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Monetary Policy and Dutch Disease: The Case of Price and Wage Rigidity

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  • Constantino Hevia

  • Juan Pablo Nicolini

Abstract

We study a model of a small open economy that specializes in the production of com- modities and that exhibits frictions in the setting of both prices and wages. We study the optimal response of monetary and exchange rate policy following a positive (negative) shock to the price of the exportable that generates an appreciation (depreciation) of the local currency. According to the calibrated version of the model, deviations from full price stability can generate welfare gains that are equivalent to almost 0.5% of lifetime consump- tion, as long as there is a signi?cant degree of rigidity in nominal wages. On the other hand, if the rigidity is concentrated in prices, the welfare gains can be at most 0.1% of lifetime consumption. We also show that a rule - formally de?ned in the paper - that resembles a "dirty ?oating" regime can approximate the optimal policy remarkably well.

Suggested Citation

  • Constantino Hevia & Juan Pablo Nicolini, 2015. "Monetary Policy and Dutch Disease: The Case of Price and Wage Rigidity," Department of Economics Working Papers 2015_4, Universidad Torcuato Di Tella.
    • Handle: RePEc:udt:wpecon:2015_4
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    References listed on IDEAS

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    Cited by:

    1. Alberola, Enrique & Benigno, Gianluca, 2017. "Revisiting the commodity curse: A financial perspective," Journal of International Economics, Elsevier, vol. 108(S1), pages 87-106.
    2. Fernández, Andrés & González, Andrés & Rodríguez, Diego, 2018. "Sharing a ride on the commodities roller coaster: Common factors in business cycles of emerging economies," Journal of International Economics, Elsevier, vol. 111(C), pages 99-121.
    3. Bergholt, Drago & Røisland, Øistein & Sveen, Tommy & Torvik, Ragnar, 2023. "Monetary policy when export revenues drop," Journal of International Money and Finance, Elsevier, vol. 137(C).
    4. Olanubi, Sijuola Orioye, 2023. "Foreign exchange intervention and the Dutch disease under incomplete information," The Journal of Economic Asymmetries, Elsevier, vol. 28(C).

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    JEL classification:

    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics

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