IDENTIFYING MONETARY-POLICY IN A SMALL OPEN-ECONOMY UNDER FLEXIBLE EXCHANGE-RATES

Previous empirical study on the effects of monetary policy shocks in s mall open economies has generated puzzling dynamic responses in variou s macroeconomic variables. This paper argues that these puzzles derive from an identification of monetary policy that is inappropriate for s uch economies. To remedy this, it is proposed that a structural model be estimated to explicitly account for the features of the small open economy. Such a model is applied to Canada with tightly estimated resu lts overall, The dynamic responses to the identified monetary policy s hock are consistent with standard theory and highlight the exchange ra te as a transmission mechanism.