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on Open Economy Macroeconomics |
| By: | Hyeongwoo Kim (Department of Economics, Auburn University); Shuwei Zhang (Department of Economics, Towson University) |
| Abstract: | This paper investigates the design of optimal monetary policy responses to technology shocks in a two-country model framework featuring sticky prices and local currency pricing, where technology shocks propagate internationally. We demonstrate that technology shocks originating in the tradable sector, regardless of their country of origin, elicit monetary policy responses that are symmetric and closely aligned across countries, thereby providing a rationale for a fixed exchange rate regime. In contrast, technology shocks in the nontradable sector generate asymmetric policy reactions and weaken the source country's currency, supporting the case for exchange rate flexibility. In addition, the international transmission of technology shocks amplifies real-sector dynamics through news effects, prompting central banks to adopt contractionary policies, starkly contrasting with the findings of previous literature. |
| Keywords: | Sticky Price; Local Currency Pricing, Exchange Rate Regimes, Technology Diffusion, Interest Rate Rules. |
| JEL: | F31 F41 O0 E52 |
| Date: | 2026–03 |
| URL: | https://d.repec.org/n?u=RePEc:tow:wpaper:2026-03 |
| By: | Marcin Kolasa; Sahil Ravgotra; Pawel Zabczyk |
| Abstract: | We analyze the implications of adding boundedly rational agents a la Gabaix (2020) to the canonical New Keynesian open economy model. We show that accounting for myopia mitigates several ``puzzling" aspects of the relationship between exchange rates and interest rates and helps explain why some of them only arise in the nested case of rational expectations. Bayesian estimation of the model demonstrates that a high degree of ``cognitive discounting" significantly improves empirical fit. We also show that this form of bounded rationality makes positive international monetary spillovers more likely and exacerbates the unit root problem in small open economy models with incomplete markets. On the normative side, the model with behavioral agents provides arguments against using the exchange rate as a nominal anchor. |
| Keywords: | Monetary Policy, Exchange Rates, UIP Condition, Bounded Rationality |
| JEL: | F41 E70 E52 E58 G40 |
| Date: | 2025–03 |
| URL: | https://d.repec.org/n?u=RePEc:sgh:kaewps:2025111 |
| By: | Ruthira Naraidoo |
| Abstract: | Commodity-exporting economies, such as South Africa, are susceptible to wide fluctuations in their business cycles, closely tied to commodity price fluctuations. In this research, we develop a prototype dynamic stochastic general equilibrium (DSGE) model with specific features for emerging small open commodity-exporting economies, together with investigating the implications for monetary and fiscal policies following a commodity price shock. |
| Keywords: | Emerging markets, Commodity shocks, Monetary and fiscal policy |
| Date: | 2026 |
| URL: | https://d.repec.org/n?u=RePEc:unu:wpaper:wp-2026-24 |
| By: | Ricardo J. Caballero; Alp Simsek |
| Abstract: | We analyze monetary policy responses to noisy financial conditions in an open economy where exchange rates and domestic asset prices affect aggregate demand. Noise traders operate in both markets, and specialized arbitrageurs have limited risk-bearing capacity. Monetary policy creates cross-market spillovers: by adjusting the interest rate to stabilize one market, the central bank influences volatility in the other. We show that targeting a financial conditions index (FCI)—a weighted average of exchange rates and domestic asset prices—delivers substantial macroeconomic benefits. FCI targeting commits the central bank to respond to unexpected movements in financial conditions beyond what discretionary monetary policy implies. These stronger responses improve diversification across markets: each market becomes more exposed to external shocks but less exposed to its own. This reduces volatility in both markets and activates the recruitment effect from Caballero et al. (2025b) in each market—lower variance induces arbitrageurs to trade against noise, further dampening volatility. Foreign exchange (FX) targeting can also be effective when the exchange rate is the primary source of noise, with benefits that increase as the economy becomes more open. In this case, FX targeting recruits arbitrageurs to stabilize the FX market, reducing volatility and dampening the macroeconomic impact of noise. However, FX targeting also raises volatility in non-targeted markets through anti-recruitment effects, limiting its effectiveness relative to FCI targeting, especially when domestic asset markets also matter for financial conditions and are comparably noisy. |
| JEL: | E32 E40 E44 E52 F30 F41 G12 G15 |
| Date: | 2026–03 |
| URL: | https://d.repec.org/n?u=RePEc:nbr:nberwo:34974 |
| By: | Michał Brzoza-Brzezina; Paweł Galiński; Makarski Krzysztof |
| Abstract: | We check how monetary and fiscal policies (in particular their open-economy dimensions) are affected by expectations being behavioral in the spirit of Gabaix (2020). We first show that the data strongly favor this setting compared with the standard rational expectations (RE) assumption. Then we document several novel findings. First, monetary policy is less powerful and faces a higher sacrifice ratio when agents are behavioral. Second, the Taylor principle is affected: determinacy regions are larger if the economy is more open or the central bank abroad is more hawkish. Third, fiscal policy and its international spillovers are amplified under behavioral expectations (BE). In contrast, the spillovers of monetary policy are dampened. Fourth, BE contribute to solving the puzzle of excess foreign currency returns (UIP puzzle). |
| Keywords: | behavioral agents, monetary and fiscal policy, open-economy model |
| JEL: | E30 E43 E52 E70 |
| Date: | 2025–03 |
| URL: | https://d.repec.org/n?u=RePEc:sgh:kaewps:2025110 |
| By: | Mahmood, Asif et al. |
| Abstract: | This study, drawing on domestic and international literature and new empirical results, finds that monetary policy affects inflation and output in Pakistan, but transmission is slow, incomplete, and uneven across channels due to entrenched structural frictions. The interest rate channel influences short-term market rates, yet pass-through to deposit and lending rates remains weak amid banking concentration, large sovereign portfolios, and distortions from concessional refinance schemes. The exchange rate channel reacts faster, with tighter policy supporting nominal appreciation and easing tradable inflation, but credibility gaps, discretionary interventions, and shallow FX markets reduce predictability. The credit channel tightens private credit, though fiscal dominance, high NPLs, and bank inefficiencies dilute responsiveness. Asset price transmission is largely absent given shallow capital markets and informality. Policy signals can shape inflation expectations, but repeated external shocks and administered energy price changes often dominate the outlook. Importantly, the updated results indicates that post-COVID shocks developments – subsidized credit, commodity price spikes, floods, and exchange rate instability – have exposed the structural weaknesses and raised the premium on reform and fiscal-monetary coordination. |
| Keywords: | Monetary policy, transmission channels, transmission lags, inflation, output, Pakistan |
| JEL: | C54 E31 E50 E52 E58 |
| Date: | 2025–06–08 |
| URL: | https://d.repec.org/n?u=RePEc:pra:mprapa:128120 |
| By: | Vincent Notte (UNIVERSITE CATHOLIQUE DE LOUVAIN, Institut de Recherches Economiques et Sociales (IRES)) |
| Abstract: | Despite extensive evidence that Exchange Rate Pass-Through (ERPT) has declined in both developing and advanced economies, the mechanisms behind it remain debated. This paper shows that shifts in dollarization can explain a substantial part of this decline in Latin America. Using panel data for seven countries from 1995–2019, we find that ERPT fell sharply from 42 to 15 percent. Lower dollarization significantly dampens ERPT: a one-percentage-point decline in dollarization reduces ERPT by 0.25 percentage points. This channel is quantitatively important—for example, in Peru, de-dollarization can explain a 10-percentage-point fall in ERPT over the sample period. Given the persistently high levels of dollarization in the region, further reductions could significantly dampen the ERPT. Our findings highlight dollarization as a central, yet previously underappreciated, determinant of ERPT. |
| Keywords: | Exchange Rate Pass-Through; Dollarization; Inflation; Latin America |
| JEL: | F31 F33 O54 |
| Date: | 2026–03–13 |
| URL: | https://d.repec.org/n?u=RePEc:ctl:louvir:2026007 |
| By: | Pol Antràs; Adrian Kulesza |
| Abstract: | We develop a general equilibrium model of international trade in which the temporal structure of production is a key determinant of comparative advantage. Building on Böhm-Bawerk’s theory of capital, the model formalizes the idea that production processes with longer average periods of production (APPs) entail higher financing costs due to the time lag between input payments and revenue realization. We embed this insight into a multi-sector Ricardian framework with endogenous interest rates. Under autarky, countries with more patient consumers or more developed financial markets exhibit lower equilibrium interest rates and higher wage rates. With international trade, these countries typically gain a comparative advantage in sectors with longer APPs, though the model can also generate multiple equilibria and unconventional specialization patterns. We extend the framework to include trade costs (inclusive of shipment delays), global value chains, and international capital-market integration. Empirically, we present evidence showing that countries with more developed financial systems export disproportionately more in sectors with longer APPs, even after controlling for standard neoclassical and institutional determinants of comparative advantage. |
| JEL: | F1 F2 F3 F4 F6 |
| Date: | 2026–03 |
| URL: | https://d.repec.org/n?u=RePEc:nbr:nberwo:34983 |
| By: | KUMANOMIDO, Hiroshi |
| Abstract: | Large exchange rate appreciations pose a fundamental challenge for open economies: they compress export margins, weaken competitiveness, and force firms and regions to adjust their production and employment structures. However, evidence on how such adjustments unfold over the long run remains limited. This paper studies these mechanisms using Japan’s sharp yen appreciation following the 1985 Plaza Accord. Combining a firm-level panel data from 1980 to 1999 with industry-level shock exposure, I estimate how appreciation affected firms’ employment, sales, and labor productivity. The results show sharp declines in sales and productivity but modest employment losses, reflecting Japan’s rigid labor practices. Industries more exposed to export shocks expanded FDI in Asia without inducing additional domestic employment adjustment, but leading to a sharper decline in measured labor productivity. At the regional level, labor reallocation from manufacturing to services occurred in shock-exposed regions, suggesting that the yen appreciation led to gradual structural transformation. |
| Keywords: | Exchange rate, Trade policy, Firm, Plaza Accord, Structural Transformation |
| JEL: | F14 F31 F68 |
| Date: | 2026–03 |
| URL: | https://d.repec.org/n?u=RePEc:hit:tdbcdp:e-2025-04 |
| By: | Òscar Jordà; Fernanda Nechio; Toan Phan; Felipe Schwartzman |
| Abstract: | We show, both theoretically and empirically, that tight financial conditions shift investment toward cheaper but less energy-efficient capital. In a small open-economy model with vintage capital, higher financing costs reduce the present value of future energy savings, tilting firms’ choices along a cost efficiency frontier. Using 150 years of macroeconomic and energy data from 17 advanced economies, we find that tighter financial conditions reduce output, capital, and total energy consumption, but raise the amount of energy per unit of capital (energy intensity), a composition effect that persists for 6 to 8 years. Tight financial conditions lower energy use in the short run by depressing activity, but increase energy use in the medium run through worse energy efficiency. |
| Keywords: | energy efficiency; capital vintages; monetary policy; interest rates; local projections; small open economy |
| Date: | 2026–02–26 |
| URL: | https://d.repec.org/n?u=RePEc:fip:fedfwp:102910 |
| By: | Yining Ding; Ruyi Liu; Marek Rutkowski |
| Abstract: | The role of collateral in derivative pricing has evolved beyond credit risk mitigation, particularly following the global financial crisis, when funding costs and basis spreads became central to valuation practices. This development coincided with the transition from the London Interbank Offered Rate (LIBOR) to risk-free rates (RFRs) and the increasing standardization of collateralised trading. We study the valuation and hedging of a class of differential swaps referencing backward-looking averages of overnight rates, with SOFR swaps appearing as a particular instance. The focus is on the impact of the collateral currency. Extending earlier results Ding et al. [Math. Finance 36 (2026), pp.~180--202], we allow the collateral account to be denominated in a currency different from that of the contractual cash flows and derive explicit pricing and hedging strategies using a futures-based replication approach. We show that the choice of collateral currency can have a non-trivial effect on both valuation and risk management. In particular, foreign-currency collateral can introduce additional risk exposures even when contractual cash flows are entirely denominated in the domestic currency. Numerical study demonstrates that collateral effects can lead to significant valuation adjustments and therefore need to be properly incorporated in modern multi-currency modelling frameworks. |
| Date: | 2026–03 |
| URL: | https://d.repec.org/n?u=RePEc:arx:papers:2603.07863 |
| By: | Lorenz Emter; Laura Kuitunen; Arnaud Mehl; Peter McQuade; Swapan-Kumar Pradhan; Goetz von Peter |
| Abstract: | This paper examines asymmetries in the effects of geopolitical events on international bank credit, contrasting adverse events, such as the 2022 invasion of Ukraine, with positive events like the fall of the Berlin Wall in 1989. Using confidential data from the BIS International Banking Statistics from 1977 to 2024, we analyze credit dynamics between up to 12, 000 pairs of countries through the lens of their geopolitical differences. Our findings reveal that such differences impact international banking activity over time. Negative events reduce credit by 10-20% more between geopolitical blocs than they do within blocs. In contrast, positive events have no comparable effect on credit, even when boosting trade flows. We hypothesize that this asymmetry stems from the higher level of trust required for international bank credit compared to trade in goods, as the former involves a more pronounced intertemporal dimension, demanding a greater degree of commitment over time. |
| Keywords: | geoeconomics, geopolitics, international finance, global banking, residence, nationality, asymmetric effects, trust |
| JEL: | F2 F3 D74 H56 N40 |
| Date: | 2026–03 |
| URL: | https://d.repec.org/n?u=RePEc:bis:biswps:1338 |
| By: | Di Casola, Paola; Grothe, Magdalena |
| Abstract: | This paper quantifies the role of housing wealth in the transmission of monetary policy to consumption in 20 advanced economies. Using Bayesian VAR models we identify structural shocks with a novel combination of sign and maximum forecast error variance restrictions, isolating the housing wealth channel through counterfactual impulse responses. We find that the housing wealth multiplier — the sensitivity of consumption to exogenous house price changes — is strongly correlated with outright homeownership rates and is higher for durable consumption. Cross-country differences in the monetary policy transmission to consumption are largely driven by the cash-flow channel. JEL Classification: E21, E52, E44, R31, C32 |
| Keywords: | cash-flow channel, consumption, local projections, structural BVAR |
| Date: | 2026–03 |
| URL: | https://d.repec.org/n?u=RePEc:ecb:ecbwps:20263204 |
| By: | Gonzalo E. Basante Pereira; Ina Simonovska |
| Abstract: | We develop a framework to measure the severity of financial constraints for young firms across countries. Using ORBIS balance-sheet data for 23 economies, we show that short-term leverage rises while long-term leverage falls early in firms’ life cycles, with this pattern persisting longer where contract enforcement is weaker. We build a model of optimal financing under limited enforcement with endogenous debt maturity and blueprint capacity that matches these patterns and enables structural measurement of financial constraints. The framework decomposes the funding gap into within-firm borrowing constraints that ease with repayment history and a scale distortion identifiable through cross-country comparisons. |
| JEL: | F34 G15 G3 G33 O43 |
| Date: | 2026–03 |
| URL: | https://d.repec.org/n?u=RePEc:nbr:nberwo:34985 |
| By: | Lerner, Josh (Harvard University and NBER); Liu, Junxi (University of Warwick); Moscona, Jacob (MIT); Yang, David Y. (Harvard University, BREAD, J-PAL and NBER.) |
| Abstract: | Global innovation and entrepreneurship have traditionally been dominated by a handful of high-income countries, especially the US. This paper investigates the international consequences of the rise of a new hub for innovation, focusing on the dramatic ascent of high-potential entrepreneurship and venture capital in China. First, using comprehensive global data, we show that as the Chinese venture industry rose in importance in certain sectors, entrepreneurship increased substantially in other emerging markets. Using a broad set of country-level economic indicators, we find that this effect was driven by country-sector pairs most similar to their counterparts in China. The estimates are similar when exploiting Chinese sector-specific policies that affected the likelihood of entrepreneurship. Second, turning to mechanisms, we show that the baseline findings are driven by local investors and by new firms that more closely resemble existing Chinese companies. Third, we find that this growth in emerging market investment had wide-ranging economic consequences, including a rise in serial entrepreneurship, cross-sector spillovers, innovation, and broader measures of socioeconomic well-being. Together, our findings suggest that many developing countries benefited from the more “appropriate” businesses and technology that resulted from a rise of an innovation hub in an emerging economy. |
| Date: | 2026 |
| URL: | https://d.repec.org/n?u=RePEc:wrk:warwec:1608 |
| By: | James Giesecke; Robert Waschik |
| Abstract: | This paper examines the consistency between Armington and Melitz trade specifications in computable general equilibrium (CGE) models, focusing on the parameterisation of Melitz elasticities for the motor vehicle sector. Using the framework developed by Dixon, Jerie and Rimmer (2018), we first restrict the Melitz parameter space by imposing bounds derived from theoretical constraints and potentially observable industry characteristics. We then assess whether any admissible Melitz parameterisation can reproduce the import response generated by a standard Armington specification in GTAP-FIN for a 25 per cent U.S. tariff on motor vehicle imports. We find that no such parameter combination exists. This incompatibility raises a parameterisation dilemma: when Melitz parameters are constrained to generate empirically plausible industry characteristics, the implied import responses substantially exceed those produced under conventional Armington elasticities. We therefore reverse the calibration exercise and identify the range of Armington elasticities required to match the import responses generated by the restricted Melitz model. The implied Armington elasticities are considerably larger than values identified in the literature. One interpretation is that conventional Armington parameterisations understate trade responsiveness in sectors characterised by firm-level heterogeneity. Another is that alternative representations of heterogeneity, such as small group monopolistic competition, may warrant further investigation. |
| Keywords: | Melitz model, Armington elasticities, tariffs, motor vehicles, computable general equilibrium |
| JEL: | F12 C68 F17 F47 D58 |
| Date: | 2025–03 |
| URL: | https://d.repec.org/n?u=RePEc:cop:wpaper:g-365 |