Resolving Puzzles of Monetary Policy Transmission in Emerging Markets

HA, JONGRIM and Kim, Dohan and Kose, Ayhan M. and Prasad, Eswar (2024): Resolving Puzzles of Monetary Policy Transmission in Emerging Markets.

Abstract

Conventional empirical models of monetary policy transmission in emerging market economies produce puzzling results: monetary tightening often leads to an increase in prices (the price puzzle) and depreciation of the currency (the FX puzzle). We show that incorporating forward-looking expectations into standard open economy structural VAR models resolves these puzzles. Specifically, we augment the models with novel survey-based measures of expectations based on consumer, business, and professional forecasts. We find that the rise in prices following monetary tightening is related to currency depreciation, so eliminating the FX puzzle helps solve the price puzzle.

• Item Type: MPRA Paper
• Language: English
• Keywords: monetary policy; emerging market economies; prize puzzle; foreign exchange puzzle
• Subjects: E - Macroeconomics and Monetary Economics > E3 - Prices, Business Fluctuations, and Cycles > E31 - Price Level ; Inflation ; Deflation; E - Macroeconomics and Monetary Economics > E3 - Prices, Business Fluctuations, and Cycles > E32 - Business Fluctuations ; Cycles; E - Macroeconomics and Monetary Economics > E4 - Money and Interest Rates > E43 - Interest Rates: Determination, Term Structure, and Effects; E - Macroeconomics and Monetary Economics > E4 - Money and Interest Rates > E47 - Forecasting and Simulation: Models and Applications; E - Macroeconomics and Monetary Economics > E5 - Monetary Policy, Central Banking, and the Supply of Money and Credit > E52 - Monetary Policy; E - Macroeconomics and Monetary Economics > E5 - Monetary Policy, Central Banking, and the Supply of Money and Credit > E58 - Central Banks and Their Policies; Q - Agricultural and Natural Resource Economics ; Environmental and Ecological Economics > Q4 - Energy > Q43 - Energy and the Macroeconomy

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