3[Title of Working Paper: Subtitle (As Needed)]
Working Paper No. [WP/YYYY/###]
exchange rate regime, the level of financial development and the degree of central bank transparency) as well as the
state of economy (the level of uncertainty and financial stress, and GDP growth), the sign of the monetary policy
shocks (expansionary vs. contractionary) and the complementarity with fiscal policy.
The results provide several insights about the monetary policy transmission into output and prices. First, on average,
following a 100 bps monetary policy shocks, real GDP declines by 0.3 percent within two quarters and the effects
remain persistent through 8 quarters. As expected, the response of consumer prices materializes slower than real
GDP, with the effects being significant only after the second quarter and reaching its peak around the sixth quarter.
The significance, size, and the pace of the impulse responses are robust to various specifications on how the shocks
are generated and when controlling for fiscal policy and exchange rate changes.
The transmission does not vary substantially across different income levels of countries, with average output and
prices responses of 0.2 percent and 0.4 percent in advanced economies and 0.4 percent and 0.2 percent in emerging
market economies at their peak within 8 quarters. Across regions, the monetary policy transmission to real GDP is
the highest in Asian economies, followed by European and Western Hemisphere economies, whereas price responses
are stronger in European economies compared to others, with the weakest transmission in Asian economies.
Focusing on the role of exchange rate channel in monetary policy transmission, we classify countries into two groups
based on their exchange rate regimes using the Ilzetzki, Reinhart, and Rogoff (2019) classifications. We document
that output responds significantly less in fixed exchange rate regime countries. The results support the argument that
muted exchange rate fluctuations following a monetary policy tightening close the expenditure switching channel
and generate a limited response in output to monetary policy shocks. Transmission into prices is also weaker in fixed
exchange rate regime group, due to weaker responses in output and the absence of secondary effects through the
exchange rate pass-through.
We then use complementary approaches to examine how the monetary policy transmission depends on the state of
the economy. We document that monetary policy is more effective in countries with higher levels of financial
development, which may reflect that credit channel operates more effectively in economies with more advanced
financial systems. The credibility and transparency of a central bank also play a key role in the transmission of
monetary policy: We find that central banks that are more transparent typically have a stronger impact on prices, due
to their substantial influence over inflation expectations, with clear and credible policies helping to anchor public and
market expectations about future inflation rates.
