Global Commodity Prices, Monetary Transmission, and Exchange Rate Pass-Through in the Pacific Islands
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Summary:
Pacific Islands countries are vulnerable to commodity price shocks, and this poses challenges to monetary policy. The high degree of exchange rate pass-through to headline inflation and the weak monetary transmission mechanism in PICs suggest a greater efficacy of exchange rate changes in affecting inflation rather than monetary policy. To assess the tradeoff between the use of the exchange rate and monetary policy in macroeconomic stabilization, we employ a model-based approach to examine the optimal policy in response to the historical distribution of exogenous shocks in a Pacific Island (Tonga). The empirical evidence and model simulations tilt in the favor of exchange rate policy given the close relationship between exchange rate changes and headline inflation and the low interest rate sensitivity of aggregate demand.
Series:
Working Paper No. 2012/176
Subject:
Commodity prices Exchange rate adjustments Exchange rates Foreign exchange Inflation Prices Real exchange rates
English
Publication Date:
July 1, 2012
ISBN/ISSN:
9781475505245/1018-5941
Stock No:
WPIEA2012176
Pages:
16
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