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Optimal monetary policy with international trade in intermediate inputs

Liutang Gong, Chan Wang and Heng-Fu Zou ()

No 604, CEMA Working Papers from China Economics and Management Academy, Central University of Finance and Economics

Abstract: This paper examines optimal monetary policy in a two-country New Keynesian model with international trade in intermediate inputs. We derive the loss function of a cooperative monetary policymaker and ï¬ nd that the optimal monetary policy must target intermediategoods price inflation rates, ï¬ nal-goods price inflation rates, ï¬ nalgoods output gaps, and relative-price gaps. We use the welfare loss under the optimal monetary policy as a benchmark to evaluate the welfare implications of three Taylor-type monetary policy rules. A main ï¬ nding is that the degree of price stickiness at the stage of intermediate-goods production is a key factor to determine which policy rule should be followed. Speciï¬ cally, when the degree of price stickiness at the stage of intermediate-goods production is high, the policymaker should follow intermediate-goods PPI-based Taylor rule, whereas CPI-based Taylor rule should be followed when the degree of price stickiness at the stage of intermediate-goods production is intermediate or low.

Keywords: Vertical production and trade; Optimal monetary policy; Inflation targeting; Welfare (search for similar items in EconPapers)
JEL-codes: E5 F3 F4 (search for similar items in EconPapers)
Pages: 26 pages
Date: 2016-07
New Economics Papers: this item is included in nep-dge, nep-mac, nep-mon and nep-opm
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (14)

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