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Current account and exchange rate dynamics

  • Lilia Cavallari

In the theoretical part of the paper, we analyze the positive and normative effects of a surprise monetary expansion in a small open economy characterized by imperfect competition and short-run price rigidity in the domestic sector. The temporary output boom fostered by the monetary expansion is shown to come at the cost of a permanent squeeze of the domestic sector. In general this affects welfare ambigously, since the welfare gain from the monetary expansion reduces as net foreign assets become smaller and eventually turns negative if the economy accumulates too large a debt towards the rest of the world. The empirical part of the paper provides evidence in favour of a crucial role of monetary shocks in current account fluctuations. This holds especially for the more open economies in the G7, namely the European countries and Canada.

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Paper provided by University of Rome La Sapienza, Department of Public Economics in its series Working Papers with number 38.

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Length: 37
Date of creation: Nov 1999
Date of revision:
Handle: RePEc:sap:wpaper:wp38
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  1. Lee, J. & Chinn, M.D., 1998. "The Current Account and the Real Exchange Rate: A Structural VAR Analysis of Major Currencies," Papers 97-98-17, California Irvine - School of Social Sciences.
  2. Lane, Philip R., 1997. "Inflation in open economies," Journal of International Economics, Elsevier, vol. 42(3-4), pages 327-347, May.
  3. Clarida, Richard & Gali, Jordi, 1994. "Sources of real exchange-rate fluctuations: How important are nominal shocks?," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 41(1), pages 1-56, December.
  4. Elliott, Graham & Fatas, Antonio, 1996. "International business cycles and the dynamics of the current account," European Economic Review, Elsevier, vol. 40(2), pages 361-387, February.
  5. Lars E.O. Svensson & Sweder van Wijnbergen, 1987. "Excess Capacity, Monopolistic Competition, and International Transmission of Monetary Disturbances," NBER Working Papers 2262, National Bureau of Economic Research, Inc.
  6. Maurice Obstfeld & Kenneth S. Rogoff, 1996. "Foundations of International Macroeconomics," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262150476, June.
  7. Obstfeld, Maurice & Rogoff, Kenneth, 1995. "Exchange Rate Dynamics Redux," CEPR Discussion Papers 1131, C.E.P.R. Discussion Papers.
  8. repec:oup:restud:v:57:y:1990:i:2:p:183-203 is not listed on IDEAS
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