Monetary policy and uncertainty in an empirical small open economy model

Alejandro Justiniano and Bruce Preston

No WP-09-21, Working Paper Series from Federal Reserve Bank of Chicago

Abstract: This paper explores optimal policy design in an estimated model of three small open economies: Australia, Canada and New Zealand. Within a class of generalized Taylor rules, we show that to stabilize a weighted objective of output, consumer price inflation and nominal interest variation optimal policy does not respond to the nominal exchange. This is despite the presence of local currency pricing and due, in large part, to observed exchange rate disconnect in these economies. Optimal policies that account for the uncertainty of model estimates, as captured by the parameters' posterior distrbution, similarly exhibit a lack of exchange rate response. In contrast to Brainard (1967), the presence of parameter uncertainty can lead to more or less aggressive policy responses, depending on the model at hand.

Date: 2009
New Economics Papers: this item is included in nep-cba, nep-ifn, nep-mac and nep-mon
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Related works:
Journal Article: Monetary policy and uncertainty in an empirical small open-economy model (2010)
Journal Article: Monetary policy and uncertainty in an empirical small open‐economy model (2010)
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