Determinants of the Trilemma Policy Combination

Hiro Ito and Masahiro Kawai ()

No 456, ADBI Working Papers from Asian Development Bank Institute

Abstract: This paper presents a theoretical framework for policy making based on the “impossible trinity” or the “trilemma” hypothesis. A simple optimization model shows that placing more weight in terms of preference for each of the three open macroeconomic policies—exchange rate stability, financial market openness, and monetary policy independence—contributes to a higher level of achievement in that particular policy. The paper goes on to develop the first empirical framework in the literature to investigate the joint determination of the triad open macroeconomic policies based on the trilemma hypothesis. Results from applying the seemingly unrelated regression estimation method and employing other robustness checks show that simple economic and structural fundamentals determine the trilemma policy combinations. Finally, the paper examines how deviations from the “optimal” trilemma policy combinations evolve around the time of a financial crisis.

Keywords: trilemma hypothesis; macroeconomic policy; exchange rate stability; financial market openness; monetary policy independence; financial crisis; policy combination (search for similar items in EconPapers)
JEL-codes: F15 F21 F31 F36 F41 O24 (search for similar items in EconPapers)
Pages: 37 pages
Date: 2014-01-30
New Economics Papers: this item is included in nep-cba, nep-mac, nep-mon, nep-opm, nep-sea and nep-sog
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Citations: View citations in EconPapers (14)

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Related works:
Working Paper: Determinants of the Trilemma Policy Combination (2014)
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