International Interdependence and Macroeconomic Policy Coordination

Abstract

The global economy is more and more integrated. Not only are countries interconnected by trade in goods and service, but also by trade in financial assets. Many restrictions on international capital flows have been eliminated, so that the world is more and more characterised by one global capital market. The capital markets of many individual countries have thus become integrated in one global market. This means that interest rates through the world move up and down together. Within this setting of international capital movements, we investigate what the appropriate nominal exchange rate regime is. Chapter 8 argued that the answer to this question depends crucially on where the shocks hitting the economy originate from. For example, if most shocks derive from changes in money demand, a regime of fixed nominal exchange rates is most desirable. However, if most of the shocks occur in goods demand, a regime based on a target for nominal national income is desirable, although this poses severe data problems in view of the lags in collecting national income data. In this chapter we are concerned with a related question: what is the scope for international coordination of macroeconomic policies given that a particular exchange rate regime is in force?