kensia and monetraly - Board of Governors of the Federal...

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Board of Governors of the Federal Reserve System International Finance Discussion Papers Number 762 March 2003 New Keynesian Open-Economy Models and Their Implications for Monetary Policy David Bowman and Brian Doyle NOTE: International Finance Discussion Papers are preliminary materials circulated to stimulate discussion and critical comment. References in publications to International Finance Discussion Papers (other than an acknowledgment that the writer has had access to unpublished material) should be cleared with the author or authors. Recent IFDPs are available on the Web at www.federalreserve.gov/pubs/ifdp/.
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New Keynesian Open-Economy Models and Their Implications for Monetary Policy David Bowman and Brian Doyle * Abstract: The considerable amount of research in recent years on New Keynesian, open-economy models -- models with nominal price rigidities and intertemporally maximizing agents -- has yielded fresh insights for what Alan Blinder has called the “dark art” of making monetary policy. The literature has made its greatest contributions in understanding the transmission of shocks across countries, exchange rate pass-through and the effects of different pricing rules, and how these impact optimal monetary policy rules and international policy coordination. While the literature has by no means solved the great mysteries of open-economy macroeconomics, it has laid out a framework where we can ask normative questions of monetary policy, such as how much a central bank should react to movements in the exchange rate. However, monetary policy remains an empirical endeavour, and would be helped by further work which empirically estimates or calibrates these new models. Keywords: new open economy macroeconomics, international policy coordination, optimal monetary policy, pricing-to-market, current account dynamics. * David Bowman is a Senior Economist and Brian Doyle an Economist in the Division of International Finance of the Federal Reserve Board. This paper was prepared for the Bank of Canada’s November 2002 conference, “Price Adjustment and Monetary Policy,” and is forthcoming in its conference volume. We wish to thank our discussant, Frank Smets, participants of the Bank of Canada’s November 2002 conference, Philippe Bacchetta, Paolo Pesenti and especially Dale Henderson for helpful comments and suggestions. The views in this paper are solely the responsibility of the authors and should not be interpreted as reflecting the views of the Board of Governors of the Federal Reserve System or of any other person associated with the Federal Reserve System.
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1 Introduction Although there were some clear antecedents, including most notably Svensson and van Wijnbergen (1989), the publication of Obstfeld and Rogoff’s (1995a) “Exchange Rate Dynamics Redux” marked the beginning of a surge in work on a new class of open-economy macroeconomic models.
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kensia and monetraly - Board of Governors of the Federal...

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