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Optimal Monetary Policy in a Currency Union: Implications of a Country-specific Cost Channel
There is growing empirical evidence that the strength of the cost channel of monetary policy differs across countries. Using a New Keynesian model of a two-country monetary union, we show how the introduction of a cost channel (differential) alters the optimal monetary responses to union-wide and n...
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| Published in: | MAGKS - Joint Discussion Paper Series in Economics (Band 44-2014) |
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| Main Authors: | , |
| Format: | Article |
| Language: | English |
| Published: |
2014
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| Subjects: | |
| Online Access: | PDF Full Text |
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| Summary: | There is growing empirical evidence that the strength of the cost channel of
monetary policy differs across countries. Using a New Keynesian model of a two-country monetary union, we show how the introduction of a cost channel (differential) alters the optimal monetary responses to union-wide and national shocks. The cost channel makes monetary policy less e¤ective in combating inflation, but it is shown that the optimal response to the decline in effectiveness is a stronger use of the instrument. On the other hand, the larger the cost channel di¤erential, the less aggressive will the optimal monetary policy be. For almost all parameter constellations, our welfare analysis suggests a clear-cut ranking of policy regimes: commitment outperforms the Taylor rule, the Taylor rule outperforms strict inflation targeting, and strict inflation targeting outperforms discretion. |
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| Physical Description: | 38 Pages |
| ISSN: | 1867-3678 |
| DOI: | 10.17192/es2024.0345 |