Juan Pablo Medina

Optimal Monetary Policy in a Small Open Economy under Segmented Asset Markets and Sticky Prices

This paper studies optimal monetary policy in a two-sector small open economy model under segmented asset markets and sticky prices. We solve the Ramsey problem under full commitment, and characterize the optimal monetary policy in a calibrated version of the model. The findings of the paper are threefold. First, the Ramsey solution mimics the allocations under flexible prices. Second, under the optimal policy the volatility of non-tradable inflation is close to zero. Third, stabilizing nontradable inflation is optimal regardless of the financial structure of the small open economy. Even for a moderate degree of price stickiness, implementing a monetary policy that mitigates asset market segmentation is highly distortionary. This last result suggests that policymakers should resort to other policy instruments in order to correct financial imperfections.

Optimal Monetary Policy and Social Insurance in a Small Open Economy

This paper studies the issue of optimal monetary policy and social insurance in a small open economy model with sticky prices and segmented asset markets. We evaluate whether optimal monetary policy should stabilize inflation to correct distortions associated with price stickiness or if it should provide social insurance (i.e., stabilize consumption) to correct distortions related to segmented asset markets. For an empirically plausible parametrization of these frictions, the optimal monetary policy should focus on stabilizing the inflation rate. This result suggests that providing social insurance with monetary instruments could be highly distortionary in an economy with nominal rigidities.