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International Policy Coordination and Simple Monetary Policy Rules

  • Wolfram Berger
  • Helmut Wagner

This paper studies the optimal design of monetary policy in an optimizing two-country sticky price model. We suppose that the production sequence of final consumption goods stretches across both countries and is associated with vertical trade. Prices of final consumption goods are sticky in the consumer's currency. Pursuing an inward-looking policy, as suggested in recent work, is not optimal in this set-up. We also ask which simple, i.e. non-optimal, targeting rule best supports the welfare maximizing policy. The results hinge critically on the degree of price flexibility and the relative importance of cost-push and productivity shocks. In many cases, a strict targeting of price indices like producer or consumer price indices is dominated by rules that allow for some fluctuations in prices such as nominal income or monetary targeting.

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Paper provided by International Monetary Fund in its series IMF Working Papers with number 06/164.

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Length: 28
Date of creation: 01 Jun 2006
Date of revision:
Handle: RePEc:imf:imfwpa:06/164
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  17. Batini, Nicoletta & Harrison, Richard & Millard, Stephen P., 2003. "Monetary policy rules for an open economy," Journal of Economic Dynamics and Control, Elsevier, vol. 27(11-12), pages 2059-2094, September.
  18. Alan Sutherland, 2002. "International monetary policy coordination and financial market integration," International Finance Discussion Papers 751, Board of Governors of the Federal Reserve System (U.S.).
  19. Smets, Frank & Wouters, Raf, 2002. "Openness, imperfect exchange rate pass-through and monetary policy," Journal of Monetary Economics, Elsevier, vol. 49(5), pages 947-981, July.
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  22. Kei-Mu Yi, 2003. "Can Vertical Specialization Explain the Growth of World Trade?," Journal of Political Economy, University of Chicago Press, vol. 111(1), pages 52-102, February.
  23. Alan Sutherland, 2005. "Cost-push shocks and monetary policy in open economies," Oxford Economic Papers, Oxford University Press, vol. 57(1), pages 1-33, January.
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  25. Parsley, David C. & Wei, Shang-Jin, 2001. "Explaining the border effect: the role of exchange rate variability, shipping costs, and geography," Journal of International Economics, Elsevier, vol. 55(1), pages 87-105, October.
  26. José Manuel Campa & Linda S. Goldberg, 2005. "Exchange Rate Pass-Through into Import Prices," The Review of Economics and Statistics, MIT Press, vol. 87(4), pages 679-690, November.
  27. Charles Engel & John H. Rogers, 1999. "Deviations from Purchasing Power Parity:Causes and Welfare Costs," Discussion Papers in Economics at the University of Washington 0038, Department of Economics at the University of Washington.
  28. Sutherland, Alan, 2006. "The expenditure switching effect, welfare and monetary policy in a small open economy," Journal of Economic Dynamics and Control, Elsevier, vol. 30(7), pages 1159-1182, July.
  29. Kang Shi & Juanyi Xu, 2007. "Optimal Monetary Policy with Vertical Production and Trade," Review of International Economics, Wiley Blackwell, vol. 15(3), pages 514-537, 08.
  30. V.V. Chari & Patrick J. Kehoe & Ellen R. McGrattan, 1998. "Can sticky price models generate volatile and persistent real exchange rates?," Staff Report 223, Federal Reserve Bank of Minneapolis.
  31. Lars E.O. Svensson, 2002. "Inflation Targeting: Should It Be Modeled as an Instrument Rule or a Targeting Rule?," NBER Working Papers 8925, National Bureau of Economic Research, Inc.
  32. Andreas Schabert & Markus Hörmann, 2009. "An Interest Rate Peg Might Be Better than You Think," Ruhr Economic Papers 0115, Rheinisch-Westfälisches Institut für Wirtschaftsforschung, Ruhr-Universität Bochum, Universität Dortmund, Universität Duisburg-Essen.
  33. 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.
  34. Feve, Patrick & Matheron, Julien & Poilly, Celine, 2007. "Monetary policy dynamics in the Euro area," Economics Letters, Elsevier, vol. 96(1), pages 97-102, July.
  35. Devereux, Michael B. & Engel, Charles, 2007. "Expenditure switching versus real exchange rate stabilization: Competing objectives for exchange rate policy," Journal of Monetary Economics, Elsevier, vol. 54(8), pages 2346-2374, November.
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