The Empirics of International Monetary Transmission: Identification and the Impossible Trinity

Abstract

The transmission of monetary policy across borders is central to many open economy models. Research has tried to evaluate the "impossible trinity" through estimating international interest rate linkages under alternative exchange rate regimes using realized base country interest rates. Such interest rates include anticipated and endogenous elements, which need not propagate internationally. We compare international interest rate responses under pegged and non-pegged regimes to identified, unanticipated, and exogenous U.S. interest rate changes and realized U.S. interest rate changes. We find important differences in estimated transmission from the two sets of measures-identified interest rate changes demonstrate a greater concordance with the impossible trinity than realized rate changes. THE IDEA THAT monetary policy autonomy depends on the choice of exchange rate regime has long been prominent in international macroeconomics. According to the "impossible trinity" or open economy trilemma, when capital is mobile a country that maintains a fixed (or pegged) exchange rate against a

Do Capital Controls Enhance Monetary Independence?

“…Bluedorn and Bowdler () investigate the relationship between monetary independence and exchange rate regime by distinguishing monetary policy in the base country (the USA) into identified, unanticipated and exogenous interest rate changes and study how different types of interest rate changes may affect the home country's monetary policy. Yet, the paper fails to address the complexity of capital controls by using a single binary measure.…”

“…Previous studies in the trilemma mostly focus on the relationship between the exchange rate regime and monetary policy independence. See, inter alia , Di Giovanni and Shambaugh (), Bluedorn and Bowdler (), Frankel et al () and Shambaugh (). Most studies assume high capital mobility especially when industrialized economies are under consideration.…”

Empirical Analysis of Trilemma in Emerging Economies

“…However, other studies found a positive link between monetary independence and exchange rate volatility (Rose, 1996) long-run domestic interest rates depend on global one rather than exchange rate regime (Frankel et al, 2004) exogenous interest rate shocks indicate a greater accordance with trilemma theory than anticipated changes (Bluedorn and Bowdler, 2010) short-term interest rates exhibit more independence than long-term rates and there is a rise in monetary independence under the pegged exchange rate regime, even with financial globalization (Obstfeld, 2014).…”

U.S. Monetary Policy Normalization and Global Interest Rates

“…Bluedorn and Bowdler (2010) show that the degree to which FOMC announcements are anticipated by markets has a bearing on the transmission of U.S. monetary policy to asset prices in other countries. The impact of a Federal Reserve policy decision will likely differ if it responds to a better economic outlook or reflects tighter monetary conditions alone.…”