Monetary policy rules and the exchange rate channel

Kai Leitemo, Øistein Røisland and Ragnar Torvik

Applied Financial Economics, 2005, vol. 15, issue 16, 1165-1170

Abstract: A discretionary monetary policy leads to suboptimal stabilization in models with the New Keynesian assumption of forward-looking price setting, and various policy rules that improve the discretionary equilibrium have been considered in the literature. The empirical evidence for forward-looking price determination is mixed. This note shows, however, that forward-looking price setting is not essential for the results. Policy rules that improve welfare under the New Keynesian assumptions, also do so within a traditional backward-looking model if asset prices, such as the exchange rate, are forward-looking.

Date: 2005
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DOI: 10.1080/09603100500358684

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