What Does the Taylor Rule Say About New Zealand-Australia Currency Union?

It has been suggested that the New Zealand economy may have similar characteristics and face similar shocks to some Australian states, so lowering the costs of a trans-Tasman currency union.

We test this, under the assumption that differences in Taylor rule-implied interest rate paths for different regions give an indication of differences in aggregate shocks that hit different economies. We compare implied Taylor rule interest rates for each of the Australian states to implied Taylor rule rates for New Zealand. We also compare them to realised 90-day rates.

We find that the Taylor rule-implied rates in Australian states and in New Zealand are similarly correlated with actual Australian interest rates.

Citation

Björksten, Nils; Özer Karagedikli, Christopher Plantier and Arthur Grimes. 2004. "What Does the Taylor Rule Say About New Zealand-Australia Currency Union?" Economic Record, 80:1, pp. S34-S42.