1. Globalization and Enhanced Anti-Inflation Policy
Alon Binyamini and Assaf Razin, 2007

2. The Road Map Globalization >> flattened PC.
Globalization >> more conservative CB.
Globalization >> more aggressive anti-inflation policy.
Equilibrium inflation and GDP gap paths.
Implications.

3. 1. Introduction Stylized facts: Background literature:
Substantial decrease of inflation – world wide.
Flattening of the Phillips curve.
A massive globalization process.
Emerging markets become significantly more open.
Financial liberalization.
Increased cross-county labor flows.
Are these trends linked to each other?
Background literature:
Globalization & the New-Keynesian Phillips curve (Razin and Yuen, 2002).
Empirical evidence (Roberts, 2006; Williams, 2006; Ihrig et al. forthcoming).

4. 2. The paper’s main propositions:
Globalization flattens the inflation-output tradeoff.
The effect of open trade account (Razin & Yuen, 2002).
The effect of capital flows (Razin & Yuen, 2002).
The effect of labor migration.
Globalization induces more conservative CB.
Flatter PC + CB conservatism >> aggressive anti-inflation policy.
Equilibrium outcomes:
More stable inflation, given shocks.
More volatile output gap given shocks.

5. Three dimensions of globalization
Good market globalization.
Share of domestic prices < 1 .
>> domestic activity & CPI…
Financial market globalization.
Consumption smoothness.
>> no income affect.
Labor market globalization.
Exogenous wage demand.
>> only MPL affects.
MC and
inflation

6. 3. Flattening of the PC
3.1 Perfect International Mobility of goods, Capital & Labor
(10)
In each successive step – we close one market.

7. 3.2 Perfect International Mobility of goods & Capital, with no Labor Mobility
(11)
<

8. 3.3 Perfect International Mobility of goods, with no Capital Mobility & no Labor Mobility
(12)
<
<
Permanent income not always consumable >>
Consumption (=domestic output) not perfectly smoothed >>
Shifts the labor supply

9. (13) < < 3.4 Closed economy
With trade – specialized production & diversified consumption>>
CPI inflation is driven by domestic + imported inflation >>
In closed economy, the share of domestic inflation is 100% (n=1).

10. The slope Fully Fully open Closed Role for imported inflation.
Flexible labor supply.
Smoother consumption >>
Smoother labor-supply fluctuations .

11. 4. Utility Based loss function (à la Woodford…)
Desirable:
Consumption smoothing >> min var(x)
Equal labor-division >> min var (inflation)

12. Effect of globalization on CB loss function
(14) , ;
Fully
open
Fully
Closed
Fully
open
Fully
Closed

13. (14) But, what is the story?: Fully open Fully Closed
Smaller output-consumption correlation
Permanent income an
GDP vs. GNP…
Smaller correlation

14. Aggregate demand equation
Substitute
and
into the Euler condition, to get:
(15)
Where:

15. 5. Optimal policy rule
(17)

16. 6. Equilibrium equations
(15)
(17)
More open >> more anti-inflation aggressive CB:
The welfare criteria.
Killing is costly >> kill ASAP.
Some intuition for the complex interactions, before the analytical solution.
The transmission mechanism of monetary policy.
More aggressive but weaker transmition >> ?
The expectation channel

17. Equilibrium equations (Cont’)
Substitute the
policy rule and get:
(22)

18. Equilibrium equations (cont’)
(23)
Assume:
By the
transversality
condition:
; F is undetermined
(matrix of) coefficient.
Solution of F:
Substitute the guess
Solve for F (in terms of the structural parameters).

19. Solution

20. Impulse response Parameterization

21. Impulse response of inflation to serially correlated cost-push shock:

22. Impulse response of output gap to serially correlated cost-push shock:

23. Sacrifice Ratios and openness restrictions
Some empirical evidence
Empirical problems. Yet some intuition.
From Loungani and Razin (2005)

24. Future Extension Interactions between: Real-exchange rate.
&
Real-interest rate.
Policy implication not obvious!

25. Mundell-Flemin model vis-à-vis New-Keynesian model
MF (level & RoC):
NK (2 RoCs):
Hats for log deviation from flex-price benchmark
In both cases – volatile risk premium
Fundamental assumption in In MF – Ex-Ante PPP
Stationarizing by pre-filtering to estimate MF
Unobserved component in NK >>
set NK model
generate time series by stochastic simulation
compare model-based to observed moments (Smeta & Wouters, 2003)

26. 7. Conclusion A unified NK analysis showing that: Ignored:
Globalization flattens the AS.
And increases optimal conservatism.
>> more aggressive policy.
>> equilibrium outcome:
More stable inflation.
More volatile output gap.
Ignored:
Interaction of globalization forces and:
The flex-price markup.
Productivity.
Degree of nominal frictions.
The RER channel.

27. The End
Thank you