Does the Optimal Monetary Policy Matter for the Current Account Dynamics

This paper explores how monetary policies affect the current account in a sticky-price intertemporal optimizing model. The paper will investigate whether monetary policy will be effective for current account adjustment in the U.S. with a two-country model. The main issues addressed include: 1) what current ac-count dynamics are generated with technology shocks and monetary shocks in a two-country open economy and 2) how should the monetary authority responds to these shocks to maximize the welfare of the household. Using a nonlinear solution method, we find that the current account dynamics depends on the intertemporal and intratemporal elasticity of substitution, the degree of monopolistic competi-tion, the degree of local currency pricing and the type of shocks. With slow price adjustment, the current account reacts quite efficiently to technology shocks. JEL classification: F32,F4