Monetary Policy, Job Flows and Unemployment in a Sticky Price Framework

The paper presents a general equilibrium model that combines a non-Walrasian labor market with firms setting prices on a staggered basis. The model is utilized to analyze the impact of different shocks on a set of variables under two alternative monetary policy rules. The main characteristic of the labor market is the existence of a search friction that results in a positive equilibrium rate of unemployment. Sticky prices, on the other hand, introduce a demand-sided transmission mechanism for the monetary policy that allows analysis of the effects of different shocks. The model is able to generate a positive correlation between inflation and employment (the Phillips curve) as well as the observed correlation pattern between job creation and employment and job destruction and employment. It also replicates the contemporaneous negative correlation between job creation and job destruction that is observed in the data.

The Effects of Nominal and Real Shocks on the Chilean Real Exchange Rate During the Nineties

Using structural VARs identified with long-run restrictions, this paper evaluates the importance of nominal shocks and real disturbances on the Chilean real exchange rate (RER) during the nineties. Different estimations indicate that nominal disturbances account for about 30% of the variance of the forecast error of the RER in the short run. Positive nominal shocks produce an appreciation of RER that lasts five months. The effect of real shocks depends on the nature of the shocks. A positive productivity shock appreciates the real exchange rate while a positive expenditure shock causes a real depreciation of the currency. The historical decomposition of the RER does not show periods of large misalignment.

Non-Traded Goods and Monetary Policy Trade-Offs in a Small Open Economy

In this paper I develop a small open economy model that is characterized by existence of two domestic sectors. Together with a home traded goods sector we incorporate a non-traded goods sector. In both sectors prices are sticky, and each one is subject to a specific productivity shock. In this setup the flexible price allocation can not be reached by means of a single monetary policy instrument. Therefore, the central bank faces a trade-off between stabilizing inflation in the Nontraded sector and in the home goods sector. In this context, and when the share of non-traded goods is not too high, a simple Taylor rule outperforms a strict inflation-targeting regime. However, both policy rules are dominated by a rule that moves aggressively the interest rate in response to deviation in core inflation. On the other hand, if the share of non-traded goods is high then the model converges to the closed economy case, and, in absence of an exogenous cost push shock, the optimal policy is to completely stabilize consumer price inflation.

Monetary Policy, Real Exchange Rate, and the Current Account in a Small Open Economy

Using a sticky price model for small open economy this paper compares the consequences of two alternative monetary policies over a set of variables. The baseline case assumes a policy rule for the Central Bank that has inflation forecast and output as a target. The alternative policy is a rule that also includes a target for the real exchange rate. The inclusion of a target for the real exchange rate in the policy reaction function of the Central Bank could be important if the monetary authority is concerned about fluctuations in the current account. The results show that the alternative policy can help to reduce the volatility of the external accounts and in some case it can also help to reduce the volatility of the output gap. However, this policy introduces more volatility in inflation and it also makes the convergence of this variable to its steady state level slower.

Exchange Volatility and Risk Premium

This paper empirically evaluates the importance of exchange rate regimes and exchange rate volatility on interest rate differentials, with special reference to Chile. We estimate risk-premia for 16 country experiences with different exchange rate regimes and then investigate whether these premia vary with volatility and the regime flexibility. When we assume that any diversifiable risk is actually traded and estimate a CAPM model augmented by taxes, we find a systematic but small relation between exchange rate volatility and risk-premium. In the case of Chile we do not find any significant impact of changes in exchange rate volatility on CAPM-estimated risk-premium. However, when we consider the overall effect of volatility on risk-premium and estimate an ARCH-M model we find a large effect of volatility on risk-premium in this country. In this set-up, when we analyze the cross-country experience, we do not find any relation between regime flexibility and risk-premium.

Openness and Imperfect Pass-Through: Implications for the Monetary Policy

This paper analyzes the positive and normative implications of the degree of openness of a small economy for the transmission mechanism of monetary shocks. First, we show empirical evidence on the direct relationship between openness and the degree of exchange rate pass-through. Then, we develop a general equilibrium model where countries do not fully specialize according to their comparative advantages. With this framework we show that incomplete specialization makes the pass-through from exchange rate to import prices imperfect. The less open is the country --the less specialized- the lower is the pass-through from exchange rate to import prices. Despite the fact that the pass-through is incomplete and the expenditure switching effect is diminished, the flexible price allocation can still be reached with an inward-oriented monetary policy.

Empirical Regularities of Chilean Business Cycles

This paper documents the empirical regularities characterizing business cycles in Chile in a wide range of economic activities. While the country presents many of the typical features of business fluctuations in OECD countries, Chilean cycles present some striking peculiarities. Trade represents an important part of economic activity as exports move contemporaneously with output and the terms of trade lead the cycle long in advance. Besides, public policies play a significant role in short-run economic fluctuations: government expenditures and monetary policy variables lead the cycle 2 to 3 quarters in advance. Kydland and Prescott's (1990) ``monetary myth'' is alive in Chile.

Large Hoardings of International Reserves: Are They Worth It?

We empirically assess the contribution of international reserves vis- à -vis institutional variables in reducing the risk of a currency crisis. We find that the ratio of reserves to short-term debt is robust in explaining international crisis, even after controlling for financial development and political variables. Based on our estimates on crisis probabilities we compute the optimal level of reserves for a set of East Asian economies and for Chile. The results of this exercise turn out to be very sensitive to the data utilized and to the assumptions regarding the cost of a crisis. For our benchmark estimate we conclude that the current stocks of reserves for most of the cases are consistent with an optimal selfinsurance policy under reasonable assumptions regarding the cost of a crisis.

Oil Shocks and Monetary Policy in an Estimated DSGE Model for a Small Open Economy

This paper analyzes the effects of oil-price shocks from a general equilibrium standpoint. We develop a dynamic stochastic general equilibrium (DSGE) model, estimated by Bayesian methods for the Chilean economy. The model explicitly includes oil in the consumption basket and also in the technology used by domestic firms. With the estimated model we simulate how monetary policy and other variables would respond to an oil-price shock under the policy rule that best describes the behavior of the Central Bank of Chile (CBC). We also simulate the counterfactual responses in a flexible prices and wages equilibrium, and under alternative monetary frameworks. We show that a 13% increase in the real price of oil leads to a fall in output of about 0.5% and an increase in inflation of about 0.4%. The contractionary effect of the oil shock is mainly due to the endogenous tightening of the monetary policy.

Credibility and Inflation Targeting in Chile

In this paper we present new evidence on the recent changes of the inflationary dynamics for the Chilean economy. We show that price rigidity has increased while the degree indexation based on past inflation has decreased over time. We also show that the passthrough from the exchange rate to traded goods inflation has decreased in recent years. We argue that these changes are related to an enhanced credibility of the monetary policy that has improved the tradeoff faced by the Central Bank. Consistently with this hypothesis, we show that the policy rule that characterizes the behavior of the Central Bank of Chile has become more aggressive in fighting inflation deviations from the target, and also more forward-looking.