John Taylor’s Contributions to Monetary Theory and Policy Federal Reserve Bank of Dallas, October 12-13, 2007 Comments on “Globalization and Monetary Policy” Prakash Loungani IMF Thanks for inputs from Doug Laxton, Michael Kumhof & Alasdair Scott at IMF and from John Taylor. They are not to be blamed for any mis-use on my part of these inputs. Views are my own and should not be attributed to the IMF.

Story line and conclusions Taylor: a multilateralist driven to isolationism by the evidence –Carlozzi and Taylor (1985); Taylor (EER 1985) –Work on multi-country models Bullard & Singh paper –Interesting, but doesn’t change my view of the world … yet –And particularly because “benchmark” DSGE models seem to offer reasonable view of the world Clarida paper –CGG made easy; nice exposition –But does it deliver a practical open economy Taylor rule for policy use? Globalization and Monetary Policy: Empirical Evidence –Globalization’s impact on the Phillips Curve: “strong” evidence (hint: it’s based on my own work) –Globalization and the Monetary Transmission Mechanism: still quite mixed, but evidence is pushing in direction of stronger role for open economy factors

Carlozzi and Taylor (1985): studied coordination in 2-country model

Carlozzi and Taylor (1985): found small gains from coordination

More open economies have flatter Phillips curves (1) Source: Loungani, Razin and Yuen, Journal of Development Economics, 2001

More open economies have flatter Phillips curves (2) Source: Loungani, Razin and Yuen, Journal of Development Economics, 2001

More open economies have flatter Phillips curves (3)

Globalization and Monetary Transmission Mechanism (1): Mishkin 2007 What explains the decline in the sensitivity of inflation to domestic output gaps (i.e. flatter Phillips curves)? –Channels: domestic prices less responsive to domestic resource utlization because of access to cheaper imports or lower likelihood of hitting up against supply bottlenecks. Little evidence in favor of these channels (Ihrig et al 2007; Wynne and Kersting 2007) –Anchoring of long-term expectations: households and firms less likely to push for wage and price increases in face of rise in resource utilization (Mishkin 2007)

Globalization and Monetary Transmission Mechanism (2): Mishkin 2007 Are foreign output gaps more important in domestic inflation? –Borio and Filardo 2007 suggest foreign slack more important than domestic slack in explaining domestic inflation. But this conclusion is challenged in other studies Is transmission of monetary policy through exchange rates becoming more potent? –Shocks to domestic demand have smaller impact on output in more open economies because of offsetting movements in the trade balance (Guerrieri, Gust and Lopez-Salido 2007) –Declining correlations between real GDP growth and real domestic demand growth (Ihrig et al 2007)

Conclusions “Closed economy Taylor rule” has served us well for well over a decade Competition for a winning “open economy Taylor rule” is still on –CGG and Clarida paper offer useful theoretical leads –Coordination and indeterminacy are challenging complications “globalization has helped spread a common culture that stresses the benefits of achieving price stability” (Mishkin 2007) –John Taylor’s work has been crucial in spreading that “common culture”. Thank you, John!