Instability Problems and Policy Issues in Perfectly Open Economies

Peter Flaschel

Chapter 6. in Time and Space in Economics, 2007, pp 99-127 from Springer

Abstract: Summary In this chapter, we consider an advanced classical model of a small, perfectly open economy with, in particular, perfectly flexible wages and prices, and the purchasing power parity (PPP) and uncovered interest parity (UIP) conditions holding at each moment in time. From the budget equations of the model we derive the law of motion for the real value of foreign bonds held domestically, and for the evolution of aggregate real government debt. Moreover, the PPP and the UIP conditions taken together imply a law of motion for the price level in such an economy. Taking these three laws of motion together, instability of the steady state of the dynamics is a likely result if all policy parameters are kept fixed. Specific policy rules with specific anchors for the private part of the economy are therefore proposed and used to make the overall dynamics stable, at least from the global point of view.

Keywords: Perfectly open economies; Government debt; Foreign debt; Instability; Monetary and fiscal policy (search for similar items in EconPapers)
Date: 2007
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Persistent link: https://EconPapers.repec.org/RePEc:spr:sprchp:978-4-431-45978-1_6

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DOI: 10.1007/978-4-431-45978-1_6

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