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Optimal Monetary Policy with Vertical Production and Trade *
Author(s) -
Shi Kang,
Xu Juanyi
Publication year - 2007
Publication title -
review of international economics
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 0.513
H-Index - 58
eISSN - 1467-9396
pISSN - 0965-7576
DOI - 10.1111/j.1467-9396.2007.00688.x
Subject(s) - economics , spillover effect , productivity , production (economics) , monetary economics , currency , monetary policy , value (mathematics) , flexibility (engineering) , exchange rate , international economics , shock (circulatory) , exchange rate flexibility , exchange rate regime , macroeconomics , medicine , management , machine learning , computer science
This paper explores the optimal monetary policy response to domestic and foreign technology shocks in an open economy with vertical structure of production and trade. We find that any stage‐specific productivity shock in one country may have a transborder spillover effect on the other country via the vertical trade. So when choosing optimal monetary rules, each monetary authority should respond to both home and foreign productivity shocks. Also, the flexible exchange rate cannot replicate the flexible price equilibrium, even under producer currency pricing, due to price stickiness in multiple stages. We also find that the existence of a transborder spillover effect depends on the currencies of price setting. Finally, vertical trade may affect the value of exchange rate flexibility under PCP and LCP setting.