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Optimal Monetary Policy with Non-Zero Net Foreign Wealth

  • Mykhaylova, Olena

I study the impact of net foreign wealth on the optimal monetary policy of an open economy in a two-country DSGE model with incomplete markets, sticky prices and deviations from the Law of One Price. I find that by optimally manipulating monetary policy, central banks can affect the timing of interest receipts (or payments) and therefore increase the risk-sharing role of the internationally traded asset. In particular, debtor nations find it optimal to allow their currency to float relatively more freely than do creditor nations. In order to maximize consumer welfare, in most specifications of the model central bank should target a weighted average of CPI inflation and changes in the nominal exchange rate.

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File URL: https://mpra.ub.uni-muenchen.de/23598/1/MPRA_paper_23598.pdf
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Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 23598.

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Date of creation: 01 Jul 2010
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Handle: RePEc:pra:mprapa:23598
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  2. Jordi Galí & 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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  7. Schmitt-Grohé, Stephanie & Uribe, Martín, 2001. "Solving Dynamic General Equilibrium Models Using a Second-Order Approximation to the Policy Function," CEPR Discussion Papers 2963, C.E.P.R. Discussion Papers.
  8. Lane, Philip R. & Milesi-Ferretti, Gian Maria, 2005. "A Global Perspective on External Positions," CEPR Discussion Papers 5234, C.E.P.R. Discussion Papers.
  9. Tommaso Monacelli, 2003. "Monetary Policy in a Low Pass-Through Environment," Working Papers 228, IGIER (Innocenzo Gasparini Institute for Economic Research), Bocconi University.
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  16. Javier Andrés & J. David López-Salido & Javier Vallés, 2006. "Money in an Estimated Business Cycle Model of the Euro Area," Economic Journal, Royal Economic Society, vol. 116(511), pages 457-477, 04.
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  22. Ester Faia & Tommaso Monacelli, 2006. "Optimal Monetary Policy in a Small Open Economy with Home Bias," Computing in Economics and Finance 2006 521, Society for Computational Economics.
  23. Vincent Bouvatier, 2007. "Are International Interest Rate Differentials Driven by the Risk Premium? The Case of Asian Countries," Economics Bulletin, AccessEcon, vol. 5(6), pages 1-14.
  24. Collard, Fabrice & Juillard, Michel, 2001. "A Higher-Order Taylor Expansion Approach to Simulation of Stochastic Forward-Looking Models with an Application to a Nonlinear Phillips Curve Model," Computational Economics, Society for Computational Economics, vol. 17(2-3), pages 125-39, June.
  25. Mykhaylova, Olena, 2009. "Welfare implications of country size in a monetary union," MPRA Paper 23323, University Library of Munich, Germany.
  26. David K. Backus & Patrick J. Kehoe & Finn E. Kydland, 1993. "International business cycles: theory vs. evidence," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Fall, pages 14-29.
  27. Jens Sondergaard & Pietro Cova, 2004. "When Should Monetary Policy Target The Exchange Rate?," Royal Economic Society Annual Conference 2004 51, Royal Economic Society.
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