The Effects of Monetary and Fiscal Policy on Aggregate Demand in a Small Open Economy: An Application of the Structural Error Correction Model
IMF Working Papers, October 1, 2000
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- The Effects of Monetary and Fiscal Policy on Aggregate Demand in a Small Open Economy: An Application of the Structural Error Correction Model
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Bibliographic details
- Authors: Tetsuya Konuki
- Published: October 1, 2000
- Series: IMF Working Papers
- DOI: https://doi.org/10.5089/9781451858044.001
Summary
- This paper empirically analyzes the short-run effects of monetary and fiscal policy on aggregate demand, using the two-step structural error correction method.
- The two-step structural error correction method is presented as having an advantage over the standard reduced-form error correction method in providing a meaningful interpretation for impulse responses.
- Results contrast sharply with traditional Mundell-Fleming and Dornbusch models.
Major empirical findings
- After the monetary policy is relaxed, the home currency depreciates for a substantial period of time, and aggregate demand first expands then gradually returns toward its original path.
- After the fiscal policy is relaxed, the home currency appreciates for a substantial period of time, and aggregate demand first contracts then gradually returns toward its original path.
Methodology and technical approach
- Method: two-step structural error correction method (contrasted with standard reduced-form error correction).
- Emphasis on providing meaningful interpretation for impulse responses via the structural approach.
Subjects and keywords (as listed)
- Subject: Demand for money, Econometric models, Exchange rates, Fiscal policy, Fiscal stimulus, Foreign exchange, Money, Real exchange rates
- Keywords: aggregate demand, aggregate demand function, aggregate demand specification, aggregate demand to monetary and fiscal policy shock, Demand for money, equation method, Exchange rates, expansionary monetary policy shock, fiscal policy, fiscal policy disturbance, Fiscal stimulus, GMM estimation, level of significance, magnifying depreciation, Monetary and fiscal policy, money demand shock, nominal exchange rate, open economy, Phillips-curve price adjustment equation, Real exchange rates, structural error correction models, WP