Optimal Monetary Policy with Non-Zero Net Foreign Wealth

Mykhaylova, Olena (2010): Optimal Monetary Policy with Non-Zero Net Foreign Wealth.

Abstract

I study the impact of net foreign wealth on the optimal monetary policy of an open economy in a two-country DSGE model with incomplete markets, sticky prices and deviations from the Law of One Price. I find that by optimally manipulating monetary policy, central banks can affect the timing of interest receipts (or payments) and therefore increase the risk-sharing role of the internationally traded asset. In particular, debtor nations find it optimal to allow their currency to float relatively more freely than do creditor nations. In order to maximize consumer welfare, in most specifications of the model central bank should target a weighted average of CPI inflation and changes in the nominal exchange rate.

• Item Type: MPRA Paper
• Language: English
• Keywords: Optimal monetary policy; welfare; open economy; net foreign wealth.
• Subjects: F - International Economics > F3 - International Finance > F34 - International Lending and Debt Problems; F - International Economics > F3 - International Finance > F32 - Current Account Adjustment ; Short-Term Capital Movements; 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 > E4 - Money and Interest Rates > E44 - Financial Markets and the Macroeconomy

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