The Implications of Structural Asymmetries for Monetary Policy and Welfare in a Small Open Economy: A Linear Quadratic Framework

Yuliya Rychalovska

CERGE-EI Working Papers from The Center for Economic Research and Graduate Education - Economics Institute, Prague

Abstract: The paper analyzes optimal monetary strategy and policy trade-offs in a DSGE model of an open economy with traded and non-traded sectors. We approximate the utility of the repre- sentative consumer to obtain a micro-founded quadratic loss function of the form extensively used for monetary policy assessment. The central bank's optimal strategy is computed and optimal and simple policy rules compared according to the derived welfare measure. The findings suggest that social welfare objectives display sector-specific features and prescribe the stabilisation of the appropriately weighted sectoral inflation rates and output gaps. A certain degree of the relative price management is also optimal. We analyze macroeconomic volatility and welfare losses under a number of simple policy rules and analyze their ability to replicate the optimal solution.

Keywords: DSGE models; non-traded goods; optimal monetary policy; welfare. (search for similar items in EconPapers)
JEL-codes: E52 E58 E61 F41 (search for similar items in EconPapers)
Date: 2008-12
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Persistent link: https://EconPapers.repec.org/RePEc:cer:papers:wp380

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