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Optimal Monetary Policy in an Estimated Local Currency Pricing Model

  • Okano, Eiji
  • Eguchi, Masataka
  • Gunji, Hiroshi
  • Miyazaki, Tomomi

We analyze fluctuations in inflation and the nominal exchange rate under optimal monetary policy with local currency pricing by developing two-country DSGE local currency pricing and producer currency pricing models. We estimate our models using Bayesian techniques with Japanese and US data, and calculate impulse response functions. Our estimation results show that local currency pricing is strongly supported against producer currency pricing. From the estimated parameters, we show that completely stabilizing consumer price index inflation is optimal from the viewpoint of minimizing welfare costs and that completely stabilizing consumer price index inflation is consistent with completely stabilizing the nominal exchange rate.

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File URL: http://hermes-ir.lib.hit-u.ac.jp/rs/bitstream/10086/22136/1/DP558.pdf
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Paper provided by Institute of Economic Research, Hitotsubashi University in its series Discussion Paper Series with number 558.

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Length: 32 p.
Date of creation: Jan 2012
Date of revision:
Handle: RePEc:hit:hituec:558
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  1. Maurice Obstfeld and Kenneth Rogoff., 1995. "Exchange Rate Dynamics Redux," Center for International and Development Economics Research (CIDER) Working Papers C95-048, University of California at Berkeley.
  2. Vicente Tuesta & Pau Rabanal, 2006. "Euro-Dollar Real Exchange Rate Dynamics in an Estimated Two-Country Model; What is Important and What is Not," IMF Working Papers 06/177, International Monetary Fund.
  3. Michael Woodford, 2001. "Inflation Stabilization and Welfare," NBER Working Papers 8071, National Bureau of Economic Research, Inc.
  4. Michael B. Devereux & Philip R. Lane & Juanyi Xu, 2006. "Exchange Rates and Monetary Policy in Emerging Market Economies," Economic Journal, Royal Economic Society, vol. 116(511), pages 478-506, 04.
  5. Adjemian, Stéphane & Darracq Pariès, Matthieu & Smets, Frank, 2008. "A quantitative perspective on optimal monetary policy cooperation between the US and the euro area," Working Paper Series 0884, European Central Bank.
  6. Benigno, Gianluca & Benigno, Pierpaolo, 2003. "Designing targeting rules for international monetary policy cooperation," Working Paper Series 0279, European Central Bank.
  7. Andrew T. Levin & Alexei Onatski & John C. Williams & Noah Williams, 2005. "Monetary policy under uncertainty in micro-founded macroeconometric models," Working Paper Series 2005-15, Federal Reserve Bank of San Francisco.
  8. Gianluca Benigno & Pierpaolo Benigno, 2004. "Designing target rules for international monetary policy cooperation," LSE Research Online Documents on Economics 3759, London School of Economics and Political Science, LSE Library.
  9. Ferrero, Andrea, 2005. "Fiscal and monetary rules for a currency union," Working Paper Series 0502, European Central Bank.
  10. Betts, Caroline & Devereux, Michael B., 2000. "Exchange rate dynamics in a model of pricing-to-market," Journal of International Economics, Elsevier, vol. 50(1), pages 215-244, February.
  11. Sugo, Tomohiro & Ueda, Kozo, 2008. "Estimating a dynamic stochastic general equilibrium model for Japan," Journal of the Japanese and International Economies, Elsevier, vol. 22(4), pages 476-502, December.
  12. Jordi Gal� & Tommaso Monacelli, 2005. "Monetary Policy and Exchange Rate Volatility in a Small Open Economy," Review of Economic Studies, Oxford University Press, vol. 72(3), pages 707-734.
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