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  • Cited by 1
  • Print publication year: 2003
  • Online publication date: September 2012

5 - New open-economy macroeconomics

Summary

This chapter surveys the recent literature on ‘new’ open-economy macroeconomics. This literature, stimulated primarily by the seminal work of Obstfeld and Rogoff (1995, 1996), reflects the attempt by researchers to formalise exchange rate determination in the context of dynamic general equilibrium models with explicit microfoundations, nominal rigidities and imperfect competition.

The main objective of this research programme is to develop a new workhorse model for open-economy macroeconomic analysis. Relative to most of the more traditional models of exchange rate determination which we discussed in the last chapter, notably the Mundell–Fleming model, the sticky-price and flexible-price monetary models and the portfolio balance model, the new open-economy models seek to offer a more rigorous analytical foundation based on fully specified microfoundations. On the other hand, however, the main virtue of the more traditional models is their simpler analytical structure, which makes them easier to discuss and use in applied policy analysis. Moreover, because the predictions of new open-economy models are often quite sensitive to the particular specification of the microfoundations, policy evaluation and welfare analysis are usually dependent on the particular specification of preferences and nominal rigidities. In turn, this generates a need for the profession to agree on the ‘correct’, or at least ‘preferable’, specification of the microfoundations. The counter-argument would be that the traditional models achieve their analytical simplicity by making a number of implicit assumptions which are simply made more specific in new open-economy models, thereby allowing economists to scrutinise them more carefully.

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