Vertically globalized production structure in New Keynesian Phillips curve

Abstract

This paper revisits the hypothesis that globalization may weaken central bank's monetary control by analyzing the potential effect of vertically globalized production structure that increasingly permeates the international production process on domestic macroeconomic dynamics under the foreign disturbances of productivity, demand, and inflation. We do so through the lens of New Keynesian model with Calvo-type staggered price setting and production function that uses foreign intermediate inputs. We find that central bank has to confront a policy tradeoff between stabilizing inflation and real output as exchange rates have transformed aforementioned foreign disturbances into domestic supply shocks channeled thorough real marginal cost.