Monetary Policy Independence under Flexible Exchange Rates: An Illusion?

NBER Working Paper No. 20893

Issued in January 2015

NBER Program(s):International Finance and Macroeconomics



I analyze whether countries with flexible exchange rates are able to pursue an independent monetary policy, as suggested by traditional theory. I use data for three Latin American countries with flexible exchange rates, inflation targeting, and capital mobility – Chile, Colombia and Mexico – to investigate the extent to which Federal Reserve actions are translated into local central banks’ policy rates. The results indicate that there is significant “policy contagion,” and that these countries tend to “import” Fed policies. The degree of monetary policy independence is lower than what traditional models suggest.

Acknowledgments

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Document Object Identifier (DOI): 10.3386/w20893

Published: Sebastian Edwards, 2015. "Monetary Policy Independence under Flexible Exchange Rates: An Illusion?," The World Economy, vol 38(5), pages 773-787.

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