This paper analyzes the impact of the currency mismatch between assets and liabilities on monetary policy. The currency mismatch causes macroeconomic instability through balancesheet effects. To analyze the problem, we apply a small open economy dynamic stochastic general equilibrium model with international credit-market imperfections. As a result, despite the currency mismatch and high trade openness, a targeting rule to address the terms of trade is not efficient. This result depends on the

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... act that the two balance sheet-based channels, a debt-side channel and an asset-side channel, exist. We indicate that stabilization on the asset side is more important for determining monetary policy than is stabilization on the debt side. Therefore, we suggest that authorities in emerging economies adopt a targeting rule to stabilize fluctuations on the asset side.