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Capital Mobility, Consumption Substitutability, and the Effectiveness of Monetary Policy in Open Economies

  • Christian Pierdzioch

This paper uses a dynamic general equilibrium two-country optimizing model to analyze the consequences of international capital mobility for the effectiveness of monetary policy in open economies. The model shows that the substitutability of goods produced in different countries plays a central role for the impact of international capital mobility on the effectiveness of monetary policy. Paralleling the results of the traditional Mundell-Fleming model, a higher degree of international capital mobility increases the effectiveness of monetary policy only if the Marshall-Lerner condition, which is linked to the cross-country substitutability of goods, holds.

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Paper provided by Kiel Institute for the World Economy in its series Kiel Working Papers with number 1110.

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Length: 24 pages
Date of creation: May 2002
Date of revision:
Handle: RePEc:kie:kieliw:1110
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  1. Maurice Obstfeld & Kenneth Rogoff, 1994. "Exchange Rate Dynamics Redux," NBER Working Papers 4693, National Bureau of Economic Research, Inc.
  2. McCallum, Bennett T & Nelson, Edward, 2001. "Monetary Policy for an Open Economy: An Alternative Framework with Optimizing Agents and Sticky Prices," CEPR Discussion Papers 2756, C.E.P.R. Discussion Papers.
  3. Stephanie Schmitt-Grohe & Martin Uribe, 2002. "Closing Small Open Economy Models," NBER Working Papers 9270, National Bureau of Economic Research, Inc.
  4. Fuhrer, Jeff & Moore, George, 1995. "Inflation Persistence," The Quarterly Journal of Economics, MIT Press, vol. 110(1), pages 127-59, February.
  5. Taylor, John B., 1993. "Discretion versus policy rules in practice," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 39(1), pages 195-214, December.
  6. Niehans, Jurg, 1975. "Some doubts about the efficacy of monetary policy under flexible exchange rates," Journal of International Economics, Elsevier, vol. 5(3), pages 275-281, August.
  7. Marvin Goodfriend, 1990. "Interest rates and the conduct of monetary policy," Working Paper 90-06, Federal Reserve Bank of Richmond.
  8. Bennett T. McCallum, 2001. "Should Monetary Policy Respond Strongly to Output Gaps?," American Economic Review, American Economic Association, vol. 91(2), pages 258-262, May.
  9. Sutherland, Alan, 1996. " Financial Market Integration and Macroeconomic Volatility," Scandinavian Journal of Economics, Wiley Blackwell, vol. 98(4), pages 521-39, December.
  10. Klein, Paul, 2000. "Using the generalized Schur form to solve a multivariate linear rational expectations model," Journal of Economic Dynamics and Control, Elsevier, vol. 24(10), pages 1405-1423, September.
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