Openness and optimal monetary policy

Arbeitspapier

We show that the composition of imports has important implications for the optimal volatility of the exchange rate. Using input-output data for 25 countries we document substantial differences in the import and non-tradable content of final demand components, and in the role played by imported inputs in domestic production. We build a business cycle model of a small open economy to discuss how the problem of the optimizing policy-maker changes endogenously as the composition of imports and of final demand is altered. Contrary to models where steady state trade openness is entirely characterized by home bias, we find that trade openness is a very poor proxy of the welfare impact of alternative monetary policies. Finally, we quantify the loss from an exchange rate peg relative to the Ramsey policy conditional on the composition of imports, using parameter values that are estimated from OECD input-output tables data. We find that the main determinant of the losses is the share of non-traded goods in final demand.

Object Details

• Language: Englisch

References and Relationships

• Bibliographic citation: Series: ECB Working Paper ; No. 1279

Classification and Topics

• Classification: Wirtschaft ; Monetary Policy ; Price Level; Inflation; Deflation ; International Economic Order and Integration ; Open Economy Macroeconomics
• Subject: Exchange Rate Regimes ; international trade ; Non-tradable Goods ; Optimal Policy

Contributors, Places and Time

• Event: Geistige Schöpfung
• (who): Lombardo, Giovanni ; Ravenna, Federico
• Event: Veröffentlichung
• (who): European Central Bank (ECB)
• (where): Frankfurt a. M.
• (when): 2010

Further information

• Handle: http://hdl.handle.net/10419/153713
• Last update: 10.03.2025, 11:43 AM CET