Discuss the relative importance of different channels of monetary transmission mechanism
Answers
Explanation:
As the globalization is increasing and economies are becoming more and more interdependent, some questions have gained more importance, for example, has globalization changed the inflation determinants? The control of monetary authority over domestic inflation & interest rate has decreased or not? What has happened with the channels of monetary transmission mechanism and has there been any change in their relative importance? Researchers have started to look for these questions. We present results of some papers before we dwell upon our research question. Woodford (2007) highlights variety of factors that might lead to less control of monetary authority on inflation. However, the study concludes that there is little reason to expect that globalization should eliminate or even substantially weaken the influence of domestic monetary policy over domestic inflation. Gudmundsson (2007) focuses on monetary policy transmission mechanism within the economy with respect to financial globalization and concludes that there is some evidence of weakening of interest rate channel and overburdening of exchange rate channel. The study uses Vector Error Correction Model (VECM) and simple correlation matrix. However, the study does not talk about the relative importance of channels of monetary transmission mechanism. There is sizeable literature about the impact of financial globalization on the effectiveness of monetary policy. However, scarce one that focuses on the issue that what has happened to the relative importance of monetary transmission channels within the economy due to financial globalization. Do the channels of monetary policy transmission - interest rate channel, credit channel, asset price channel and exchange rate channel - retain the same order of importance or it has changed due to financial globalization. It is our conjecture that the potency of monetary policy might be at the same level but with the changed relative importance of transmission channels.