Working Paper: CEPR ID: DP3036
Authors: Paul De Grauwe; Tomasz Piskorski
Abstract: The effectiveness of alternative loss functions assigned to the common central bank of a monetary union is studied. The alternative policy objectives are a function of the degree of aggregation of decision variables. We consider, respectively, the policy based on the union-wide aggregates and the policy based on the national data of the member states. To assess the performance of two alternative policy objectives in the environment of Euroland, we derive the implied optimal linear feedback rules using the framework similar to those proposed by Rudebusch and Svensson (1999). The dynamic simulations within the calibrated model of EMU indicate that the policy based on the union-wide aggregates yields stabilization performances that are close to the policy based on the national data of the member states. The main implication of the Paper is that the announced monetary policy strategy of the ECB based on the union-wide aggregates may be a reasonable proxy of the optimal policy rule based on the national data of the member states.
Keywords: ECB; EMU; Heterogenous Monetary Union; Loss Function; Optimal Linear Feedback Rules; Welfare Aggregation
JEL Codes: E10; E30; E40; E50
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| data aggregation method (unionwide aggregates) (C43) | stabilization performance (welfare losses) (D69) |
| data aggregation method (national data) (C80) | stabilization performance (welfare losses) (D69) |
| responsiveness to policy instruments (F68) | stabilization performance (welfare losses) under national data rules (C82) |
| responsiveness to policy instruments (F68) | stabilization performance (welfare losses) under aggregate data rules (D60) |
| switch from national to aggregate data (C80) | stabilization performance (welfare losses) (D69) |