Do Fixed Exchange Rates Fetter Monetary Policy ? A Credit

The Bernanke-Blinder credit-view model is expanded to encompass a small, open economy with fixed exchange rates. In contrast to conventional wisdom and traditional models, monetary policy is resurrected as a stabilization tool. Further, various financial sector shocks are shown to have real aggregate demand effects. We show that independent monetary policy actions can ha ve substantive impacts on aggregate demand despite perfect capital mobility and adherence to a fixed exchange rate regime. 3 " The problem [with fixed exchange rates or exchange-rate targeting] is that with capital mobility the targeting country no longer can pursue its own independent monetary policy and so loses its ability to use monetary policy to respond to domestic shocks that are independent of those hitting the anchor country. "