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Is Monetary Policy in an Open Economy Fundamentally Different?

  • Tommaso Monacelli
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    Openness per se requires optimal monetary policy to deviate from the canonical closed-economy principle of domestic price stability, even if domestic prices are the only ones to be sticky. I review this argument using a simple partial equilibrium analysis in an economy that trades in ?nal consumption goods. I then extend the standard open economy New Keynesian model to include imported inputs of production. Production openness strengthens even further the incentive for the policymaker to deviate from strict domestic price stability. With both consumption and production openness variations in the world price of food and in the world price of imported oil act as exogenous cost-push factors. Keywords: openness, trade, imported inputs, consumption imports, exchange rate, monetary policy. JEL Classi?cation Numbers: E52, F41.

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    File URL: ftp://ftp.igier.unibocconi.it/wp/2012/449.pdf
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    Paper provided by IGIER (Innocenzo Gasparini Institute for Economic Research), Bocconi University in its series Working Papers with number 449.

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    Date of creation: 2012
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    Handle: RePEc:igi:igierp:449
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    1. repec:dgr:kubcen:199667 is not listed on IDEAS
    2. Olivier Blanchard & Jordi Gali, 2005. "Real Wage Rigidities and the New Keynesian Model," NBER Working Papers 11806, National Bureau of Economic Research, Inc.
    3. Ester Faia & Tommaso Monacelli, 2008. "Optimal Monetary Policy in a Small Open Economy with Home Bias," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 40(4), pages 721-750, 06.
    4. Constantino Hevia, 2011. "Optimal Devaluations," 2011 Meeting Papers 1070, Society for Economic Dynamics.
    5. Guillermo A. Calvo & Carmen M. Reinhart, 2002. "Fear Of Floating," The Quarterly Journal of Economics, MIT Press, vol. 117(2), pages 379-408, May.
    6. Bernardino Ad�o & Isabel Correia & Pedro Teles, 2003. "Gaps and Triangles," Review of Economic Studies, Oxford University Press, vol. 70(4), pages 699-713.
    7. Roberto Chang & Luis Catão, 2010. "World Food Prices and Monetary Policy," IMF Working Papers 10/161, International Monetary Fund.
    8. 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.
    9. De Fiore, Fiorella & Liu, Zheng, 2005. "Does trade openness matter for aggregate instability?," Journal of Economic Dynamics and Control, Elsevier, vol. 29(7), pages 1165-1192, July.
    10. Pappa, Evi, 2004. "Do the ECB and the fed really need to cooperate? Optimal monetary policy in a two-country world," Journal of Monetary Economics, Elsevier, vol. 51(4), pages 753-779, May.
    11. Bernardino Adao, 2000. "Gaps and Triangles," Econometric Society World Congress 2000 Contributed Papers 1904, Econometric Society.
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