Optimal Inflation in an Open Economy

David M. Arseneau

No 279, Econometric Society 2004 North American Summer Meetings from Econometric Society

Abstract: This paper uses a two-country, monetary general equilibrium model with imperfect competition to study the optimal rate of inflation in an open economy. In contrast with the closed economy literature, when policy is set non-cooperatively in the open economy, the optimality of the Friedman rule -- setting the money growth rate such that the nominal interest rate goes to zero -- is not a general result. An optimizing monetary authority faces an incentive to use the inflation tax to gain a "beggar-thy-neighbor" advantage over the terms of trade. Strategic use of the inflation tax, however, results in a coordination failure that reduces overall welfare. International monetary cooperation helps to mitigate this coordination failure and, as a result, can lead to more efficient equilibria. An institutional arrangement such as a monetary union ensures the maximum gain from cooperation by restoring the optimality of the Friedman rule, placing the world economy at the pareto frontier

Keywords: Optimal Monetary Policy; Friedman Rule; Policy Coordination (search for similar items in EconPapers)
JEL-codes: E52 F41 F42 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-cba, nep-ifn, nep-mac and nep-mon
Date: 2004-08-11
View list of references View citations in EconPapers

Downloads: (external link)
http://repec.org/esNASM04/up.15829.1075403825.pdf (application/pdf)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: http://EconPapers.repec.org/RePEc:ecm:nasm04:279

Access Statistics for this paper

More papers in Econometric Society 2004 North American Summer Meetings from Econometric Society
Contact information at EDIRC.
Series data maintained by Christopher F. Baum ().