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We investigate the response of aggregate demand (AD) components and inflation to monetary policy (MP) shocks in the Tunisian context where studies on this issue are rare. By estimating SVAR models on historical data ending in 2021, we found that: i) The Tunisian Central Bank's (TCB) efforts to control inflation through interest rate tightening end up significantly slowing down private investment and consumption, while inflation response is not enough to mitigate the recently exacerbated inflationary trend; ii) Such efforts are hampered, if not outweighed, by the "pass-through" effect associated with exchange-rate continued depreciation; iii) The interest rate is Granger-caused by the exchange rate rather than the inflation rate, suggesting that de jure and de facto objectives of the TCB are divergent; and iv) The continued exchange rate depreciation alone is not enough to address the structural trade deficit. In light of these findings, we suggest that i) The transition from a discretionary MP to a rule-based inflation-targeting MP and with a well-defined role for the exchange rate, would help TCB gain credibility and improve efficiency of its MP; and ii) Tunisian policymakers should also consider consolidating MP in achieving its price stabilization objective particularly through implementing "supply-side policy" actions aiming at promoting economic growth and addressing unsustainable fiscal and external imbalances. [ABSTRACT FROM AUTHOR]

Abstract: In a simple linear rational expectations model in which monetary authorities act to stabilize the exchange rate and also to mitigate adverse effects on real activity, a rise in interest rate is followed by exchange rate depreciation. In daily data across VAR and VECM models a rise in interest rate is associated with significant exchange rate depreciation for Thailand, the Philippines, and Korea. Depreciation and increases in the interest rate raise business failures that intensify crisis. Crisis management of the exchange rate must consider damaging effect of restrictive policy on financially constrained banking sector and non-financial firms. [Copyright &y& Elsevier]