Dollar Dominance and the Transmission of Monetary Policy

Michael McLeay and Silvana Tenreyro

No 21020, CEPR Discussion Papers from Centre for Economic Policy Research

Abstract: An emerging academic and policy view contends that a monetary-policy induced depreciation by a (non-US) country invoicing in dollars cannot stabilise activity, as the classical expenditure-switching channel is muted. This weakens the exchange-rate channel of monetary policy transmission. The key premises underlying this view are that i) exporters have monopoly power and ii) their prices are sticky in US dollars. However, goods priced in dollars tend to have more flexible prices and higher elasticities of substitution. We propose a new open economy model with more realistic assumptions and show that loosening monetary policy boosts exports and activity; the limit to any expansion is not demand, but supply capacity. We furthermore show that low pass-through is not informative about the degree of nominal stickiness: limited price responses are an equilibrium result in our model, rather than an assumption. We present new evidence that both exports and activity respond strongly to exchange-rate changes driven by monetary policy.

Keywords: Monetary policy; Expenditure-switching channel of monetary policy transmission (search for similar items in EconPapers)
JEL-codes: E31 E52 E58 F41 Q02 Q30 (search for similar items in EconPapers)
Date: 2026-01
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