nep-cba New Economics Papers
on Central Banking
Issue of 2006‒12‒04
fifty papers chosen by
Alexander Mihailov
University of Reading

  1. Firm-Specific Capital and the New Keynesian Phillips Curve By Woodford, Michael
  2. Monetary Policy with Judgment: Forecast Targeting By Svensson, Lars O
  3. Optimal Policy Projections By Svensson, Lars O; Tetlow, Robert J
  4. Non-Robust Dynamic Inferences from Macroeconometric Models: Bifurcation Stratification of Confidence Regions By Barnett, William A.; Duzhak, Evgeniya
  5. Existence of bifurcation in macroeconomic dynamics: Grandmont was right By He, Yijun; Barnett, William
  6. Committees Versus Individuals: An Experimental Analysis of Monetary Policy Decision Making By Lombardelli, Clare; Proudman, James; Talbot, James
  7. Globalisation and Inflation in the OECD Economies By Nigel Pain; Isabell Koske; Marte Sollie
  8. Targeting Rules with Intrinsic Persistence and Endogenous Policy Inertia. By Michael S. Hanson; Pavel Kapinos
  9. Varying Monetary Policy Regimes: A Vector Autoregressive Investigation By Michael S. Hanson
  10. Time-Varying Exchange Rate Exposure and Exchange Rate Pass-Through By Kizys, Renatas; Pierdzioch, Christian
  11. Linking Real Activity and Financial Markets: The Bonds, Equity, and Money (BEAM) Model By Céline Gauthier; Fu Chun Li
  12. Uncovering the Hit-list for Small Inflation Targeters: A Bayesian Structural Analysis By Timothy Kim; Kirdan Lees; Philip Liu
  13. Dollar Shortages and Crises By Rajan, Raghuram G.; Tokatlidis, Ioannis
  14. Global Bond Portfolios and EMU By Lane, Philip R
  15. What Firms' Surveys Tell Us about Price-Setting Behavior in the Euro Area By Fabiani, Silvia; Druant, Martine; Hernando, Ignacio; Kwapil, Claudia; Landau, Bettina; Loupias, Claire; Martins, Fernando; Matha, Thomas; Sabbatini, Roberto; Stahl, Harald; Stokman, Ad
  16. A Joint Test of Price Discrimination, Menu Cost and Currency Invoicing By Gervais, Jean-Philippe; Larue, Bruno
  17. The Sustainability of Budget Deficits in an Inflationary Economy By Harashima, Taiji
  18. Long-term labour productivity and GDP projections for the EU25 Member States : a production function framework By Carone, Giuseppe; Denis, Cécile; Mc Morrow, Kieran; Mourre, Gilles; Röger, Werner
  19. What Explains the Varying Monetary Response to Technology Shocks in G-7 Countries? By Francis, Neville R; Owyang, Michael T; Theodorou, Athena T
  20. Pasado, presente y futuro del fondo monetario internacional By Galindo Lucas, Alfonso
  22. Downward wage rigidity in Italy: micro-based measures and implications By Maida Agata; Devicienti Francesco; Sestito Paolo
  23. Monetary Policy Neglect and the Great Inflation in Canada, Australia, and New Zealand. By Nelson, Edward
  24. Is Price Flexibility De-Stabilizing? A Reconsideration By Malik, Hamza; Scarth, William
  25. Monetary-Exchange Rate Policy and Current Account Dynamics By Malik, Hamza
  26. Price Level vs. Nominal Income Targeting: Aggregate Demand Shocks and the Cost Channel of Monetary Policy Transmission By Malik, Hamza
  28. How Should Monetary Policy Respond to Asset-Price Bubbles? By Gruen, David; Plumb, Michael; Stone, Andrew
  29. Reversibility of Different Types of Capital Flows to Emerging Markets By Sula, Ozan; Willett, Thomas D.
  30. Surges and Sudden Stops of Capital Flows to Emerging Markets By Sula, Ozan
  31. Understanding the Backus-Smith Puzzle: It’s the (Nominal) Exchange Rate, Stupid By Hess, Gregory; Shin, Kwanho
  32. Comparing Models of Macroeconomic Fluctuations: How Big Are the Differences? By Ghent, Andra
  34. Purchasing Power Parity: The Irish Experience Re-visited By Derek Bond; Michael J. Harrison; Edward J. O'Brien
  35. Structural Effects of a Real Exchange Rate Revaluation in China: A CGE Assessment By Willenbockel, Dirk
  36. Can We Explain the Long-Term Real Equilibrium Exchange Rates through Purchasing Power Parity (PPP)?: An Empirical Investigation (1965 – 1995) By Feridun, Mete
  37. Factor Model Forecasts for New Zealand By Matheson, Troy D
  38. How sustainable are current account deficits in selected transition economies? By Aristovnik, Aleksander
  39. Monetary Policy before Euro Adoption: Challenges for EU New Members By Filacek, Jan; Horvath, Roman; Skorepa, Michal
  40. Romania: From the quantitative monetary aggregates to inflation targeting By Voicu, Ionut Cristian; Constantin, Floricel
  41. Financial Accelerator Effects in the Balance Sheets of Czech Firms By Horvath, Roman
  42. INFLATION TARGETING IN EMERGING COUNTRIES: THE CASE OF BRAZIL By Philip Arestis; Luiz Fernando de Paula; Fernando Ferrari-Filho
  44. REGRA DE TAYLOR NO BRASIL: 1999-2005 By João José Silveira Soares; Fernando de Holanda Barbosa
  45. THE NATURAL RATE OF INTEREST IN BRAZIL BETWEEN 1999 AND 2005 By Paulo Chananeco F. de Barcellos Neto; Marcelo Savino Portugal
  46. Inflation Targeting in an Emerging Market: the Case of Korea By Michael S. Hanson; Kwanghee Nam
  47. Economic Impact of Capital Flight from Russia and its Institutional Context: Why Capital Controls cannot be a Part of a Pro-Growth Policy (updated version). By Kadochnikov, Denis
  49. Elasticidades de Sustitución de Importaciones para Ecuador By González, Manuel; Wong, Sara

  1. By: Woodford, Michael
    Abstract: A relation between inflation and the path of average marginal cost (often measured by unit labor cost) implied by the Calvo (1983) model of staggered pricing – sometimes referred to as the "New Keynesian" Phillips curve – has been the subject of extensive econometric estimation and testing. Standard theoretical justifications of this form of aggregate-supply relation, however, either assume (1) the existence of a competitive rental market for capital services, so that the shadow cost of capital services is equated across firms and sectors at all points in time, despite the fact that prices are set at different times, or (2) that the capital stock of each firm is constant, or at any rate exogenously given, and so independent of the firm’s pricing decision. But neither assumption is realistic. The present paper examines the extent to which existing empirical specifications and interpretations of parameter estimates are compromised by reliance on either of these assumptions. The paper derives an aggregate-supply relation for a model with monopolistic competition and Calvo pricing in which capital is firm specific and endogenous, and investment is subject to convex adjustment costs. The aggregate-supply relation is shown to again take the standard New Keynesian form, but with an elasticity of inflation with respect to real marginal cost that is a different function of underlying parameters than in the simpler cases studied earlier. Thus the relations estimated in the empirical literature remain correctly specified under the assumptions proposed here, but the interpretation of the estimated elasticity is different; in particular, the implications of the estimated Phillips-curve slope for the frequency of price adjustment is changed. Assuming a rental market for capital results in a substantial exaggeration of the infrequency of price adjustment; assuming exogenous capital instead results in a smaller underestimate.
    JEL: G00 G0
    Date: 2005–02–08
  2. By: Svensson, Lars O
    Abstract: Monetary Policy with Judgment: Forecast Targeting by Lars E O Svensson Princeton University Abstract "Forecast targeting", forward-looking monetary policy that uses central-bank judgment to construct optimal policy projections of the target variables and the instrument rate, may perform substantially better than monetary policy that disregards judgment and follows a given instrument rule. This is demonstrated in a few examples for two empirical models of the U.S. economy, one forward looking and one backward looking. A complicated infinite-horizon central-bank projection model of the economy can be closely approximated by a simple finite system of linear equations, which is easily solved for the optimal policy projections. Optimal policy projections corresponding to the optimal policy under commitment in a timeless perspective can easily be constructed. The whole projection path of the instrument rate is more important than the current instrument setting. The resulting reduced-form reaction function for the current instrument rate is a very complex function of all inputs in the monetary-policy decision process, including the central bank’s judgment. It cannot be summarized as a simple reaction function such as a Taylor rule. Fortunately, it need not be made explicit.
    Keywords: Inflation targeting; optimal monetary policy; forecasts
    JEL: G00 G0
    Date: 2005–02–08
  3. By: Svensson, Lars O; Tetlow, Robert J
    Abstract: We outline a method to provide advice on optimal monetary policy while taking policymakers’ judgment into account. The method constructs optimal policy projections (OPPs) by extracting the judgment terms that allow a model, such as the Federal Reserve Board staff economic model, FRB/US, to reproduce a forecast, such as the Greenbook forecast. Given an intertemporal loss function that represents monetary policy objectives, OPPs are the projections — of target variables, instruments, and other variables of interest — that minimize that loss function for given judgment terms. The method is illustrated by revisiting the economy of early 1997 as seen in the Greenbook forecasts of February 1997 and November 1999. In both cases, we use the vintage of the FRB/US model that was in place at that time. These two particular forecasts were chosen, in part, because they were at the beginning and the peak, respectively, of the late 1990s boom period. As such, they differ markedly in their implied judgments of the state of the world in 1997 and our OPPs illustrate this difference. For a conventional loss function, our OPPs provide significantly better performance than Taylor-rule simulations.
    JEL: G00 G0
    Date: 2005–08–08
  4. By: Barnett, William A.; Duzhak, Evgeniya
    Abstract: Grandmont (1985) found that the parameter space of the most classical dynamic models are stratified into an infinite number of subsets supporting an infinite number of different kinds of dynamics, from monotonic stability at one extreme to chaos at the other extreme, and with all forms of multiperiodic dynamics between. The econometric implications of Grandmont’s findings are particularly important, if bifurcation boundaries cross the confidence regions surrounding parameter estimates in policy-relevant models. Stratification of a confidence region into bifurcated subsets seriously damages robustness of dynamical inferences. But Grandmont provided his result with a model in which all policies are Ricardian equivalent, no frictions exist, employment is always full, competition is perfect, and all solutions are Pareto optimal. Hence he was not able to reach conclusions about the policy relevance of his dramatic discovery. As a result, Barnett and He (1999, 2001, 2002) investigated a Keynesian structural model, and found results supporting Grandmont’s conclusions within the parameter space of the Bergstrom-Wymer continuous-time dynamic macroeconometric model of the UK economy. That highly regarded, prototypical Keynesian model was produced from a system of second order differential equations. The model contains frictions through adjustment lags, displays reasonable dynamics fitting the UK economy’s data, and is clearly policy relevant. Criticism of Keynesian structural models by the Lucas critique have motivated development of Euler equations models having policy-invariant deep parameters, which are invariant to policy rule changes. Hence, Barnett and He (2006) chose to continue the investigation of policy-relevant bifurcation by searching the parameter space of the best known of the Euler equations macroeconometric models: the Leeper and Sims (1994) model. The results further confirm Grandmont’s views. Even more recently, interest in policy in some circles has moved to New Keynesian models. As a result, in this paper we explore bifurcation within the class of New Keynesian models. We develop the econometric theory needed to locate bifurcation boundaries in log-linearized New-Keynesian models with Taylor policy rules or inflation-targeting policy rules. Empirical implementation will be the subject of a future paper, in which we shall solve numerically for the location and properties of the bifurcation boundaries and their dependency upon policy-rule parameter settings. Central results needed in this research are our theorems on the existence and location of Hopf bifurcation boundaries in each of the cases that we consider. We provide the proofs of those propositions in this paper. One surprising result from these proofs is the finding that a common setting of a parameter in the future-looking New-Keynesian model can put the model directly onto a Hopf bifurcation boundary. Beginning with Grandmont’s findings with a classical model, we continue to follow the path from the Bergstrom-Wymer policy-relevant Keynesian model, then to the Euler equation macroeconomic models, and now to the New Keynesian models. So far, all of our results suggest that Barnett and He’s initial findings with the policy-relevant Bergstrom-Wymer model appear to be generic.
    Keywords: Bifurcation; inference; dynamic general equilibrium; Pareto optimality; Hopf bifurcation; Euler equations; New Keynesian macroeconometrics; Bergstrom-Wymer model
    JEL: E61 C13 E32 E37 C3
    Date: 2006–10–02
  5. By: He, Yijun; Barnett, William
    Abstract: Grandmont (1985) found that the parameter space of the most classical dynamic general-equilibrium macroeconomic models are stratified into an infinite number of subsets supporting an infinite number of different kinds of dynamics, from monotonic stability at one extreme to chaos at the other extreme, and with all forms of multiperiodic dynamics between. But Grandmont provided his result with a model in which all policies are Ricardian equivalent, no frictions exist, employment is always full, competition is perfect, and all solutions are Pareto optimal. Hence he was not able to reach conclusions about the policy relevance of his dramatic discovery. As a result, Barnett and He (1999, 2001, 2002) investigated a Keynesian structural model, and found results supporting Grandmont’s conclusions within the parameter space of the Bergstrom-Wymer continuous-time dynamic macroeconometric model of the UK economy. That prototypical Keynesian model was produced from a system of second order differential equations. The model contains frictions through adjustment lags, displays reasonable dynamics fitting the UK economy’s data, and is clearly policy relevant. In addition, initial results by Barnett and Duzhak (2006) indicate the possible existence of Hopf bifurcation within the parameter space of recent New Keynesian models. Lucas-critique criticism of Keynesian structural models has motivated development of Euler equations models having policy-invariant deep parameters, which are invariant to policy rule changes. Hence, we continue the investigation of policy-relevant bifurcation by searching the parameter space of the best known of the Euler equations general-equilibrium macroeconometric models: the Leeper and Sims (1994) model. We find the existence of singularity bifurcation boundaries within the parameter space. Although never before found in an economic model, our explanation of the relevant theory reveals that singularity bifurcation may be a common property of Euler equations models. These results further confirm Grandmont’s views. Beginning with Grandmont’s findings with a classical model, we continue to follow the path from the Bergstrom-Wymer policy-relevant Keynesian model, to New Keynesian models, and now to Euler equations macroeconomic models having deep parameters. Grandmont was right.
    Keywords: Bifurcation; inference; dynamic general equilibrium; Pareto optimality; Hopf bifurcation; Euler equations; Leeper and Sims model; singularity bifurcation; stability
    JEL: E37 C1 E32 C32 E10 E60
    Date: 2006–11–08
  6. By: Lombardelli, Clare; Proudman, James; Talbot, James
    Abstract: We report the results of an experimental analysis of monetary policy decision making under uncertainty. A large sample of economics students played a simple monetary policy game, both as individuals and in committees of five players. Our findings - that groups make better decisions than individuals - accord with previous work by Blinder and Morgan. We also attempt to establish why this is so. Some of the improvement is related to the ability of committees to strip out the effect of bad play, but there is a significant additional improvement, which we associate with players learning from each other’s interest rate decisions.
    Keywords: Monetary policy; experimental economics; central banking; uncertainty
    JEL: G00 G0
    Date: 2005–02–08
  7. By: Nigel Pain; Isabell Koske; Marte Sollie
    Abstract: Over the past 25 years inflation has moderated considerably in all OECD economies. At the same time, the production of many goods and services has become increasingly internationalised and the level of trade between the OECD and non-OECD economies has risen markedly. This paper investigates the extent to which the observed changes in the inflation process can be attributed to the increasing integration of non-OECD economies into the global economy. The results of the analysis show that i) import prices have become a more important driver of domestic consumer prices since the mid-1990s; ii) the sensitivity of inflation to domestic economic conditions has declined whereas the sensitivity to foreign economic conditions has risen, working through import prices; and iii) the strong GDP growth in the non-OECD economies over the past five years has contributed to the growth of real oil and metals prices. A scenario analysis shows that globalisation has put upward pressure on inflation via higher commodity prices and downward pressure via lower non-commodity import prices with the latter effect having dominated in most OECD economies. <P>Mondialisation et inflation dans les économies de l'OCDE <BR>Au cours des 25 dernières années, l’inflation a considérablement diminué dans toutes les économies de l'OCDE. Pendant ce temps, la production de nombreux biens et services est devenue de plus en plus internationalisée et le niveau du commerce entre les pays de l'OCDE et les pays non membres a sensiblement augmenté. Ce papier étudie dans quelle mesure les changements observés dans le mécanisme d'inflation peuvent être attribués à l'intégration croissante des pays non membres de l'OCDE dans l'économie mondiale. Les résultats de l'analyse montrent que i) les prix d'importation jouent un rôle plus important dans la détermination des prix de consommation domestiques depuis le milieu des années 1990 ; ii) la sensibilité de l'inflation aux conditions économiques domestiques a diminué alors que la sensibilité aux conditions économiques extérieures a augmenté, en jouant à travers les prix d'importation ; et iii) la croissance forte du PIB dans les pays non membres au cours des cinq dernières années a contribué à l'augmentation des prix réels du pétrole et des métaux. Les simulations montrent que la globalisation a entraîné des pressions inflationnistes via des prix des matières premières plus élevés et des pressions désinflationnistes via des prix des importations des produits hors matières premières plus faibles. Le dernier effet semble avoir dominé dans la plupart des pays de l'OCDE.
    JEL: E31 E37 E52 F15
    Date: 2006–11–21
  8. By: Michael S. Hanson (Department of Economics, Wesleyan University); Pavel Kapinos (Department of Economics, Carleton College)
    Abstract: We investigate the optimality of monetary policy targeting rules in a macroeconomic model based on explicit micro-foundations for intrinsic persistence in inflation and real output. For the corresponding social welfare loss function to be minimized by the central bank, inertia arises endogenously in both the inflation and output gap stabilization objectives. In this framework, inflation targeting closely approximates the optimal precommitment policy for empirically relevant parameter values. Alternative policy rules, such as nominal income growth targeting, “speed-limit” targeting, or price level targeting, do not performas well. Previous research has demonstrated lower social welfare losses with these alternative targeting rules; such findings are shown to be primarily a consequence of assuming the central bank minimizes a simple social loss function that is not consistent with the micro-foundations of a model with intrinsic persistence.
    Keywords: Habit formation, inflation persistence, targeting rules, time consistency, institutional design of monetary policy
    JEL: E52 E58
    Date: 2006–06
  9. By: Michael S. Hanson (Economics Department, Wesleyan University)
    Abstract: Recently, two stylized facts about the behavior of the U.S. economy have emerged: first, macroeconomic aggregates appear to be less volatile post-1984 than in the preceding two decades; second, monetary policy appears more responsive to inflationary pressures—and thereby more “stabilizing” — during the Volcker/Greenspan chairmanships relative to earlier regimes. Does a causal relationship exist between these two observations? In particular, has “better” policy by the Federal Reserve Board contributed significantly to the lessened volatility of the U.S. economy? This paper uses a structural vector autoregressive (VAR) specification to address these questions, examining the advantages and limitations of such an approach. In contrast with much of the existing research on these topics, I find that most of the quantitatively significant changes in volatility are attributed to breaks in the non-policy portion of the structural VAR, and not to the identified policy equation.
    Keywords: Monetary policy reaction function, structural VAR models, Taylor rule, Volcker disinflation, parameter instability
    JEL: E52 E58 E31 C32
    Date: 2006–01
  10. By: Kizys, Renatas; Pierdzioch, Christian
    Abstract: We report evidence of a time-varying link between returns on national stock market indexes and exchange rate returns (exchange rate exposure). We use this evidence to make inferences regarding the potential sources of changes over time in exchange rate pass-through. Using monthly data for 14 industrialized countries for the period 1975–2006, we document the existence of a long-run cointegration relation between exchange rate exposure and the industry composition of a country’s imports. The evidence of a cointegration relation between exchange rate exposure and openness to trade is weak. Our findings also suggest that, in the short run, exchange rate exposure is not endogenous to a country’s rate of inflation or to inflation uncertainty.
    Keywords: Stock market returns; exchange rate exposure; exchange rate pass-through
    JEL: F31 F37 G15
    Date: 2006–10
  11. By: Céline Gauthier; Fu Chun Li
    Abstract: The authors estimate a small monthly macroeconometric model (BEAM, for bonds, equity, and money) of the Canadian economy built around three cointegrating relationships linking financial and real variables over the 1975–2002 period. One of the cointegrating relationships allows the identification of a supply shock as the only shock that permanently affects the stock market, and a demand shock that leads to important transitory stock market overvaluation. The authors propose a monetary policy reaction function in which the impact of a permanent inflation shock on the overnight rate is simulated and the future path of the overnight rate adjusted accordingly, to prevent any forecast persistent deviation from the inflation target. They introduce a technical innovation by showing under which conditions permanent shocks can be identified in a vector error-correction model with exogenous variables.
    Keywords: Financial markets; Financial stability
    JEL: C5 E4
    Date: 2006
  12. By: Timothy Kim; Kirdan Lees; Philip Liu (Reserve Bank of New Zealand)
    Abstract: We estimate underlying macroeconomic policy objectives of three of the earliest explicit inflation targeters - Australia, Canada and New Zealand - within the context of a small open economy DSGE model. We assume central banks set policy optimally, such that we can reverse engineer policy objectives from observed time series data. We find that none of the central banks show a concern for stabilizing the real exchange rate. However, all three central banks share a concern for minimizing the volatility in the change in the nominal interest rate. The Reserve Bank of Australia places the most weight on minimizing the deviation of output from trend. Tests of the posterior distributions of these policy preference parameters suggest that the central banks have very similar objectives.
    JEL: C51 E52 F41
    Date: 2006–11
  13. By: Rajan, Raghuram G.; Tokatlidis, Ioannis
    Abstract: Emerging markets do not handle adverse shocks well. In this paper, we lay out an argument about why emerging markets are so fragile, and why they may adopt contractual mechanisms—such as a dollarized banking system—that increase their fragility. We draw on this analysis to explain why dollarized economies may be prone to dollar shortages and twin crises. The model of crises described here differs in some important aspects from what are now termed the first-, second-, and third-generation models of crises. We then examine how domestic policies, especially monetary policy, can mitigate the adverse effects of these crises. Finally, we consider the role, potentially constructive, that international financial institutions may undertake both in helping to prevent the crises and in helping to resolve them.
    JEL: G00 G0
    Date: 2005–03–14
  14. By: Lane, Philip R
    Abstract: We examine the bilateral composition of international bond portfolios for the euro area and the individual EMU member countries. We find considerable support for “euro area bias”: EMU member countries disproportionately invest in one another relative to other country pairs. Another striking pattern is the positive connection between trade linkages and financial linkages in explaining asymmetries across EMU member countries in terms of their outward and inward bond investments vis-a-vis external counterparties. At the aggregate level, it is those countries physically closest to the euro area that are both the most important destinations and sources for external bond investment vis-a-vis the euro area. Our empirical results support the notion that financial regionalization is the leading force underlying financial globalization.
    JEL: G0
    Date: 2005–05–20
  15. By: Fabiani, Silvia; Druant, Martine; Hernando, Ignacio; Kwapil, Claudia; Landau, Bettina; Loupias, Claire; Martins, Fernando; Matha, Thomas; Sabbatini, Roberto; Stahl, Harald; Stokman, Ad
    Abstract: This study investigates the pricing behavior of firms in the euro area on the basis of surveys conducted by nine Eurosystem national central banks, covering more than 11,000 firms. The results, consistent across countries, show that firms operate in monopolistically competitive markets, where prices are mostly set following markup rules and where price discrimination is common. Around one-third of firms follow mainly timedependent pricing rules, while two-thirds allow for elements of state dependence. The majority of the firms take into account both past and expected economic developments in their pricing decisions. Price reviews happen with a low frequency, of about one to three times per year in most countries, but prices are actually changed even less. Hence, price stickiness arises at both stages of the price-setting process and is mainly driven by customer relationships — explicit and implicit contracts — and coordination failure. Firms adjust prices asymmetrically in response to shocks: while cost shocks have a greater impact when prices have to be raised than when they have to be reduced, a fall in demand is more likely to induce a price change than an increase in demand
    JEL: G00 G0
    Date: 2006–07–03
  16. By: Gervais, Jean-Philippe; Larue, Bruno
    Abstract: This paper investigates price discriminating behaviour and currency invoicing decisions of Canadian pork exporters in the presence of menu costs. It is shown that when export prices are negotiated in the exporter’s currency, menu costs cause threshold effects in the sense that there are bounds within (outside of) which price adjustments are not (are) observed. Conversely, the pass-through is not interrupted by menu costs when export prices are denominated in the importer’s currency. The empirical model focuses on pork meat exports from two Canadian provinces to the U.S. and Japan. Hansen’s (2000) threshold estimation procedure is used to jointly test for currency invoicing and incomplete pass-through in the presence of menu costs. Inference is conducted using the bootstrap with pre-pivoting methods to deal with nuisance parameters. The existence of menu cost is supported by the data in three of the four cases. It also appears that Quebec pork exporters price discriminate and invoice in Japanese yen their exports to Japan. Manitoba exporters also seem to follow the same invoicing strategy, but their ability to increase their profit margin in response to large enough own-currency devaluations is questionable. Our currency invoicing results for sales to the U.S. are consistent with subsets of Canadian firms using either the Canadian or U.S. currency.
    JEL: F14 Q17 C22
    Date: 2006–06–02
  17. By: Harashima, Taiji
    Abstract: This paper examines fiscal sustainability in an inflationary environment, particularly the interrelation between government debt and inflation. A model that explicitly incorporates the political utility/objective function of government is constructed. The government’s borrowing behavior and inflation are determined through the simultaneous optimization of government and households. The sustainable fiscal debt in an inflationary environment was found to equal the present value of primary balances discounted by the time preference rate of government, not by the interest rate. This result raises the question of whether it is appropriate to apply the fiscal sustainability test of Hamilton and Flavin to high inflation countries.
    Keywords: Fiscal sustainability; Inflation; The present-value of primary balances; The fiscal theory of the price level; Leviathan
    JEL: H63 E31
    Date: 2006–11–27
  18. By: Carone, Giuseppe; Denis, Cécile; Mc Morrow, Kieran; Mourre, Gilles; Röger, Werner
    Abstract: This paper presents the results of long run labour productivity and GDP growth rate projections (until 2050) for each of the 25 EU Member States and provides a detailed overview of the forecast methodology used. These projections were undertaken in order to provide an internationally comparable macroeconomic framework against which to assess the potential economic and fiscal effects of ageing populations. The projections presented in this paper, using a common production function methodology for all 25 countries, show the GDP growth rate effects of an assumptions-driven extrapolation of recent trends in employment and labour productivity. These base case projections reflect the working assumption of “no policy change”.Various sensitivity tests are carried out to check the GDP per capita impact of some factors which have been excluded from the baseline scenario for reasons of simplicity or because of a lack of consensus in the academic literature. Some of the interesting conclusions that emerge from these sensitivity tests include : • Firstly, the GDP per capita impact of changes in the participation rate assumption used in the projections is much greater than for assumed changes in the share of part-time employment (i.e. in average hours worked per worker). • Secondly, the negative effect of a change in the age-structure of the population is fairly limited, although it is accepted that the labour productivity of an individual is likely to decline after the age of 55. A very strong fall in the productivity of older workers compared with that of prime-age workers would be required to significantly depress total labour productivity. Such an outcome, on the basis of current evidence, appears rather unlikely. • Thirdly, changing the TFP growth rate targets (e.g. use of the 1990’s average instead of the long-term 1970-2004 average) could strongly affect the projections. • Finally, an assumption of productivity convergence in levels substantially alters the projections for most EU10 countries but leaves the EU15 almost unchanged. JEL classific
    Keywords: Productivity; ageing; long-term projections; production function; labour productivity; older workers
    JEL: J1 O47 J21 H55 J26 D24
    Date: 2006–08
  19. By: Francis, Neville R; Owyang, Michael T; Theodorou, Athena T
    Abstract: In a recent paper, Galí, López-Salido, and Vallées (2003) examined the Federal Reserve’s response to VAR-identified technology shocks. They found that during the Martin-Burns- Miller era, the Federal Reserve responded to technology shocks by overstabilizing output, while in the Volcker-Greenspan era, the Federal Reserve adopted an inflation-targeting rule. We extend their analysis to countries of the G-7; moreover, we consider the factors that may contribute to differing monetary responses across countries. Specifically, we find a relationship between the volatility of capital investment, the type of monetary policy rule, the responsiveness of the rule to output and inflation fluctuations, and the response to technology shocks.
    Keywords: price setting; nominal rigidity; real rigidity; inflation persistence; survey data
    JEL: G00 G0
    Date: 2005–06–14
  20. By: Galindo Lucas, Alfonso
    Abstract: The great welcome that the recent FMI appointment for manager director have received in Spain and other countries, has contributed to the defence of this institution’s survival, notwithstanding that its work over 60 years have been hardly censured somewhere else. Thus, an analysis of this institution’s legitimacy is required, either in its formal shape and its material behaviour, as well as a study on the foundations of this naming. The very existence and evolution of FMI has its basis on questionable interests which turn aside the initial intentions declared and supposed as legitimating ones. A survey of big translational firms interests can be performed, specially of US ones, through the decision making and the defended positions of this multilateral organism. In such quantitatively important subjects as those contained in that agency, the “opinion” creation becomes a very profitable element.
    Keywords: International Monetary Fund; Rodrigo Rato; neo-liberalism; Chicago School; Washington Consensus
    JEL: F33 G28 F59 F53 F41
    Date: 2004
  21. By: Alexandre B. Cunha
    Date: 2006
  22. By: Maida Agata (University of Turin); Devicienti Francesco; Sestito Paolo
    Abstract: We estimate the degree of downward wage rigidity in ItaIy using a micro-econometric model in which wages may be subject to both nominal and real downward rigidities. We lise the recently released Worker History Italian Panel (WHIP), an administrative individual-level data set covering both the high-inflation and automatic-indexation regime prevailing before the 1990s, and the regime that emerged after the indexation system was dismantled. Overall, we fmd a sizable amount of downward rigidities, downward real wage rigidity being much more relevant than downward nominal wage rigidity. aver time, downward rigidities bave become less important, with the reduction in real rigidities more than offsetting the rise in nominaI rigidities. This pattern is consistent with the labour market reforms Italy experienced and specifically with the abolition of the automatic price-indexation clause. In arder to verify the robustness of these results we aIso explore an identification strategy in which the reaI rigidity threshold, instead of being centred around price inflation far aII workers, is centred around the wage rise specificaIly dictated far each worker by the relevant industry-wide national collective contract. Our main results afe broadly confmned. Equipped with these more precisely identified measures of downward rigidities, we further explore their relationship with severaI labour market outcomes. We fmd that downward wage rigidities afe positively related to fmn turnover - which we interpret in terms of employment adjustments substituting far wage adjustments - and local unemployment rates - which hints at the macroeconomic relevance of our micro-based rigidity measures.
    Date: 2005–03
  23. By: Nelson, Edward
    Abstract: This paper studies the Great Inflation in Canada, Australia, and New Zealand. Newspaper coverage and policymakers’ statements are used to analyze the views on the inflation process that led to the 1970s macroeconomic policies, and the different movement in each country away from 1970s views. I argue that to understand the course of policy in each country, it is crucial to use the monetary policy neglect hypothesis, which claims that the Great Inflation occurred because policymakers delegated inflation control to nonmonetary devices. This hypothesis helps explain why, unlike Canada, Australia and New Zealand continued to suffer high inflation in the mid-1980s. The delayed disinflation in these countries reflected the continuing importance accorded to nonmonetary views of inflation.
    JEL: G00 G0
    Date: 2005–01–25
  24. By: Malik, Hamza; Scarth, William
    Abstract: Using a New Neoclassical Synthesis model of monetary policy for a small open economy, this paper explores the impact of an increased degree of price flexibility on output volatility. Previous analysis of this question – based on the earlier generation of descriptive macro systems with model-consistent expectations – offered mixed conclusions, especially in an open economy context. We update that literature by reconsidering the issue within models that involve optimization-based behavioural equations. We find clear support for Keynes’ concern that a higher degree of price flexibility raises output volatility – but only under flexible exchange rates. We discuss the implications of our findings for current macro policy discussions in both European and other economies.
    Keywords: price flexibility; exchange rate policy; monetary policy in an open economy
    JEL: E52 F41
    Date: 2005–07
  25. By: Malik, Hamza
    Abstract: A dynamic stochastic general equilibrium monetary model with incomplete and imperfect asset markets, monopolistic competition and staggered nominal price rigidities is developed to shed light on the role of exchange rate and its relation with current account dynamics in the formulation of monetary-exchange rate policies. The paper shows that because of incomplete risk sharing, due to incomplete asset markets, the dynamic relationship between real exchange rate and net foreign assets affect the behaviour of domestic inflation and aggregate output. This, in turn, implies that the optimal monetary policy entail a response to net foreign asset position or the real exchange rate gap defined as the difference between actual real exchange rate and the value that would prevail with flexible prices and complete asset markets. In comparing the performance of alternative monetary-exchange rate policy rules, an interesting and fairly robust result that stands out is that ‘dirty floating’ out-performs flexible exchange rate regime with domestic inflation targeting.
    Keywords: optimal monetary policy; incomplete asset markets; net foreign assets; current account dynamics; inflation targeting; exchange rate policy.
    JEL: E52 F41
    Date: 2005–08
  26. By: Malik, Hamza
    Abstract: This paper incorporates both the traditional aggregate demand-interest rate channel and the cost channel of monetary policy in a baseline ‘new Keynesian’ model and study two targeting regimes --- price-level targeting and nominal income targeting. In light of empirical considerations, alternative specifications for the aggregate demand and aggregate supply side of the economy also considered. The main result is that the cost channel matters: in case of a moderate policy response and with the cost channel operating the volatility of real output decreases under both price-level and nominal income targeting, while it increases in case of an aggressive policy response. The paper also finds that nominal income targeting performs better than price level targeting in bringing down the volatility of real output in almost all the specifications of the macro models used in the analysis.
    Keywords: the cost channel; price level targeting; nominal income targeting
    JEL: E31 E52 E30
    Date: 2005–03
  27. By: Jose Angelo Divino
    Date: 2006
  28. By: Gruen, David; Plumb, Michael; Stone, Andrew
    Abstract: We present a simple macroeconomic model that includes a role for an asset-price bubble. We then derive optimal monetary policy settings for two policymakers: a skeptic, for whom the best forecast of future asset prices is the current price; and an activist, whose policy recommendations take into account the complete stochastic implications of the bubble. We show that the activist’s recommendations depend sensitively on the detailed stochastic properties of the bubble. In some circumstances the activist clearly recommends tighter policy than the skeptic, but in others the appropriate recommendation is to be looser. Our results highlight the stringent informational requirements inherent in an activist policy approach to handling asset-price bubbles.
    JEL: G00 G0
    Date: 2005–05–24
  29. By: Sula, Ozan; Willett, Thomas D.
    Abstract: Most of the emerging market currency crises are accompanied by sharp reversals or “sudden stops” of capital inflows. We investigated whether some types of capital flows are more likely to reverse than others during these crises. Foreign direct investment is usually considered stable while portfolio investment is frequently depicted as the least reliable type of flow. Recent statistical testing has yielded conflicting results on this issue. We argue that a major problem with recent studies is that the degree of variability of capital flows during normal or inflow periods may give little clue to their behavior during crises and it is the latter that is most important for policy. Using data for 35 emerging economies for 1990 through 2003, we confirm that direct investment is the most stable category, but find that private loans on average are as reversible as portfolio flows.
    Keywords: Capital flows; currency crises; volatility of capital flows; reversibility of capital flows; Emerging Markets; private loans; portfolio flows; foreign direct investment.
    JEL: F32
    Date: 2006–01
  30. By: Sula, Ozan
    Abstract: A characteristic of many of the recent emerging market currency crises is a preceding surge in capital inflows and their reversals or ‘sudden stops’ during the crises. The empirical investigation of 38 emerging market economies between 1990 and 2003 reveals that a surge in capital inflows significantly increases the probability of a sudden stop. In addition, a surge accompanied by a high current account deficit or an appreciated real exchange rate is more likely to be associated with a sudden stop. The paper also finds that a surge that is dominated by private loans and portfolio flows rather than direct investment has a higher probability to end with a sudden stop.
    Keywords: Capital flows; Sudden stops; Surges in capital flows; Emerging Markets; private loans; portfolio flows; foreign direct investment
    JEL: F32 F41
    Date: 2006–01
  31. By: Hess, Gregory; Shin, Kwanho
    Abstract: Backus, Kehoe and Kydland (BKK 1992) showed that if international capital markets are complete, consumption growth correlations across countries should be higher than their corresponding output growth correlations. In stark contrast to the theory, however, in actual data the consumption growth correlation is lower than the output growth correlation. By assuming trade imperfections due to non-traded goods, Backus and Smith (1993) showed that there is an additional impediment that works to lower the consumption growth correlation. While Backus and Smith’s argument was successful in partially explaining the low growth correlation puzzle, it contributed to generating another puzzle because the data forcefully showed that consumption growth is negatively correlated with the real exchange rate, which is a violation of the theory. In this paper, by decomposing the real exchange rate growth of the OECD countries into the nominal exchange rate growth and the inflation differential, we find that nominal exchange rate movements are the main source for the Backus-Smith puzzle. We find that the nominal exchange rate moves counter-cyclically with consumption movements, which is a violation of the risk sharing theory with non-traded goods. We also find that the violations are more pronounced when nominal exchange rate changes are larger in absolute value . In contrast, the negative of bilateral inflation differentials is positively correlated with bilateral consumption movements. The latter finding is in accordance with the theory. Furthermore, using intranational data for the United States where the nominal exchange rate is constant, the Backus-Smith puzzle disappears, although complete risk sharing is rejected.
    Keywords: Risk Sharing; Exchange Rate
    JEL: F36 E44 E32 E21 F31
    Date: 2006–02
  32. By: Ghent, Andra
    Abstract: I generate priors for a VAR from four competing models of economic fluctuations: a standard RBC model, Fisher’s (2006) investment-specific technology shocks model, an RBC model with capital adjustment costs and habit formation, and a sticky price model with an unaccommodating monetary authority. I compare the accuracy of the forecasts made with each of the resulting VARs. The economic models generate similar forecast errors to one another. However, at horizons of one to two years and greater, the models generally yield superior forecasts to those made using both an unrestricted VAR and a VAR that uses shrinkage from a Minnesota prior.
    Keywords: Model Evaluation; Priors from DSGE models; Economic Fluctuations; Hours Debate; Business Cycles;
    JEL: C52 E37 E32 C53 E3 C11
    Date: 2006–08
  33. By: Paulo Gala; Claudio R. Lucinda
    Date: 2006
  34. By: Derek Bond (University of Ulster); Michael J. Harrison (Department of Economics, Trinity College); Edward J. O'Brien (European Central Bank)
    Abstract: This paper looks at issues surrounding the testing of purchasing power parity using Irish data. Potential difficulties in placing the analysis in an I(1)/I(0) framework are highlighted. Recent tests for fractional integration and nonlinearity are discussed and used to investigate the behaviour of the Irish exchange rate against the United Kingdom and Germany. Little evidence of fractionality is found but there is strong evidence of nonlinearity from a variety of tests. Importantly, when the nonlinearity is modelled using a random field regression, the data conform well to purchasing power parity theory, in contrast to the findings of previous Irish studies, whose results were very mixed.
    JEL: C22 F31 F41
    Date: 2006–11
  35. By: Willenbockel, Dirk
    Abstract: The misalignment of the Chinese currency exposed by the rapid build-up of China’s foreign exchange reserves over the past few years has been the subject of considerable recent debate. Recent econometric studies suggest a Renminbi undervaluation on the order of 10 to 30%. The modest revaluation of July 2005 is widely perceived as insufficient to correct China’s balance-of-payments disequilibrium and has not silenced charges that China is engaging in persistent one-sided currency manipulation. Within China there are widespread concerns regarding the adverse employment effects of a major revaluation on labour-intensive export sectors, yet the likely magnitude of these effects remains a controversial issue. The paper aims to shed light on this question by simulating the structural effects of a real exchange rate revaluation that lowers the current account surplus-GDP by 4 percentage-points using a 17-sector computable general equilibrium model of the Chinese economy.
    Keywords: Renminbi undervaluation; real exchange rate misalignment; applied general equilibrium analysis
    JEL: F40 F17 C68
    Date: 2006–04
  36. By: Feridun, Mete
    Abstract: Purchasing Power Parity (PPP) is the most conventional and fundamental means through which the long-term equilibrium exchange rate can be explained. This article examines the monthly and quarterly data from January 1965 – Janu-ary 1995 aiming at testing the validity of PPP as a long-term equilibrium condi-tion for the bilateral exchange rates between US Dollar and the currencies of a set of five industrialized countries, namely Germany, France, Australia, Canada, and the United Kingdom, using Augmented Dickey Fuller (ADF) unit root test. Results indicate that both monthly and quarterly US Dollar – Canadian Dollar real exchange rates are stationary. In case of US Dollar – Australian Dollar real exchange rate, only monthly data is found to be stationary. Strong evidence emerges that US Dollar – French Franc, US Dollar – German Mark, and US Dollar – Great Britain Pound exchange rates are non-stationary, which invalidates the PPP hypothesis.
    Keywords: purchasing power parity; exchange rate determination; unit root test
    JEL: E00
    Date: 2005–02
  37. By: Matheson, Troy D
    Abstract: This paper focuses on forecasting four key New Zealand macroeconomic variables using a dynamic factor model and a large number of predictors. We compare the (simulated) real-time forecasting performance of the factor model with a variety of other time-series models (including the Reserve Bank of New Zealand’s published forecasts), and we gauge the sensitivity of our results to alternative variable-selection algorithms. We find that the factor model performs particularly well at longer horizons.
    JEL: G00 G0
    Date: 2006–04–13
  38. By: Aristovnik, Aleksander
    Abstract: The article examines the issue of ‘current account sustainability’ in seventeen transition economies. For this purpose, two accounting frameworks (Milesi-Ferreti and Razin, 1996; Reisen, 1998) based on certain strict assumptions are employed. The results show that if the observed level of foreign direct investment (FDI) flows is kept in the medium run almost all countries could optimally have a higher level of external deficit, with the exception of countries such as Baltic States, Hungary, Macedonia, Moldova and Romania. Accordingly, the maintenance of relatively large FDI inflows (especially greenfield investments) to national economies is a key priority in securing future external sustainability. In the end, the results indicate that current account deficits of transition economies that exceed 5 percent of GDP generally involve problems of their external sustainability.
    Keywords: transition economies; current account deficits; sustainability; FDI
    JEL: F32 F47
    Date: 2006–03–26
  39. By: Filacek, Jan; Horvath, Roman; Skorepa, Michal
    Abstract: This article analyzes the main issues for monetary policy in new EU member states before their euro adoption. These are typically rooted in the challenge of fulfilling concurrently of the Maastricht inflation and exchange rate criterion, as these countries are experiencing equilibrium real exchange rate appreciation. In this article we first distinguish between the wording, written interpretation and “revealed” interpretation of the inflation and exchange rate criteria. Then we discuss the options for monetary policy in the period of fulfilment of these criteria in terms of its transparency, its continuity with the previous monetary policy regime, the choice of central parity for the ERM II, the setting of the fluctuation bandwidth, the probability of fulfilment of both criteria and the impact on economic stability.
    Keywords: monetary policy; euro adoption; ERM II; EU
    JEL: E58 F42 F33 E52
    Date: 2006–09–25
  40. By: Voicu, Ionut Cristian; Constantin, Floricel
    Abstract: For Romania, the shift from monetary targeting toward inflation targeting was done under the influences of following events: - The existing pressure coming from refinancing the public debt and from the necessity to remain in certain boundary with the budgetary deficit. - NBR assigned monetary control and liquidity management functions on the mechanism of minimum required reserves. - Romanian strategy was deeply hurt by the low development of its financial markets, and the low level of monetization. - A precondition of potential success in the case of inflation targeting was fulfilled - the improvement of taxes collection and the reduction of money laundry. - The important amounts of quantitative increases in Foreign Direct Investment (yearly Euro 4 billion), and also in the rest of M2’s components, forced the necessity of a new strategy based mainly on non-monetary aggregates
    Keywords: monetary policy; inflation targeting; Romania; monetary aggregates
    JEL: E58
    Date: 2006–06
  41. By: Horvath, Roman
    Abstract: The paper examines a financial accelerator mechanism in analyzing determinants of corporate interest rates. Using a panel of the financial statements of 448 Czech firms from 1996–2002, we find that balance sheet indicators matter interest rates paid by firms. Market access is particularly important in this regard. The strength of corporate balance sheets seem to vary with firm size. There is also evidence that monetary policy has a stronger effect on smaller than on larger firms. On the other hand, we find no asymmetry in the monetary policy effects over the business cycle.
    Keywords: balance sheet channel; financial accelerator; interest rates; monetary policy transmission
    JEL: G32 E52
    Date: 2006–11–14
  42. By: Philip Arestis; Luiz Fernando de Paula; Fernando Ferrari-Filho
    Date: 2006
  43. By: Ricardo Meirelles de Faria; Maria Carolina da Silva Leme
    Date: 2006
  44. By: João José Silveira Soares; Fernando de Holanda Barbosa
    Date: 2006
  45. By: Paulo Chananeco F. de Barcellos Neto; Marcelo Savino Portugal
    Date: 2006
  46. By: Michael S. Hanson (Department of Economics, Wesleyan University); Kwanghee Nam (School of Economics, Kookmin University, Jeongneung-dong)
    Abstract: To evaluate the effectiveness of targeting monetary policy strategies in a small open economy, we develop a dynamic optimizing model calibrated to recent Korean data. We then explore the consequences of alternative specifications of the loss function for society and the central bank, with particular focus on exchange rate volatility. Policy simulations include variations on inflation targeting, nominal income growth targeting and exchange rate targeting. Our results indicate that inflation targeting remains the most preferred policy regime, even when an explicit motive for exchange rate smoothing is introduced. In this case, the optimal inflation targeting and nominal income growth targeting policies are characterized by a “conservative” central bank that places greater weight on both the primary target variable and on the exchange rate than in society’s objective function. However, the optimal policy reacts to changes in degree of exchange rate pass-though in a non-linear fashion, complicating the robustness of inflation targeting recommendations for emerging markets.
    Keywords: Korean economy, inflation targeting, optimal monetary policy, small open economy
    JEL: E52 F41
    Date: 2005–09
  47. By: Kadochnikov, Denis
    Abstract: The research presented in this paper is undertaken in response to the debate on capital flight from Russia. This debate usually involves discussion of its determinants but misses the question of its ultimate effects on the economy. Lack of understanding of the economic nature of capital flight and of its institutional context leads to numerous calls for a policy response, such as stricter capital controls, which are not grounded in any theory or empirical studies, but at the same time are not opposed on theoretical grounds, with only ideological or technical arguments employed at the very best. The purpose of the paper is to examine capital flight from Russia within the institutional environment in which it occurs and to establish whether this capital flight has detrimental effect on the economy. New Institutional Economics approach is adopted to argue that in Russia’s case capital flight might be considered not just a consequence, as some researchers have argued earlier, but also an optimal solution to the institutional deficiencies with its economic role being neutral. To support the validity of this claim modified Granger non-causality test is used to determine whether capital flight dynamics have a causal effect on that of the interest rate differential and vice versa, that is to test whether price mechanism is not working. Rethinking the nature and the economic impact of capital flight allows postulating that within the existing institutional context the observed capital flight is a normal economic process which per se does not require any policy response and restricting capital flight by imposing capital controls cannot be an element of a pro-growth policy, as it would instead lead to boom-burst sort of growth.
    Keywords: Russia; Capital Flight; New Institutional Economics.
    JEL: F21 G18
    Date: 2005–06
  48. By: Ozturk, Ilhan; Acaravcı, Ali
    Abstract: This paper examines the effects of exchange rate volatility on the export of Turkey in the context of cointegration model over the monthly period of 1989:01-2002:08. The major results show that increases in the volatility of the real exchange rate, approximating exchange-rate uncertainty, exert a significant negative effect upon export demand.
    JEL: F3
    Date: 2006
  49. By: González, Manuel; Wong, Sara
    Abstract: This paper presents estimation of Armington Substitution Elasticities between imported and domestic goods in Ecuador at the input output level of goods classification. These estimations are intended to be used in applied general equilibrium models of the cuadorian economy that analyze the impacts of changes in trade policy on this economy. The study analyzes time series properties of the data that correspond to years 1975-2001. Estimations include dummy and trend variables. The estimates of Armington elasticities for Ecuador range between 0.317 and 2.383 for the long-run elasticities, and between 0.454 and 1.524 for the short-run ones. These values suggest that imported and domestic goods in Ecuador are far from perfect substitutes. This implies that changes in relative prices between imports and domestic goods –such as those due to trade opening or liberalization processes- would not have in some sectors dramatic impact effects in the relative composition of imports and domestic sales of domestic goods.
    Keywords: Armington Substitution Elasticities; Cointegration.
    JEL: F15 F14
    Date: 2004–12
  50. By: Luiz Humberto Cavalcante Veiga; Joaquim Pinto de Andrade; André Luiz Rossi de Oliveira
    Date: 2006

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