Global Commodity Prices, Monetary Transmission, and Exchange Rate Pass-Through in the Pacific Islands

Author/Editor:

Shanaka J Peiris ; Ding Ding

Publication Date:

July 1, 2012

Electronic Access:

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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:

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. 12/176

Subject:

English

Publication Date:

July 1, 2012

ISBN/ISSN:

9781475505245/1018-5941

Stock No:

WPIEA2012176

Format:

Paper

Pages:

16

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