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on Central Banking |
| By: | Athanasios Orphanides; John C. Williams |
| Abstract: | This paper examines the robustness characteristics of optimal control policies derived under the assumption of rational expectations to alternative models of expectations formation and uncertainty about the natural rates of interest and unemployment. We assume that agents have imperfect knowledge about the precise structure of the economy and form expectations using a forecasting model that they continuously update based on incoming data. We also allow for central bank uncertainty regarding the natural rates of interest and unemployment. We find that the optimal control policy derived under the assumption of perfect knowledge about the structure of the economy can perform poorly when knowledge is imperfect. These problems are exacerbated by natural rate uncertainty, even when the central bank's estimates of natural rates are efficient. We show that the optimal control approach can be made more robust to the presence of imperfect knowledge by deemphasizing the stabilization of real economic activity and interest rates relative to inflation in the central bank loss function. That is, robustness to the presence of imperfect knowledge about the economy provides an incentive to employ a "conservative" central banker. We then examine two types of simple monetary policy rules from the literature that have been found to be robust to model misspecification in other contexts. We find that these policies are robust to the alternative models of learning that we study and natural rate uncertainty and outperform the optimal control policy and generally perform as well as the robust optimal control policy that places less weight on stabilizing economic activity and interest rates. |
| Keywords: | Rational expectations (Economic theory) ; Monetary policy ; Econometric models |
| Date: | 2008 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedfwp:2008-09&r=cba |
| By: | James M. Nason; John H. Rogers |
| Abstract: | Exchange rates have raised the ire of economists for more than twenty years. The problem is that few, if any, exchange rate models are known to systematically beat a naive random walk in out-of-sample forecasts. Engel and West (2005) show that these failures can be explained by the standard present value model (PVM) because it predicts random walk exchange rate dynamics if the discount factor approaches one and fundamentals have a unit root. This paper generalizes the Engel and West hypothesis to the larger class of open economy dynamic stochastic general equilibrium (DSGE) models. The Engel and West hypothesis is shown to hold for a canonical open economy DSGE model. We show that all the predictions of the standard PVM carry over to the DSGE PVM. The DSGE PVM also yields unobserved components (UC) models that we estimate using Bayesian methods and a quarterly Canadian-U.S. sample. Bayesian model evaluation reveals that the data support a UC model that calibrates the discount factor to one, implying the Canadian dollar–U.S. dollar exchange rate is a random walk dominated by permanent cross-country monetary and productivity shocks. |
| Date: | 2008 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedawp:2008-16&r=cba |
| By: | Carol C. Bertaut; Steven B. Kamin; Charles P. Thomas |
| Abstract: | This paper addresses three questions about the prospects for the U.S. current account deficit. Is it sustainable in the long term? If not, how long will it take for measures of external debt and debt service to reach levels that could prompt some pullback by global investors? And if and when such levels are breached, how readily would asset prices respond and the current account start to narrow? ; To address these questions, we start with projections of a detailed partial-equilibrium model of the U.S. balance of payments. Based on plausible assumptions of the key drivers of the U.S. external balance, they indicate that the current account deficit will resume widening and the negative NIIP/GDP ratio will continue to expand. However, our projections suggest that even by the year 2020, the negative NIIP/GDP ratio will be no higher than it is in several industrial economies today, and U.S. net investment income payments will remain very low. The share of U.S. claims in foreigners' portfolios will likely rise, but not to an obviously worrisome extent. All told, it seems likely it would take many years for the U.S. debt to cumulate to a level that would test global investors' willingness to extend financing. ; Finally, we explore the historical responsiveness of asset prices and the current account in industrial economies to measures of external imbalances and debt. We find little evidence that, as countries' net indebtedness rises, the developments needed to correct the current account--including changes in growth rates, asset prices, or exchange rates--materialize all that rapidly. ; We would emphasize that these findings do not imply that U.S. current account adjustment is necessarily many years away, as any number of factors could trigger such adjustment. Our point is rather that international balance sheet considerations likely are not sufficient, by themselves, to require external adjustment any time soon. |
| Date: | 2008 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedgif:935&r=cba |
| By: | Yuliya Rychalovska |
| Abstract: | The paper analyzes the stabilization objectives of optimal monetary policy and the trade-offs facing the central bank in a two-sector small open economy model obtained as a limiting case of a two-country DSGE framework. We introduce a more complicated economic structure, namely, multiple domestic sectors combined with a variety of exogenous shocks. In addition, our model includes a more general specication of consumers’ preferences than has been considered in the literature so far. As a result, we are able to uncover additional welfare effects specic to the open multi-sectoral economy and make a methodological contribution by deriving a utility-based welfare measure and the optimal reaction function of the central bank. We show that the optimal targeting rule is represented by a complex expression that prescribes the response to the appropriate measure of domestic inflation, sectoral output gaps, as well as to the relevant relative prices. We demonstrate that our model generates an endogenous conflict between the objectives of domestic inflation and real exchange rate stabilization in addition to the inflation-output gap policy trade-off common in the literature. Furthermore, we experiment with alternative simple rules and analyze their ability to replicate the optimal solution. |
| Keywords: | DSGE models, non-traded goods, optimal monetary policy, welfare. |
| JEL: | E52 E58 E61 F41 |
| Date: | 2007–12 |
| URL: | http://d.repec.org/n?u=RePEc:cnb:wpaper:2007/16&r=cba |
| By: | Sven Jari Stehn; David Vines |
| Abstract: | We analyse optimal discretionary games between a benevolent central bank and a myopic government in a New Keynesian model. First, when lump-sum taxes are available and public debt is absent, we show that a Nash game results in too much government spending and excessively high interest rates, while fiscal leadership reinstates the cooperative outcome under discretion. Second, we show that this familiar result breaks down when lump-sum taxes are unavailable. With government debt, the Nash equilibrium still entails too much public spending but leads to lower interest rates than the cooperative policy, because debt has to be adjusted back to its pre-shock level to ensure time consistency. A setup of fiscal leadership does not avoid this socially costly outcome. Imposing a debt penalty onto the myopic government under either Nash or fiscal leadership raises welfare substantially, while appointing a conservative central bank is less effective. |
| Keywords: | Central banks , Monetary authorities , Intergovernmental fiscal relations , Government expenditures , Fiscal policy , Stabilization measures , |
| Date: | 2008–07–21 |
| URL: | http://d.repec.org/n?u=RePEc:imf:imfwpa:08/164&r=cba |
| By: | Leopold von Thadden (European Central Bank); Hubert Kempf (Paris School of Economics and Université Paris-1 Panthéon-Sorbonne) |
| Abstract: | This paper offers a framework to study commitment and cooperation issues in games with multiple policymakers. To reconcile some puzzles in the recent literature on the nature of policy interactions among nations, we prove that games characterized by different commitment and cooperation schemes can admit the same equilibrium outcome if certain spillover effects vanish at the common solution of these games. We provide a detailed discussion of these spillovers, showing that, in general, commitment and cooperation are non-trivial issues. Yet, in linear-quadratic models with multiple policymakers commitment and cooperation schemes are shown to become irrelevant under certain assumptions. The framework is sufficiently general to cover a broad range of results from the recent literature on policy interactions as special cases, both within monetary unions and among fully sovereign nations. |
| Keywords: | Monetary Policy, Fiscal Regimes |
| JEL: | E52 E63 |
| Date: | 2008–03 |
| URL: | http://d.repec.org/n?u=RePEc:fem:femwpa:2008.21&r=cba |
| By: | Brad E. Strum |
| Abstract: | This paper examines the implications for monetary policy of sticky prices in both final and intermediate goods in a New Keynesian model. Both optimal policy under commitment and discretionary policy, which is the minimization of a simple loss function, are studied. Consumer utility losses under alternative simple loss functions are compared, including their robustness to model and shock misperceptions, and parameter uncertainty. Targeting inflation in both consumer and intermediate goods performs better than targeting a single price index; price-level targeting of both consumer and intermediate goods prices performs significantly better. Moreover, targeting prices in both sectors yields superior robustness properties. |
| Date: | 2008 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedgfe:2008-33&r=cba |
| By: | Nao Sudo (Institute for Monetary and Economic Studies, Bank of Japan (E-mail: nao.sudou@boj.or.jp)) |
| Abstract: | The co-movement of output across the sector producing non- durables (that is, non-durable goods and services) and the sector producing durables is well-established in the monetary business-cycle literature. However, standard sticky-price models that incorporate sectoral heterogeneity in price stickiness (that is, sticky non-durables prices and flexible durables prices) cannot generate this feature. We argue that an input-output structure provides a solution to this problem. Here we develop a two-sector model with an input-output structure, which is calibrated to the U.S. economy. In the model, each sector's output affects those of the others by acting as an intermediate input This connection between the sectors provides a channel through which sectoral co-movement is induced. |
| Keywords: | Monetary Policy, Input-Output Matrix, Durables, Non-durables |
| JEL: | E5 E6 |
| Date: | 2008–07 |
| URL: | http://d.repec.org/n?u=RePEc:ime:imedps:08-e-15&r=cba |
| By: | Helge Berger; Emil Stavrev |
| Abstract: | This paper contributes to the debate on the role of money in monetary policy by analyzing the information content of money in forecasting euro-area inflation. We compare the predictive performance within and among various classes of structural and empirical models in a consistent framework using Bayesian and other estimation techniques. We find that money contains relevant information for inflation in some model classes. Money-based New Keynesian DSGE models and VARs incorporating money perform better than their cashless counterparts. But there are also indications that the contribution of money has its limits. The marginal contribution of money to forecasting accuracy is often small, money adds little to dynamic factor models, and it worsens forecasting accuracy of partial equilibrium models. Finally, non-monetary models dominate monetary models in an all-out horserace. |
| Keywords: | Working Paper , Euro Area , Money , Inflation , Forecasting models , Monetary policy , Economic models , |
| Date: | 2008–07–09 |
| URL: | http://d.repec.org/n?u=RePEc:imf:imfwpa:08/166&r=cba |
| By: | Helge Berger; Emil Stavrev; Thomas Harjes |
| Abstract: | Monetary aggregates continue to play an important role in the ECB's policy strategy. This paper revisits the case for money, surveying the ongoing theoretical and empirical debate. The key conclusion is that an exclusive focus on non-monetary factors alone may leave the ECB with an incomplete picture of the economy. However, treating monetary factors as a separate matter is a second-best solution. Instead, a general-equilibrium inspired analytical framework that merges the economic and monetary "pillars" of the ECB's policy strategy appears the most promising way forward. The role played by monetary aggregates in such unified framework may be rather limited. However, an integrated framework would facilitate the presentation of policy decisions by providing a clearer narrative of the relative role of money in the interaction with other economic and financial sector variables, including asset prices, and their impact on consumer prices. |
| Keywords: | European Central Bank , Monetary policy , Central bank policy , Economic models , Asset prices , Consumer prices , Financial sector , Money , |
| Date: | 2008–07–10 |
| URL: | http://d.repec.org/n?u=RePEc:imf:imfwpa:08/171&r=cba |
| By: | Christian Bordes (CES - Centre d'économie de la Sorbonne - CNRS : UMR8174 - Université Panthéon-Sorbonne - Paris I); Laurent Clerc (Direction de la Recherche - Banque De France - Banque de France) |
| Abstract: | This paper focuses on the price stability objective within the framework of the single monetary policy strategy. It starts by reviewing what this objective, which is common to all central banks, means. Second, this paper focuses exclusively on the anchoring of short- to medium-term inflation expectations (Part 2). Several measures show that this anchoring is effective. A 'two-pillar' small structural macro-economic model framework is used to analyze the impact that this anchoring of expectations has on the determination of the short- to medium-term inflation rate. From this point of view, observed inflation in the euro area seems to be in line with the theory and the ECB's action seems to be very effective. Third, we focus on the other aspect of monetary stability: the degree of price-level uncertainty and the anchoring of inflation expectations in the medium to long term. Even though this assessment is more difficult than it is in the short to medium term, since we only have a track record covering 6 years, various indicators from the theoretical analysis paint a fairly reassuring picture of the effectiveness of the device used by the ECB. |
| Keywords: | European Central Bank • Inflation • Monetary policy |
| Date: | 2007–03–20 |
| URL: | http://d.repec.org/n?u=RePEc:hal:journl:hal-00308557_v1&r=cba |
| By: | Christian Bordes (CES - Centre d'économie de la Sorbonne - CNRS : UMR8174 - Université Panthéon-Sorbonne - Paris I); Samuel Maveyraud (GREThA - Groupe de Recherche en Economie Théorique et Appliquée - CNRS : UMR5113 - Université Montesquieu - Bordeaux IV) |
| Abstract: | This paper o¤ers to investigate both the Friedman's and Mishkin's hypotheses on the consequences of inflation on output growth. To this end, we first base these hypotheses in a unified framework. Second, in an empirical work based on OECD countries, we distinguish between short-medium and long run and between headline and core inflation. We get two main results. First, nominal uncertainty and inflation are positively linked. Second, headline inflation negatively Granger causes out- put gap (US, Japan, France) but has no effect on potential output growth (US excepted) whereas core inflation impacts potential output growth (UK, Germany) but not output gap (US excepted). |
| Keywords: | Inflation, uncertainty, output growth, GARCH, CF filter |
| Date: | 2008–06 |
| URL: | http://d.repec.org/n?u=RePEc:hal:journl:hal-00308571_v1&r=cba |
| By: | Riccardo Cristadoro (Banca d’Italia, Research Department, via Nazionale 91, I – 00184 Rome, Italy.); Fabrizio Venditti (Banca d’Italia, Research Department, via Nazionale 91, I – 00184 Rome, Italy.); Giuseppe Saporito (Banca d’Italia, Research Department, via Nazionale 91, I – 00184 Rome, Italy.) |
| Abstract: | The ECB objective is set in terms of year on year growth rate of the Euro area HICP. Nonetheless, a good deal of attention is given to national data by market analysts when they try to anticipate monetary policy moves. In this paper we use the Generalized Dynamic Factor model to develop a set of core inflation indicators that, combining national data with area wide information, allow us to answer two related questions. The first is whether country specific data actually bear any relevance for the future path of area wide price growth, over and above that already contained in area wide data. The second is whether in order to track ECB monetary policy decisions it is useful to take into account national information and not only area wide statistics. In both cases our findings point to the conclusion that, once area wide information is properly taken into account, there is little to be gained from considering national idiosyncratic developments. JEL Classification: C25, E37, E52. |
| Keywords: | Forecasting, dynamic factor model, inflation, Taylor rule, monetary policy. |
| Date: | 2008–06 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20080900&r=cba |
| By: | Matteo Ciccarelli; Benoît Mojon |
| Abstract: | This paper shows that inflation in industrialized countries is largely a global phenomenon. First, the inflation rates of 22 OECD countries have a common factor that alone accounts for nearly 70 percent of their variance. This large variance share that is associated with Global Inflation is not only due to the trend components of inflation (up from 1960 to 1980 and down thereafter) but also to fluctuations at business cycle frequencies. Second, we show that, in conformity to the prediction of New Keynesian open economy models, there is little spillover of inflationay shocks across countries. The comovement of inflation comes largely from common shocks. Global Inflation is a function of real developments at short horizons and monetary developments at longer horizons. Third, there is a robust "error correction mechanism" that brings national inflation rates back to Global Inflation. A simple model that accounts for this feature consistently beats the previous benchmarks used to forecast inflation 4 to 8 quarters ahead across samples and countries. |
| Date: | 2008 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedhwp:wp-08-05&r=cba |
| By: | Toshitaka Sekine (Associate Monetary Affairs Department, Bank of Japan (E-mail: toshitaka.sekine @boj.or.jp)); Yuki Teranishi (Associate Director, Institute for Monetary and Economic Studies, Bank of Japan (E-mail: yuuki.teranishi @boj.or.jp)) |
| Abstract: | We estimate monetary policy activism, defined as responsiveness of the policy interest rate to inflation, among five inflation-targeting countries (the UK, Canada, Sweden, Australia and New Zealand) plus the G3 (the US, Japan and Germany) by applying a time- varying parameter with a stochastic-volatility model. We find that activism of inflation-targeting countries tends to have increased before (not after) the adoption of the inflation-targeting policy framework and that these countries have experienced a decline in activism in recent years, albeit to different degrees. We further explore this result in terms of the constraint of an inflation target range by developing a formal theoretical model in a New Keynesian framework. |
| Keywords: | Inflation-targeting Policy, Monetary Policy Activism, New Keynesian Model, Markov chain Monte Carlo, Time-varying Parameter with Stochastic Volatility Model |
| JEL: | C11 E52 E58 |
| Date: | 2008–07 |
| URL: | http://d.repec.org/n?u=RePEc:ime:imedps:08-e-13&r=cba |
| By: | Ales Bulir; Katerina Smidkova; Viktor Kotlan; David Navratil |
| Abstract: | Inflation-targeting central banks have a respectable track record at explaining their policy actions and corresponding inflation outturns. Using a simple forward-looking policy rule and an assessment of inflation reports, we provide a new methodology for the empirical evaluation of consistency in central bank communication. We find that the three communication tools—inflation targets, inflation forecasts, and verbal assessments of inflation factors contained in quarterly inflation reports—provided a consistent message in five out of six observations in our 2000–05 sample of Chile, the Czech Republic, Hungary, Poland, Thailand, and Sweden. |
| Keywords: | Emerging markets, forecasting, inflation targeting, monetary policy, transparency. |
| JEL: | E31 E43 E47 E58 |
| Date: | 2007–12 |
| URL: | http://d.repec.org/n?u=RePEc:cnb:wpaper:2007/14&r=cba |
| By: | William R. Cline (Peterson Institute) |
| Abstract: | This paper sets forth a new methodology for obtaining a consistent set of exchange rate realignments needed to accomplish international adjustment in current account imbalances to reach fundamental equilibrium exchange rates (FEERs). The approach is named the symmetric matrix inversion method (SMIM). It is symmetric in that ir treats all countries considered equally rather than seeking exact adjustment for the United States and obtaining other adjustments residually. Country-specific impact parameters based on assumed trade elasticities are applied to a target set of changes in current accounts as percentages of GDP to obtain a corresponding set of target changes in real effective (trade-weighted) exchange rates. A matrix inversion technique is then applied to identify the corresponding set of changes in bilateral exchange rates against the dollar needed to approach as closely as possible the target set of effective exchange rate changes. |
| Keywords: | Exchange Rates, Current Account Adjustment, Dollar |
| JEL: | F31 F32 |
| Date: | 2008–07 |
| URL: | http://d.repec.org/n?u=RePEc:iie:wpaper:wp08-6&r=cba |
| By: | Ulrich H. Klueh; Peter Stella |
| Abstract: | The financial health of central banks and its relation to policy outcomes has recently been recognized as an important policy issue. While case study evidence clearly indicates that weak central bank finances can hamper effective policy implementation, the question of whether central bank financial strength influences policy performance remains controversial. This is due, in part, to a lack of econometric evidence. The paper presents a first step toward filling this gap, by providing a quantitative evaluation of the relationship between measures of central bank financial strength and policy performance, in particular inflation. The paper's major finding is that there indeed is a negative relationship between central bank financial strength and inflation outcomes. This relationship appears to be robust to the choice of alternative country samples, control variables, estimation strategies, and conceptualizations of central bank financial strength. |
| Date: | 2008–07–18 |
| URL: | http://d.repec.org/n?u=RePEc:imf:imfwpa:08/176&r=cba |
| By: | Bystedt, Brianne; Brito, Ricardo D. |
| Date: | 2008–10 |
| URL: | http://d.repec.org/n?u=RePEc:ibm:ibmecp:wpe_123&r=cba |
| By: | Athanasios Vamvakidis |
| Abstract: | The emerging European economies have been converging rapidly towards the more advanced European economies in recent years. However, large external imbalances in parts of the region have raised questions about sustainability and concerns about vulnerabilities. Empirical evidence in this paper suggest that the convergence trend of emerging Europe is based on strong fundamentals and is expected to continue, but at a slower pace. Moreover, the convergence path may be volatile as countries with large external imbalances adjust, with risks of a hard landing in some cases. |
| Keywords: | Europe , Emerging markets , Transition economies , Balance of payments , Economic growth , Current account balances , External debt , |
| Date: | 2008–07–21 |
| URL: | http://d.repec.org/n?u=RePEc:imf:imfwpa:08/181&r=cba |
| By: | Mark J Flanagan |
| Abstract: | On occasion, a government may find itself confronted with a need to address a large contingent or off balance sheet fiscal liability. Implementing a settlement raises issues of fiscal sustainability and macroeconomic stability. This paper surveys the key design issues, and draws lessons from recent Eastern European experience. It then considers in more detail the particular case of Ukraine, and how it might approach its own large contingent liability-the so-called lost savings-which at end-2007 amounted to as much as 18 percent of GDP. |
| Keywords: | Eastern Europe , Balance of payments deficits , Budget deficits , Fiscal sustainability , Debt management , Fiscal stability , Ukraine , |
| Date: | 2008–07–02 |
| URL: | http://d.repec.org/n?u=RePEc:imf:imfwpa:08/159&r=cba |
| By: | Jan P.A.M. Jacobs (University of Groningen, CAMA, CIRANO); Sturm Jan-Egbert (KOF Swiss Economic Institute, ETH Zurich, Switzerland and CESifo, Germany) |
| Abstract: | This paper analyses revisions of Swiss current account data, taking into account the actual data revision process and the implied types of revisions. In addition we investigate whether the first release of current account data can be improved upon by the use of survey re- sults as gathered by the KOF Swiss Economic Institute, ETH Zurich. An answer in the affirmative indicates that it is possible to improve first releases and thereby enhance the current assessment of the Swiss economy. |
| Keywords: | current account statistics, real-time analysis, data revisions |
| JEL: | C22 C53 C82 |
| Date: | 2008–07 |
| URL: | http://d.repec.org/n?u=RePEc:kof:wpskof:08-202&r=cba |
| By: | Selwyn Cornish |
| Keywords: | central banking, Reserve Bank of Australia, banking history and policy, Coombs, Theodore, Chifley. |
| JEL: | G21 G28 N27 |
| Date: | 2008–06 |
| URL: | http://d.repec.org/n?u=RePEc:auu:wpaper:003&r=cba |
| By: | Reza Siregar; Siwei Goo |
| Abstract: | The chief objective of our paper is to highlight basic features of the IT policies adopted by Indonesia and Thailand, and to evaluate their overall performances. These economies have seen their inflation rates to decline during the post-IT period, and pass-through rates for both tradable and non-tradable prices in the two emerging markets have also declined. More importantly, no trade-offs between output growth and inflation have been reported. The implementations of the IT policy in these two Southeast Asian economies have however largely been “flexible” rather than “strict”, seeking the balance between minimizing output gap and achieving price stability. |
| JEL: | E52 E58 F31 F33 |
| Date: | 2008–07 |
| URL: | http://d.repec.org/n?u=RePEc:acb:camaaa:2008-23&r=cba |
| By: | Kenji Moriyama |
| Abstract: | This paper investigates inflation dynamics in Sudan using three different approaches: the single equation model, the structural vector-auto regression model and a vector error correction model. This is the first study in a low-income and a post-conflict country that uses these three separate techniques to understand inflation dynamics. The use of these approaches is particularly useful to check the robustness of the estimated parameters in the model for a country with limited data coverage and possible structural breaks. The estimated results suggest that money supply growth and nominal exchange rate changes affect inflation with 18-24 months time lag. |
| Keywords: | Sudan , Inflation , Money supply , Real effective exchange rates , Monetary policy , Economic models , |
| Date: | 2008–07–28 |
| URL: | http://d.repec.org/n?u=RePEc:imf:imfwpa:08/189&r=cba |