When International Policy Coordination Matters: An Empirical Analysis

The interdependence of national economies implies externalities in policy making, and these externalities lead to inefficient outcomes when policy-making is decentralised and independent. These externalities have been well documented from a theoretical point of view. This paper reports our attempts to discover if and when policy coordination matters. We use the Liverpool World Model, which exhibits strong spillover effects for monetary policy and would therefore, we thought, yield very different results from those of earlier researchers. However, strong spillover effects do not guarantee that cooperative and non cooperative policies will yield very different outcomes: other aspects of the policy game's structure can be equally important. Indeed, we found many plausible situations in which the non-cooperative and cooperative solutions are effectively indistinguishable, given realistic assumptions concerning the precision with which central banks seem to be able to control their money supplies. We also discovered situations in which coordination does make a significant difference, however.