Optimal Monetary Policy in a Small Open Economy with Habit Formation and Nominal Rigidities

January 1, 2003

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Format: Chicago

Yongseung Jung, and Woon Gyu Choi. Optimal Monetary Policy in a Small Open Economy with Habit Formation and Nominal Rigidities, (USA: International Monetary Fund, 2003) accessed November 8, 2024

Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary

Introducing habit formation into an open economy macroeconomic model with price stickiness, we examine the characteristics of an optimal monetary policy. We find that, first, the optimal policy rule entails interest rate smoothing and responds to the lagged values of the foreign interest rate and domestic technology shocks as well as their current values. Second, habit formation enriches the dynamics of the economy with a persistent, hump-shaped response of consumption to shocks. Finally, when habit formation does matter, the optimal policy rule achieves a greater welfare improvement over alternative policy rules by achieving lower macroeconomic variability.

Subject: Consumption, Exchange rates, Inflation, Output gap, Real exchange rates

Keywords: Monetary policy, WP

Publication Details

Pages:

33
Volume:

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DOI:

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Issue:

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Series:

Working Paper No. 2003/005
Stock No:

WPIEA0052003
ISBN:

9781451842203
ISSN:

1018-5941

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