Working Paper: NBER ID: w0685
Authors: Maurice Obstfeld
Abstract: This paper studies the effects of monetary policy in a small, open economy with a floating exchange rate, sticky wages, and rational expectations in both the asset and labor markets. The model developed emphasizes the link between exchange-rate depreciation and nominal wage inflation, embodying it in an expectations-augmented Phillips curve. The economy studied produces both traded and non-traded goods, and thus provides a framework in which to explore the connection between the dynamic behavior of the exchange rate and the supply structure and degree of openness of the economy. In addition, the paper examines the "vicious circle" hypothesis, showing how an explosive cycle of exchange-rate depreciation and wage-price inflation may arise in response to an expected monetary expansion.
Keywords: No keywords provided
JEL Codes: No JEL codes provided
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| exchange rate depreciation (F31) | nominal wage inflation (J31) |
| unexpected increase in money supply (E51) | temporary depreciation of exchange rate (F31) |
| temporary depreciation of exchange rate (F31) | restoration of nominal wage to long-run equilibrium (J38) |
| anticipated monetary expansion (E59) | exchange rate depreciation (F31) |
| exchange rate depreciation (F31) | wage-price inflation (E64) |