Monetary Policy in the Open Economy Revisited: Price Setting and Exchange Rate Flexibility / Michael B. Devereux, Charles Engel.

Format:

Book

Author/Creator:

Devereux, Michael B.

Contributor:

National Bureau of Economic Research.

Engel, Charles.

Series:

Working Paper Series (National Bureau of Economic Research) no. w7665.

NBER working paper series no. w7665

Language:

English

Physical Description:

1 online resource: illustrations (black and white);

Other Title:

Monetary Policy in the Open Economy Revisited

Place of Publication:

Cambridge, Mass. National Bureau of Economic Research 2000.

Summary:

This paper develops a welfare-based model of monetary policy in an open economy. We focus on the extent to which monetary policy should be employed in maintaining the exchange rate. The traditional approach maintains that exchange rate flexibility is desirable in the presence of real country-specific shocks that require adjustment in relative prices. However, in the light of empirical evidence on nominal price response to exchange-rate changes specifically, that there appears to be a large degree of local-currency pricing in industrialized countries the expenditure-switching role played by nominal exchange rates may be exaggerated in the traditional literature. In the presence of local-currency, we find that optimal monetary policy in response to real shocks pricing is fully consistent with fixed exchange rates. On the other hand, when real country-specific shocks are not important, and when a country's monetary sector is stable, the case for freely floating rates (a monetary policy in which exchange rates are not a consideration) is strengthened in the presence of local-currency pricing.

Notes:

Print version record

April 2000.