Definition
Mundell-Fleming Model
The Mundell-Fleming model analyses how fiscal and monetary policy work in an open economy under different exchange-rate regimes, and underlies the impossible-trinity insight.
The model shows that under a floating rate, monetary policy is powerful but fiscal policy is weakened (currency moves offset it), while under a fixed rate the reverse holds. It formalises the trade-offs of open-economy policy.
It is the theoretical backbone of the impossible trinity, explaining why India cannot simultaneously fix the rupee, open capital flows fully and keep independent rate-setting. The RBI's policy mix reflects these constraints.
Related terms
- Fiscal PolicyFiscal policy is the government's use of taxation and spending decisions, set out mainly in the Union Budget, to influence the economy.
- Floating Exchange RateA floating exchange rate is determined freely by currency-market supply and demand, with little or no central-bank intervention to fix its level.
- Trilemma (Impossible Trinity)The impossible trinity states that a country cannot simultaneously have a fixed exchange rate, free capital movement and an independent monetary policy; it can pick only two.
- Currency PegA currency peg fixes a currency's exchange rate to another currency or basket, requiring the central bank to buy or sell reserves to defend the chosen level.
Plain-English explainer from The Dispatch Investors Encyclopedia. General information, not financial advice.