Monetary Policy in Estimated Models of Small Open and Closed Economies

Ali Dib ()

Working Papers from Bank of Canada

Abstract: The author develops and estimates a quantitative dynamic-optimizing model of a small open economy (SOE) with domestic and import price stickiness and capital-adjustment costs. A monetary policy rule allows the central bank to systematically manage the short-term nominal interest rate in response to deviations of inflation, output, and money growth from their steadystate levels. The structural parameters of the SOE model, as well as those of a sticky-price model for a closed economy (CE), are estimated econometrically using data from Canada and the United States and a maximum-likelihood procedure with a Kalman filter. Estimation results show that the SOE and CE models lead to similar estimates for the Canadian economy. Furthermore, the effects of monetary policy shocks, and of other domestic shocks, generated in the SOE model are isomorphic to those generated in the CE model. Nevertheless, the forecast-error decomposition shows that the importance of domestic demand shocks is reduced by the introduction of foreign shocks.

Keywords: Financial markets; Interest rates (search for similar items in EconPapers)
JEL-codes: E31 E52 F2 F3 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-cba, nep-dge and nep-mon
Date: 2003
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