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Gains from international monetary policy coordination: does it pay to be different?

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  • Liu, Zheng
  • Pappa, Evi

Abstract

This paper presents a new argument for international monetary policy coordination based on considerations of structural asymmetries across countries. In a two-country world with a traded and a non-traded sector in each country, optimal independent monetary policy cannot replicate the natural-rate allocations. There are potential welfare gains from coordination since the planner under a cooperating regime internalizes a terms-of-trade externality that independent central banks tend to overlook. Yet, with symmetric structures across countries, the gains are quantitatively small. If the size of the traded sector differs across countries, the gains can be sizable and increase with the degree of asymmetry. The planner's optimal policy not only internalizes the terms-of-trade externality, it also creates a terms-of-trade bias in favor the country with a larger traded sector. Further, the planner tries to balance the terms-of-trade bias against the need to stabilize fluctuations in the terms-of-trade gap. JEL Classification: E52, F41, F42

Suggested Citation

  • Liu, Zheng & Pappa, Evi, 2005. "Gains from international monetary policy coordination: does it pay to be different?," Working Paper Series 514, European Central Bank.
  • Handle: RePEc:ecb:ecbwps:2005514
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    More about this item

    Keywords

    Asymmetric Structures; international policy coordination; optimal monetary policy; Terms-of-Trade Bias;
    All these keywords.

    JEL classification:

    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics
    • F42 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - International Policy Coordination and Transmission

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