This paper studies the effect of US monetary policy shocks on the inflation rate of emerging markets, differentiating for the exchange rate regime (peg or floating) and for the potential adoption of inflation targeting. The empirical analysis uses the local projection method on a sample of 27 countries; the theoretical analysis is based on a New Keynesian model for a small open economy, with export prices denominated in foreign currency.
The estimates show that the inflation response of emerging markets to a sudden rise in the US interest rate depends on the monetary policy framework: inflation rises in countries with a floating exchange rate regime without inflation targeting, it decreases in countries with a peg regime, it does not react in inflation targeters. The theoretical model is consistent with these results and shows that a peg exchange rate regime yields the lowest level of welfare.
Forthcoming in: Journal of International Economics.
