v:164:y::i:1:p:100-109 is not listed on IDEAS
    7. Richard Clarida & Jordi Gali & Mark Gertler, 2002. "A Simple Framework for International Monetary Policy Analysis," NBER Working Papers 8870, National Bureau of Economic Research, Inc.
    8. Richard Clarida & Jordi Gali & Mark Gertler, 1999. "The Science of Monetary Policy: A New Keynesian Perspective," NBER Working Papers 7147, National Bureau of Economic Research, Inc.
    9. 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.
    10. repec:cup:cbooks:9780521441964 is not listed on IDEAS
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