Monetary Policy and Exchange Rate Volatility in a Small Open Economy

Tommaso Monacelli and Jordi Galí
Authors registered in the RePEc Author Service: Jordi Galí

No 11, Working Papers from Barcelona School of Economics

Abstract: We lay out a small open economy version of the Calvo sticky price model, and show how the equilibrium dynamics can be reduced to a tractable canonical system in domestic inflation and the output gap. We employ this framework to analyze the macroeconomic implications of three alternative rule-based policy regimes for the small open economy: domestic inflation and CPI-based Taylor rules, and an exchange rate peg. We show that a key difference among these regimes lies in the relative amount of exchange rate volatility that they entail. We also discuss a special case for which domestic inflation targeting constitutes the optimal policy, and where a simple second order approximation to the utility of the representative consumer can be derived and used to evaluate the welfare losses associated with those suboptimal rules.

Keywords: Small open economy; optimal monetary policy; sticky prices; exchange rate peg; exchange rate volatility (search for similar items in EconPapers)
JEL-codes: E52 F41 (search for similar items in EconPapers)
Date: 2015-09
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (15)

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Related works:
Journal Article: Monetary Policy and Exchange Rate Volatility in a Small Open Economy (2005)
Working Paper: Monetary policy and exchange rate volatility in a small open economy (2004)
Working Paper: Monetary Policy and Exchange Rate Volatility in a Small Open Economy (2002)
Working Paper: Monetary Policy and Exchange Rate Volatility in a Small Open Economy (2002)
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Persistent link: https://EconPapers.repec.org/RePEc:bge:wpaper:11

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