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The Great RecessionLessons for Central Bankers$
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Jacob Braude, Zvi Eckstein, Stanley Fischer, and Karnit Flug

Print publication date: 2013

Print ISBN-13: 9780262018340

Published to MIT Press Scholarship Online: January 2015

DOI: 10.7551/mitpress/9780262018340.001.0001

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Policy Response to External Shocks: Lessons from the Crisis

Policy Response to External Shocks: Lessons from the Crisis

Chapter:
(p.211) 8 Policy Response to External Shocks: Lessons from the Crisis
Source:
The Great Recession
Author(s):

Carlos Capistrán

Gabriel Cuadra

Manuel Ramos-Francia

Publisher:
The MIT Press
DOI:10.7551/mitpress/9780262018340.003.0009

Emerging economies have been subject to abrupt reversals in capital flows, which have adverse consequences for economic activity and financial stability. An important question for policymakers is how to respond to a sudden loss of external financing and its negative effects on the domestic economy. The experience of emerging economies throughout the recent financial crisis shows that those economies with relatively better economic fundamentals were able to implement countercyclical policies. This chapter provides a simple analytical framework to rationalize this evidence. In particular, it addresses this issue by developing a small-scale macroeconomic model of the New-Keynesian type. Numerical exercises illustrate how both credible monetary and fiscal policies increase policymakers’ degrees of freedom to respond to adverse external shocks.

Keywords:   Capital flows, Emerging economies, External shocks, Monetary policy, New-Keynesian

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