Bayesian Estimation of a Medium-Scale DSGE Model of China

Abstract

This paper estimates a medium-scale DSGE model of China for analysis of its economy and monetary policy. The model features a variety of frictions in a new Keynesian framework as well as seven exogenous shock processes. We elicit priors tailored to the Chinese economy and use a Bayesian approach to obtain posterior estimates of model parameters and shock processes. The parameter estimates and response of key variables to exogenous shocks are consistent with the literature and economic theory, and suggest China has a higher steady state growth rate and higher nominal rigidities than the U.S.. Motivated by empirical evidence of exchange rate manipulation, we introduce an alternative model specification with an exchange rate-augmented monetary policy rule and compare it with the baseline, which features a canonical Taylor-type rule. Results suggest the exchange rate-augmented model specification is highly unlikely compared to the baseline and exchange rate targeting does not play a role in China’s monetary policy.