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Global Commodity Prices, Monetary Transmission, and Exchange Rate Pass-Through in the Pacific Islands

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  • Shanaka J Peiris
  • Ding Ding

Abstract

Pacific Islands countries are vulnerable to commodity price shocks, and this poses challenges to monetary policy. The high degree of exchange rate pass-through to headline inflation and the weak monetary transmission mechanism in PICs suggest a greater efficacy of exchange rate changes in affecting inflation rather than monetary policy. To assess the tradeoff between the use of the exchange rate and monetary policy in macroeconomic stabilization, we employ a model-based approach to examine the optimal policy in response to the historical distribution of exogenous shocks in a Pacific Island (Tonga). The empirical evidence and model simulations tilt in the favor of exchange rate policy given the close relationship between exchange rate changes and headline inflation and the low interest rate sensitivity of aggregate demand.

Suggested Citation

  • Shanaka J Peiris & Ding Ding, 2012. "Global Commodity Prices, Monetary Transmission, and Exchange Rate Pass-Through in the Pacific Islands," IMF Working Papers 12/176, International Monetary Fund.
  • Handle: RePEc:imf:imfwpa:12/176
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    References listed on IDEAS

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    1. Kim, Soyoung & Roubini, Nouriel, 2000. "Exchange rate anomalies in the industrial countries: A solution with a structural VAR approach," Journal of Monetary Economics, Elsevier, vol. 45(3), pages 561-586, June.
    2. Eric Parrado, 2004. "Singapore's Unique Monetary Policy; How Does it Work?," IMF Working Papers 04/10, International Monetary Fund.
    3. Carare, Alina & Stone, Mark R., 2006. "Inflation targeting regimes," European Economic Review, Elsevier, vol. 50(5), pages 1297-1315, July.
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    Cited by:

    1. Allan Dizioli & Jochen M. Schmittmann, 2015. "A Macro-Model Approach to Monetary Policy Analysis and Forecasting for Vietnam," IMF Working Papers 15/273, International Monetary Fund.

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