Monetary policy inertia: case of Jordan

ISSN： 0144-3585

Source： Journal of Economic Studies, Vol.38, Iss.2, 2011-05, pp. : 144-155

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Abstract

Purpose - The purpose of this paper is to examine the inertia of monetary policy in the Jordanian economy, in which the monetary policy is neutral owing to the adoption of a fixed exchange rate with the US dollar. The question of the current paper is: Does monetary policy inertia exist in such an economy despite the fact that the exchange rate is pegged to a foreign currency? Design/methodology/approach - To test the hypothesis of the current paper in Jordan, the Taylor rule, adjusted to be consistent with the context of monetary policy in Jordan, is estimated. Moreover, the model is estimated by two techniques: OLS and the Kalman filter, using quarterly data over the period (1994:1-2007:1). Findings - The empirical evidence from the Jordanian economy shows that monetary policy inertia is highly significant in Jordan. The coefficient of the lagged interest rate is estimated to lie between 0.60 and 0.69. Moreover, the evidence illustrates that both inflation rate and output gap have an insignificant effect on setting the policy rate. Further, the policy interest rate seems to be set gradually in reaction to monetary policy inertia, unobserved variable and foreign interest rate. Originality/value - The paper investigates monetary policy inertia in a developing country whose economy is small, widely open and has a fixed exchange rate with the US dollar.