International Trade Imbalance: The Amplification of Monetary Policy Effects through Financial Markets

Abstract

Based on an uncertainty model with an infinite horizon, this chapter analyzes how financial development and monetary policy in two countries can impact international trade and capital flows and influence individual behavior and welfare. Our study shows that differences in capital market development are the major contributing factors for trade imbalance and investment among countries. We also find that monetary policies are important factors affecting the trade balance, consumption, and investment. Countries with one-sided, pegging exchange rate policies tend to buy more bonds and enjoy larger trade surpluses. This effect is closely related to the level of capital market development: in these two countries, at higher stages of development, the effects of idiosyncratic monetary policy on imbalance are amplified.

Citation

Han, Q., Li, J. and Zhang, J. (2015), "International Trade Imbalance: The Amplification of Monetary Policy Effects through Financial Markets", Monetary Policy in the Context of the Financial Crisis: New Challenges and Lessons (International Symposia in Economic Theory and Econometrics, Vol. 24), Emerald Group Publishing Limited, Leeds, pp. 339-365. https://doi.org/10.1108/S1571-038620150000024021