## OPEN-ECONOMY MARKET: Model Calibration

We base our calibration of our model’s preference parameters on Fuhrer’s (1998) estimates. Accordingly, we set the intertemporal elasticity of substitution, a, to 1/6 (a value which is also close to our estimate in McCallum and Nelson [1998]) and h to 0.8. The IS shocks {v,} are assumed to be white noise (pv = 0) and we set their variance cr^,2 to Fuhrer’s estimate of (0.011)2. We assign P the conventional value of 0.99.

We report results in the next section for both closed and open-economy versions of our model. The closed-economy version sets (C^/J**) = 1, (EX^/Y5*) = 0 in (6.10), and со = 0 in (6.6). The open-economy version sets (C55/^”) = 0.89, (£X*7l**) = 0.11, (Q^IM^/Y™) = 0.12, and Vi = -2. Our choice of vj was motivated primarily by the need for an elasticity of substitution in production, 1/(1 – Vi), that does not generate excessive variability, via the real exchange rate, in у,. The coefficient 8i in (5.12) is equal to the steady-state markup, 0/(0—1), multiplied by the steady state share of imports (in domestic output units) in GDP, Q^Uvf^Y55.

We set 0 = 6, following Ireland (1997). These choices imply 8i = 0.144 and со = 0.048. As in our previous paper (McCallum and Nelson [1998]) we set the aggregate supply parameter ф in (6.11) to 0.89.

We assume that the logs of both foreign output and the technology shock are random walks (pY* = pa = 1). The innovation variance for foreign output is Gey*2 = (0.02)2. Our calibration of the technology innovation variance necessarily differs across the closed and open-economy versions of the model. We set oea2 so that it generates approximately the same amount of variability of Ay, in both closed and open economy models, where this variability is roughly consistent with the standard deviation of Ay , of 0.028 (annualized) that is estimated in McCallum and Nelson (1998).

To this end, we set cea2= (0.007)2 in the closed-economy version of our model and (0.0035)2 in the open-economy version. The export demand function (6.4) is assumed to have income and exchange rate elasticities of 6=1 and r| = 0.333. Finally, we set the risk premium shock parameters pK and cr**2 to 0.50 and (0.04)2, using values suggested by Taylor (1993b, pp. 84 and 114). Electronic Payday Loans Online