Foreign money shocks and the welfare performance of alternative monetary policy regimes

Senay O., Sutherland A.

SCANDINAVIAN JOURNAL OF ECONOMICS, vol.109, no.2, pp.245-266, 2007 (SSCI) identifier identifier


The welfare properties of monetary policy regimes for a country subject to foreign money shocks are examined in a two-country sticky-price model. Money targeting is found to be welfare superior to a fixed exchange rate when the expenditure switching effect of exchange rate changes is relatively weak, but a fixed rate is superior when the expenditure switching effect is strong. However, price targeting is superior to both these regimes for all values of the expenditure switching effect. A welfare-maximising monetary rule yields lower output and exchange rate volatility than price targeting for a wide range of parameter values.