International Dimensions of Optimal Monetary Policy

Paolo Pesenti and Giancarlo Corsetti

No 3349, CEPR Discussion Papers from Centre for Economic Policy Research

Abstract: This Paper provides a baseline general-equilibrium model of optimal monetary policy among interdependent economies with monopolistic firms and nominal rigidities. An inward-looking policy of complete domestic output stabilization is not optimal when firms' markups are exposed to currency fluctuations. Such policy raises exchange rate volatility, leading foreign exporters to charge higher prices vis-a-vis the increased uncertainty in the export market. As higher import prices reduce the purchasing power of domestic consumers, optimal monetary rules trade off a larger domestic output gap against lower consumer prices. Optimal rules in a world Nash equilibrium lead to less exchange rate volatility relative to both inward-looking rules and discretionary policies, even when the latter do not suffer from any inflationary (or deflationary) bias. Gains from international monetary cooperation are related in a non-monotonic way to the degree of exchange rate pass-through.

Keywords: Optimal yclical monetary policy; Nominal rigidities; Exchange rate pass-through; International cooperation (search for similar items in EconPapers)
JEL-codes: E31 E52 F42 (search for similar items in EconPapers)
Date: 2002-04
New Economics Papers: this item is included in nep-cba, nep-ifn, nep-mac and nep-mon
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (19)

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Related works:
Journal Article: International dimensions of optimal monetary policy (2005)
Working Paper: International dimensions of optimal monetary policy (2001)
Working Paper: International Dimensions of Optimal Monetary Policy (2001)
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