Financial globalization and monetary policy

Abstract

This Working Paper should not be reported as representing the views of the IMF. The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate. What does financial globalization imply for the design of monetary policy? Does the case for price stability change in an environment of large cross country gross asset holdings?. This paper is concerned with the effects of monetary policy under endogenous international portfolio choice and incomplete markets. With endogenous portfolios, monetary policy takes on new importance due to its impact on the distribution of returns on nominal assets. Surprisingly, we find an even stronger case for price stability in this environment. Even without nominal rigidities, price stability has a welfare benefit by enhancing the risk sharing capacity of nominal bond returns.

International portfolios: A comparison of solution methods

“…2 For example, see Devereux and Sutherland (2008), Devereux and Sutherland (2009), Coeurdacier et al (2010), Devereux and Yetman (2010), Devereux and Sutherland (2010c), Devereux and Sutherland (2010b), Amdur (2010), Coeurdacier and Gourinchas (2011), Viani (2011), Nguyen (2011), Gertler et al (2012, Benigno and Nistico (2012), Berriel and Bhattarai (2013), Berriel (2013), and Karadi et al (2013).…”

Portfolio allocation and international risk sharing

“…Indeed, the response ofĈ t Ĉ t andQ t to tradable endowment shocks in this two bonds set-up is exactly the same as that under the complete market set-up given by equations (19). On the other hand, due to the fact that terms of trade is independent of non-tradable endowment shocks, agents cannot use bonds to hedge against these shocks and hence relative consumption and real exchange rate response to non-tradable sector shocks is the same as that under the single bond set-up.…”

Episodic Nonlinearity in Leading Global Currencies

“…Under this policy, price stability, appropriately de…ned, is the principal goal of monetary policy. Devereux and Sutherland (2007) show that …nancial globalization does not a¤ect the fundamental aims of monetary policy. Although their model produces an international …nancial structure where countries are holding large o¤setting gross nominal asset positions, so that exchange rate movements can generate substantial 'valuation e¤ects,'the presence of these e¤ects does not directly change the optimal monetary rule.…”

“…Because portfolios are chosen optimally, the wealth redistribution arising from exchange-rate-induced valuation e¤ects represents the workings of an e¢ cient international …nancial structure. However, Devereux and Sutherland (2007) argue that the e¤ects of monetary policy on other variables may be very di¤erent in a model with endogenous portfolio choice than in the standard analysis. Because the monetary rule leads to changes in the structure of international portfolios, the e¤ects of monetary policy may be the opposite of what traditional reasoning would imply.…”