Tariffs and Monetary Policy

Tommaso Monacelli

No 20142, CEPR Discussion Papers from Centre for Economic Policy Research

Abstract: We study the macroeconomic effects of import and export tariffs in a baseline open-economy New Keynesian model. The impact of tariffs depends critically on the endogenous response of monetary policy. \textit{Import} tariffs can be either contractionary or expansionary, depending on whether the central bank targets CPI inflation or a narrower measure of domestic goods (PPI) inflation. Under flexible prices, import tariffs are expansionary only when the elasticity of substitution between domestic and imported goods is sufficiently high, while an exchange rate peg amplifies this expansionary effect. \textit{Export} tariffs, by contrast, are always contractionary, as they directly depress external demand, though the magnitude of the output loss depends on the monetary policy regime. Tariff shocks are \textit{inefficient}, namely they generate a time-varying wedge between the efficient and the flexible-price allocations. This happens either \textit{exogenously} or \textit{endogenously}, depending on whether tariff shocks affect the efficient allocation. Optimal monetary policy exploits exchange rate movements to achieve a more expansionary stance than the one replicating the flexible-price allocation. In contrast, strict CPI-inflation targeting introduces a contractionary bias, producing large deviations from constrained efficiency.

JEL-codes: D91 E62 (search for similar items in EconPapers)
Date: 2025-04
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