Although exchange rate fluctuations are generally perceived as mechanisms that resolve the imbalances between countries, the resultant inefficiencies also call for attention. In order for fluctuations to fully resolve cross-border imbalances, they must first have a direct impact on countries’ relative product prices. However, the degree of fluctuation can vary depending on the contract currency in the terms of trade. Accordingly, this study aims to comparatively analyze the macroeconomic implications, in the context of social welfare, of exchange rate fluctuations prompted by diverse monetary policies implemented in response to both internal and external shocks. Given that the degree of fluctuation is contingent on the foreign exchange contract, this study also considers that it may affect how much a currency is reflected in the consumer price. Specifically, countries lacking in key currency, like Korea, are dependent on the foreign exchange rate. This, in turn, gives rise to price rigidity, which ultimately results in price misalignment caused by the differing prices of a product from one country to the next. Additionally, from a foreign consumer’s perspective, the short-term impact of exchange rate fluctuations on the relative price at home and abroad is almost negligible. As such, the expenditure switching decelerates and imbalance is insufficiently resolved.

This study examines the fluctuation of key macroeconomic variables and the exchange rate of three internal and external shocks: domestic productivity, overseas productivity, and overseas interest rate. For monetary policy, domestic inflation targeting, consumer price index price inflation targeting, the Taylor Rule, and the fixed exchange rate system were established as comparisons. Additionally, variations of the settlement currency of domestic companies’ exports were used in the analysis.

The results show that in the wake of the aforementioned shocks, domestic inflation targeting is the most desirable policy as it has the highest impact on social welfare. Although the fixed exchange rate system does not generate inefficiencies that accompany price misalignment, it creates unnecessary price dispersion between domestic products, which nevertheless results in inefficiency. Furthermore, the fixed exchange rate system is futile in reducing the volatility at home as it intertwines the domestic and overseas interest rates. However, by firmly maintaining domestic inflation targeting, inefficiencies that manifest between domestic companies can be effectively curtailed while the GDP gap can be also reduced; of course, the degree may differ based on the type of shock.

Indeed, the above results are generally in line with existing research that call for domestic inflation targeting. This is because, in terms of social welfare, despite the inefficiencies generated by settling payments with international currencies, it is more important to eliminate the inefficiencies created by discrepancies in domestic companies’ production levels and the overall production level of the economy. Also revealed is that, even though it is impossible to totally eliminate inefficiency with exchange rate fluctuations alone, exchange rate fluctuations can significantly resolve imbalances.

Preface
Executive Summary

Chapter 1 Introduction

Chapter 2 Literature Review

Chapter 3 Monetary Policy Analysis
　Section 1 Analytical Model
　Section 2 Efficient Economy
　Section 3 Model Equilibrium
　Section 4 Monetary Policy and Social Welfare
　Section 5 Parameter Settings

Chapter 4 Conclusion

References
Appendix
ABSTRACT