Introducing Financial Frictions and Unemployment into a Small Open Economy Model

Lawrence J. Christiano (), Mathias Trabandt and Karl Walentin ()
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Lawrence J. Christiano: Department of Economics, Postal: Northwestern University, 2001 Sheridan Road, Evanston, Illinois 60208, USA

No 214, Working Paper Series from Sveriges Riksbank (Central Bank of Sweden)

Abstract: How important are financial and labor market frictions for the business cycle dynamics of a small open economy? In order to address this question we extend the small open economy model presented in Adolfson, Laséen, Lindé and Villani (2005, 2007a, 2007b) in three important dimensions. First, we introduce the feature that exports are produced by using imported goods in addition to domestically produced goods. Second, we incorporate financial frictions in the accumulation and management of capital similar to Bernanke, Gertler and Gilchrist (1999) and Christiano, Motto and Rostagno (2003, 2007). Third, we include the search and matching framework of Mortensen and Pissarides (1994), Gertler, Sala and Trigari (2006) and Christiano, Ilut, Motto, and Rostagno (2007) into a small open economy model. As a first step, we calibrate the model and analyze the effects of a monetary tightening. It turns out that the introduction of financial and labor market frictions allow for additional interesting insights about the effects of monetary policy.

Keywords: small open economy; DSGE; financial frictions; unemployment (search for similar items in EconPapers)
JEL-codes: E00 E30 F00 F40 G00 G10 J60 (search for similar items in EconPapers)
Date: 2007-11-01
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