Optimal monetary policy with international trade in intermediate inputs |
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Institution: | 1. Guanghua School of Management and LMEQF, Peking University, Beijing 100871, China;2. China Economics and Management Academy, Central University of Finance and Economics, Beijing 100081, China;3. Institute for Advanced Study, Wuhan University, Wuhan 430072, China;4. Institute for Advanced Study, Shenzhen University, Shenzhen 518060, China;2. Yale University, New Haven, CT, United States;3. Toulouse School of Economics, Toulouse, France |
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Abstract: | This paper examines optimal monetary policy in a two-country New Keynesian model with international trade in intermediate inputs. We derive the loss function of a cooperative monetary policymaker and find that the optimal monetary policy must target intermediate-goods price inflation rates, final-goods price inflation rates, final-goods output gaps, and relative-price gaps. We use the welfare loss under the optimal monetary policy as a benchmark to evaluate the welfare implications of three Taylor-type monetary policy rules. A main finding is that the degree of price stickiness at the stage of intermediate-goods production is a key factor to determine which policy rule should be followed. Specifically, when the degree of price stickiness at the stage of intermediate-goods production is high, the policymaker should follow intermediate-goods PPI-based Taylor rule, whereas CPI-based Taylor rule should be followed when the degree of price stickiness at the stage of intermediate-goods production is intermediate or low. |
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