Monetary policy and exchange rate in a small open economy: an empirical analysis for Brazil

• Published in: Nova economia (Belo Horizonte, Brazil) Vol. 27; no. 2; p. 119
• Main Author: Palma, Andreza Aparecida
• Format: Journal Article
• Language: Portuguese
• Published: Belo Horizonte Universidade Federal de Minas Gerais, Departamento de Ciências Econômicas 01-05-2017
• Subjects: Central banks; Economic models; Economic theory; Economics; Foreign exchange rates; Inflation; Monetary policy; Brazil
• ISSN: 0103-6351; 1980-5381
• DOI: 10.1590/0103-6351/2967

The objective of this study is to verifyhow monetary policy responds to exchange rate shocks in Brazil underinflation targeting regime, by considering thetwo-way relationship between these variables (monetary policy and exchange rate).Following Bjørnland and Halvorsen (2014), we estimate a structural VAR model that is identified by a combination of sign and short-term (zero) restrictions (Cholesky-sign decomposition). The results obtained show that there is an important and significant response of monetary policy to exchange rate shocks. The response of monetary policy is immediate, which leads us to conclude that neglecting the contemporary interaction between these variables may lead to inaccurate results.Furthermore, there was no significant evidence of any puzzle in response of the exchange rate and inflation to monetary policy shocks.