The interaction between the basic tools of monetary policy through interest rate and exchange rate channels; and the impact ofthem on the basic factors that represent for VN's economy

Abstract

This paper determines the interaction between the basic tools of monetary policy through interest rate and exchange rate channels; and the impact of them on the basic factors thatrepresent for Vietnam's economy, namely industrial production and consumer price index. In addition, the study also considers how Vietnam's economy is affected by external factors. The study use small size vector auto regression structure model(7 variables), with data by month from 2001.M1 to 2012.M9, including 139 observations. During this period, Vietnam’ economy had many changes, such as establishing the stock market and loosening the control over the capital account transactions.This model is a modification of the small open economy model developed for the G6 economies (the G7 less the United States) by Kim and Roubini (2000). We find no evidence of the puzzles identified in previous literature, and this model provides a reasonable empirical description of important features of the Vietnam macroeconomy. Firstly, the effect of monetary policy on output is unclear and insignificant. The output of Vietnam still depends heavily on the intrinsic value. Secondly, interest rate and exchange rate channelshave small role on the domestic economy, even less than the effect of external factors (World oil price and Federal Fund Rate). Moreover, the exchange rate channelhas higher impact than interest rate. Thirdly, the study also finds an important role for the growth of money supply variable in Vietnam’s economy, especially in inflation. Finally, Vietnam, a small economy and relative openness, is now in the process of integration into the global economy, so that monetary policy is quite sensitive to foreign factors. Even the foreign elements also have a strong influence over domestic monetary policy. It also suggests that the transmission channels of monetary policy in Vietnam is not effective, because of the structure of the economy and financial depth.