Limited asset market participation and monetary policy in a small open economy

Levine, P., McKnight, S., Mihailov, A. ORCID: https://orcid.org/0000-0003-4307-4029 and Swarbrick, J. (2025) Limited asset market participation and monetary policy in a small open economy. Journal of Economic Dynamics and Control, 173. 105047. ISSN 1879-1743 doi: 10.1016/j.jedc.2025.105047

Abstract/Summary

Limited asset market participation (LAMP) and trade openness are crucial features that characterize all real-world economies. We study equilibrium determinacy and optimal monetary policy in a model of a small open economy with LAMP. With low enough participation in asset markets, conventional wisdom concerning the stabilizing benefits of policy inertia can be overturned, irrespective of the constraint of a zero lower bound on the nominal interest rate. In contrast to recent studies, trade openness can play an important stabilizing role in LAMP economies. Optimal monetary policy is derived as a robust timeless rule, where the optimal level of interest-rate inertia depends on the degree of trade openness. The optimal rule is shown to be super- inertial for standard economies, whereas the degree of inertia is significantly lower and not super-inertial for LAMP economies.

Item Type	Article
URI	https://reading-clone.eprints-hosting.org/id/eprint/120371
Identification Number/DOI	10.1016/j.jedc.2025.105047
Refereed	Yes
Divisions	Arts, Humanities and Social Science > School of Politics, Economics and International Relations > Economics
Publisher	Elsevier
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