nep-cba New Economics Papers
on Central Banking
Issue of 2009‒11‒14
39 papers chosen by
Alexander Mihailov
University of Reading

  1. Heeding Daedalus: Optimal inflation and the zero lower bound By John C. Williams
  2. Forecasting Inflation Using Dynamic Model Averaging By Gary Koop; Dimitris Korobilis
  3. Fire Sales in a Model of Complexity By Ricardo J. Caballero; Alp Simsek
  4. Nowcasting Euro Area Economic Activity in Real-Time: The Role of Confidence Indicators By Domenico Giannone; Lucrezia Reichlin; Saverio Simonelli
  5. On Stickiness, Cash in Advance, and Persistence By Stéphane Auray; Beatriz de Blas
  6. Nominal Rigidities, Monetary Policy and Pigou Cycles By Stéphane Auray; Paul Gomme; Shen Guo
  7. Inflation Volatility and Forecast Accuracy By Jamie Hall; Jarkko Jääskelä
  8. Output Persistence from Monetary Shocks with Staggered Prices or Wages under a Taylor Rule By Sebastiano Daros; Neil Rankin
  9. The Dynamic Properties of Alternative Assumptions on Price Adjustment in New Keynesian Models By Olivier Musy; Mohamed Safouane Ben Aïssa
  10. Common fluctuations in OECD budget balances By Christopher J. Neely; David E. Rapach
  11. Monetary and Fiscal Policy under Deep Habits By Campbell Leith; Ioana Moldovan; Raffaele Rossi
  12. Announcement effect and intraday volatility patterns of euro-dollar exchange rate : monetary policy news arrivals and short-run dynamic response. By Mokhtar Darmoul; Mokhtar Kouki
  13. Announcement effect and intraday volatility patterns of euro-dollar exchange rate : monetary policy news arrivals and short-run dynamic response By Mokhtar Darmoul; Mokhtar Kouki
  14. Electoral Uncertainty, the Deficit Bias and the Electoral Cycle in a New Keynesian Economy By Campbell Leith; Simon Wren-Lewis
  15. Designing monetary and Fiscal policy rules in a New Keynesian model with rule-of-thumb consumers By Raffaele Rossi
  16. The ‘Puzzles’ Methodology: En Route to Indirect Inference? By Vo Phuong Mai Le; Patrick Minford; Michael Wickens
  17. The Interest Rate — Exchange Rate Nexus: Exchange Rate Regimes and Policy Equilibria By Christoph Himmels; Tatiana Kirsanova
  18. “On the ‘Hot Potato Effect’ of Inflation: Intensive versus Extensive Margins” By Lucy Qian Liu; Liang Wang; Randall Wright
  19. International Portfolio Balance – Modeling the External Adjustment Process By Holinski Nils; Kool Clemens; Muysken Joan
  20. Inflation, Human Capital and Tobin's q By Parantap Basu; Max Gillman; Joseph Pearlman
  21. OCA cubed: Mundell in 3D By Michaela Krčílková; Jan Zápal
  22. On economic evaluation of directional forecasts By Oliver Blaskowitz; Helmut Herwartz
  23. Real-time datasets really do make a difference: definitional change, data release, and forecasting By Andres Fernandez; Norman R. Swanson
  24. News and Correlations of CEEC-3 Financial Markets By David Büttner; Bernd Hayo
  25. A Tale of Two Policies: Prudential Regulation and Monetary Policy with Fragile Banks By Ignazio Angeloni; Ester Faia
  26. The Effectiveness of Monetary Policy Reconsidered By John Weeks
  27. Setting an Agenda for Monetary Reform By Jane D'Arista
  28. Liquidity and the Dynamic Pattern of Asset Price Adjustment: A Global View By Ansgar Belke; Walter Orth; Ralph Setzer
  29. External imbalances and collateral constraints in a two-country world. By Eleni Iliopulos
  30. External imbalances and collateral constraints in a two-country world By Eleni Iliopulos
  31. On the GCC Currency Union By Weshah Razzak
  32. The Volatility of the Tradeable and Nontradeable Sectors: Theory and Evidence By Laura Povoledo
  33. The Suspension of the Gold Standard as Sustainable Monetary Policy By Elisa Newby
  34. Testable implications of general equilibrium models: an integer programming approach By Laurens CHERCHYE; Thomas DEMUYNCK; Bram DE ROCK
  35. Decision theory under ambiguity By Johanna Etner; Meglena Jeleva; Jean-Marc Tallon
  36. Exchange Rate Regimes in the Asia-Pacific Region and the Global Financial Crisis By McKibbin, Warwick J.; Chanthapun, Waranya Pim
  37. Real Convergence, Capital Flows, and Competitiveness in Central and Eastern Europe By Ansgar Belke; Gunther Schnabl; Holger Zemanek
  38. Thirty Years of Currency Crises in Argentina: External Shocks or Domestic Fragility? By Graciela Kaminsky; Amine Mati; Nada Choueiri
  39. Determination of the real exchange rate of rouble and assessment of long-rum policy of real exchange rate targeting By Sossounov, Kirill; Ushakov, Nikolay

  1. By: John C. Williams
    Abstract: This paper reexamines the implications of the zero lower bound on interest rates for monetary policy and the optimal choice of steady-state inflation in light of the experience of the recent global recession. There are two main findings. First, the zero lower bound did not materially contribute to the sharp declines in output in the United States and many other economies through the end of 2008, but it is a significant factor slowing recovery. Model simulations imply that an additional 4 percentage points of rate cuts would have kept the unemployment rate from rising as much as it has and would bring the unemployment and inflation rates more quickly to steady-state values, but the zero bound precludes these actions. This inability to lower interest rates comes at the cost of $1.7 trillion of foregone output over four years. Second, if recent events are a harbinger of a significantly more adverse macroeconomic climate than experienced over the preceding two decades, then a 2 percent steady-state inflation rate may provide an inadequate buffer to keep the zero bound from having noticeable deleterious effects on the macroeconomy assuming the central bank follows the standard Taylor Rule. In such an adverse environment, stronger systematic countercyclical fiscal policy and/or alternative monetary policy strategies can mitigate the harmful effects of the zero bound with a 2 percent inflation target. However, even with such policies, an inflation target of 1 percent or lower could entail significant costs in terms of macroeconomic volatility.
    Keywords: Monetary policy ; Fiscal policy ; Liquidity (Economics)
    Date: 2009
  2. By: Gary Koop (Department of Economics, University of Strathclyde and RCEA); Dimitris Korobilis (Department of Economics, University of Strathclyde and RCEA)
    Abstract: There is a large literature on forecasting inflation using the generalized Phillips curve (i.e. using forecasting models where inflation depends on past inflation, the unemployment rate and other predictors). The present paper extends this literature through the use of econometric methods which incorporate dynamic model averaging. These not only allow for coefficients to change over time (i.e. the marginal effect of a predictor for inflation can change), but also allows for the entire forecasting model to change over time (i.e. different sets of predictors can be relevant at different points in time). In an empirical exercise involving quarterly US inflation, we fi…nd that dynamic model averaging leads to substantial forecasting improvements over simple benchmark approaches (e.g. random walk or recursive OLS forecasts) and more sophisticated approaches such as those using time varying coefficient models.
    Keywords: Option Pricing; Modular Neural Networks; Non-parametric Methods
    JEL: E31 E37 C11 C53
    Date: 2009–01
  3. By: Ricardo J. Caballero; Alp Simsek
    Abstract: Financial assets provide return and liquidity services to their holders. However, during severe financial crises many asset prices plummet, destroying their liquidity provision function at the worst possible time. In this paper we present a model of fire sales and market breakdowns, and of the financial amplification mechanism that follows from them. The distinctive feature of our model is the central role played by endogenous complexity: As asset prices implode, more “banks†within the financial network become distressed, which increases each (non-distressed) bank’s likelihood of being hit by an indirect shock. As this happens, banks face an increasingly complex environment since they need to understand more and more interlinkages in making their financial decisions. This complexity brings about confusion and uncertainty, which makes relatively healthy banks, and hence potential asset buyers, reluctant to buy since they now fear becoming embroiled in a cascade they do not control or understand. The liquidity of the market quickly vanishes and a financial crisis ensues. The model exhibits a powerful “complexity-externality.†As a potential asset buyer chooses to pull back, the size of the cascade grows, which increases the degree of complexity of the environment. This rise in perceived complexity induces other healthy banks to pull back, which exacerbates the fire sale and the cascade.
    JEL: D8 E0 E5 G1
    Date: 2009–11
  4. By: Domenico Giannone (ECARES, Université Libre de Bruxelles and CEPR); Lucrezia Reichlin (London Business School and CEPR); Saverio Simonelli (Università di Napoli Federico II, EUI and CSEF)
    Abstract: This paper assesses the role of surveys for the early estimates of GDP in the euro area in a model-based automated procedures which exploits the timeliness of their release. The analysis is conducted using both an historical evaluation and a real time case study on the current conjuncture.
    Keywords: Forecasting; factor model; real time data; large data sets; survey
    JEL: E52 C33 C53
    Date: 2009–11–06
  5. By: Stéphane Auray (Université Lille 3 (GREMARS), Université de Sherbrooke (GREDI) and CIRPÉE); Beatriz de Blas (Universidad Autonoma de Madrid, Departamento de Analisis Economico)
    Abstract: This paper shows that a model which combines sticky prices and sticky wages with investment in the cash-in-advance constraint generates business cycle dynamics consistent with empirical evidence. The model reproduces the responses of the key macroeconomic variables to technology and money supply shocks; in particular, it generates enough output and in°ation persistence with standard stickiness parameters. This setup is also able to generate the liquidity effect after a money injection, overcoming a weakness in standard new Keynesian models. When taken to the data, the model explains qualitatively well the US postwar period, and does quantitatively better for the great in°ation of the 70s.
    Keywords: sticky prices, sticky wages, monetary facts, labor market facts, cash-in-advance
    JEL: E32 E41 E52
    Date: 2009–09–01
  6. By: Stéphane Auray (Université Lille 3 (GREMARS), Université de Sherbrooke (GREDI) and CIRPÉE); Paul Gomme (Concordia University, CIREQ); Shen Guo (China Academy of Public Finance and Public Policy, Central University of Finance and Economics, Beijing, China)
    Abstract: A chief goal of the Pigou cycle literature is to generate a boom in response to news of a future increase in productivity, and a bust if this improvement does not in fact take place. We nd that monetary policy can generate Pigou cycles in a two sector model with durables and non-durables, and nominal price rigidities { even when the Ramsey-optimal policy displays no such cycles. Estimated interest rate rules are a good t to data simulated under the Ramsey policy, implying that policymakers could come close to replicating the Ramsey-optimal policy.
    Keywords: Pigou cycles; monetary policy
    JEL: E3 E4 E5
    Date: 2009–09–01
  7. By: Jamie Hall (Reserve Bank of Australia); Jarkko Jääskelä (Reserve Bank of Australia)
    Abstract: This paper examines the statistical properties of inflation in a sample of inflation-targeting and non-inflation-targeting countries. First, it analyses the time-varying volatility of a measure of the persistent component of inflation. Based on this measure, inflation-targeting countries (Australia, Canada, New Zealand, Sweden and the United Kingdom) have experienced a relatively more pronounced fall in the volatility of inflation than non-inflation-targeting countries (Austria, France, Germany, Japan and the United States). But it is hard to say whether inflation is more volatile in inflation-targeting or non-inflation-targeting countries. Second, it analyses whether inflation became easier to forecast after the introduction of inflation targeting. It finds that inflation became easier to forecast in both inflation-targeting and non-inflation-targeting countries; the improvement was greater for the former group but forecast errors remain smaller for the latter group.
    Keywords: inflation; time series econometrics
    JEL: C53 E37
    Date: 2009–10
  8. By: Sebastiano Daros; Neil Rankin
    Abstract: We analytically examine output persistence from monetary shocks in a DSGE model with staggered prices or wages under a Taylor Rule for monetary policy. The best known such model assumes Calvo-style staggering of prices and flexible wages and is known to yield no persistence under a Taylor Rule. Switching to Taylor-style staggering introduces lagged output into the model’s ‘New Keynesian Phillips Curve’ equation. Despite this, we show it generates no persistence, whether staggering is in wages or prices. Surprisingly, however, Calvo-style staggering of wages does generate persistence, if there are decreasing returns to labour.
    Keywords: Output Persistence, Staggered Prices/Wages, Taylor Rule.
    JEL: E32 E52
    Date: 2009–05
  9. By: Olivier Musy; Mohamed Safouane Ben Aïssa
    Abstract: This paper presents a classification of the different new Phillips curves existing in the literature as a set of choices based on three assumptions: the choice of the structure of price adjustments (Calvo or Taylor), the presence of backward indexation, and the type of price contracts (fixed prices or predetermined prices). The paper suggests study of the dynamic properties of each specification, following different monetary shocks on the growth rate of the money stock. We develop the analytical form of the price dynamics, and we display graphics for the responses of prices, output, and inflation. We show that the choice made for each of the three assumptions has a strong influence on the dynamic properties. Notably, the choice of the price structure, while often considered as unimportant, is indeed the most influential choice concerning the dynamic responses of output and inflation.
    Keywords: New Keynesian Phillips Curves, Taylor Price Rule, Calvo Price Rule, Fixed Prices, Predetermined Prices, Disinflation policy.
    JEL: E31 E52
    Date: 2009
  10. By: Christopher J. Neely; David E. Rapach
    Abstract: We analyze comovements in four measures of budget surpluses for 18 OECD countries for 1980-2008 with a dynamic latent factor model. The world factor in national budget surpluses declines substantially in the 1980s, rises throughout much of the 1990s to a peak in 2000, before declining again in the most recent period. This world factor explains a substantial portion of the variability in budget surpluses across countries. World factors in national output gaps, dividend-price ratios, and military spending significantly explain variation in the world budget surplus factor. The significant relationship between national output gaps and OECD measures of cyclically adjusted budget surpluses suggests that such cyclical measures inadequately adjust for the international business cycle. Sizable fluctuations in idiosyncratic components of national budget surpluses often readily relate to well known "unusual" country circumstances.
    Keywords: Budget ; Organisation for Economic Co-operation and Development
    Date: 2009
  11. By: Campbell Leith; Ioana Moldovan; Raffaele Rossi
    Abstract: Recent work on optimal policy in sticky price models suggests that demand management through fiscal policy adds little to optimal monetary policy. We explore this consensus assignment in an economy subject to ‘deep’ habits at the level of individual goods where the counter-cyclicality of mark-ups this implies can result in government spending crowding-in private consumption in the short run. We explore the robustness of this mechanism to the existence of price discrimination in the supply of goods to the public and private sectors. We then describe optimal monetary and fiscal policy in our New Keynesian economy subject to the additional externality of deep habits and explore the ability of simple (but potentially non¬linear) policy rules to mimic fully optimal policy.
    Keywords: Monetary Policy, Fiscal Policy, Deep Habits, New Keynesian.
    JEL: E21 E63 E61
    Date: 2009–09
  12. By: Mokhtar Darmoul (Centre d'Economie de la Sorbonne); Mokhtar Kouki (LEGI-Ecole Polytechnique de Tunis)
    Abstract: In this article, we examine the announcement effect of news relating to the monetary policies of the ECB and the FED and resulting from the official meetings of the Council of the governors and the FOMC on intraday volatility of the foreign exchange rate euro-dollar at five minutes of intervals. The results show that the news of the monetary policy of the ECB relative to its Target interest rates are more significant and more influential on the level of intraday volatility than those of the monetary policy of the FED relative to its federal funds rate. In spite of the reduced number of these news, their effect appears statistically significant during the years of the sample of foreign exchange rate euro-dollar selected. We also introduced a polynomial structure which enables us to take into account the short-run response patterns and to highlight a possible dissymmetry in the effect of each variable of signal on the volatility of foreign exchange rate euro-dollar.
    Keywords: Announcement effect, forex, news, exchange rate.
    JEL: C15 E44 F31 G14
    Date: 2009–08
  13. By: Mokhtar Darmoul (CES - Centre d'économie de la Sorbonne - CNRS : UMR8174 - Université Panthéon-Sorbonne - Paris I); Mokhtar Kouki (LEGI - Ecole Polytechnique de Tunisie)
    Abstract: Dans cet article, nous examinons l'effet d'annonce des news relatifs aux politiques monétaires de la BCE et de la FED issus des réunions officielles du Conseil des gouverneurs et du FOMC sur la volatilité intrajournalière du taux de change euro-dollar à cinq minutes d'intervalles. Les résultats montrent que les news de la politique monétaire de la BCE relatifs à ses taux d'intérêt Target sont plus significatifs et plus influents sur le niveau de la volatilité intrajournalière que ceux de la politique monétaire de la FED relatifs à son taux des fonds fédéraux. Malgré le nombre réduit de ces news, leur effet apparaît statistiquement significatif au cours des années de l'échantillon du taux de change euro-dollar choisi. Nous avons également introduit une structure polynomiale qui permet de prendre en compte la persistance de court terme et de mettre en évidence une possible dissymétrie dans l'effet de chaque variable de signal sur la volatilité du taux de change euro-dollar.
    Keywords: Effet d'annonce ; forex ; news ; taux de change.
    Date: 2009–08
  14. By: Campbell Leith; Simon Wren-Lewis
    Abstract: Recent attempts to incorporate optimal fiscal policy into New Keynesian models subject to nominal inertia, have tended to assume that policy makers are benevolent and have access to a commitment technology. A separate literature, on the New Political Economy, has focused on real economies where there is strategic use of policy instruments in a world of political conflict. In this paper we combine these literatures and assume that policy is set in a New Keynesian economy by one of two policy makers facing electoral uncertainty (in terms of infrequent elections and an endogenous voting mechanism). The policy makers generally share the social welfare function, but differ in their preferences over fiscal expenditure (in its size and/or composition). We use this model to examine three issues that arise from either literature. First, we consider the extent to which electoral competition gives rise to a debt or deficit bias, as one party seeks to win elections and tie the hands of a potential successor, when all debt is defined in nominal terms. Second we examine the extent and nature of the electoral cycle introduced by having two parties reflecting different preferences over either the composition or amount of government spending. Third, we examine whether electoral competition has any impact on the conventional business cycle stabilisation policy, compared to the standard analysis that assumes a single benevolent government.
    Keywords: New Keynesian model, Government debt, Monetary policy, Fiscal policy, Electoral uncertainty, Time consistency
    JEL: E62 E63
    Date: 2009
  15. By: Raffaele Rossi
    Abstract: This paper develops a small New Keynesian model augmented with a steady state level of public debt and a share of rule-of-thumb consumers (ROTC henceforth) as in Gali' et al. (2004; 2007). The paper focuses on the consequences for the design of monetary and fiscal rules, of the bifurcation generated by the presence of ROTC on the demand side of the economy, in the absence of Ricardian equivalence. We find that, when fiscal policy follows a balanced budget rule, the amount of ROTC determines whether an active and/or a passive monetary policy in the sense of Leeper (1991) guarantees determinacy. When short run public debt assets are introduced, the amount of ROTC determines whether equilibrium determinacy requires a mix of active (passive) monetary policy and a passive (active) fiscal policy or a mix where policies are both active or passive. This set of equilibria has the potential to explain the empirical evidence on the U.S. postwar data on monetary and fiscal policy interactions.
    Keywords: Rule-of-thumb consumers, monetary-?scal iteractions, balanced budget rule, Taylor principle, active-passive policy mix
    JEL: E32 E62 H30
    Date: 2009–11
  16. By: Vo Phuong Mai Le; Patrick Minford; Michael Wickens
    Abstract: We review the methods used in many papers to evaluate DSGE models by comparing their simulated moments with data moments. We compare these with the method of Indirect Inference to which they are closely related. We illustrate the comparison with contrasting assessments of a two-country model in two recent papers. We conclude that Indirect Inference is the proper end point of the puzzles methodology.
    Keywords: Bootstrap, US-EU Model, DSGE, VAR, Indirect Inference, Wald Statistic, Anomaly, Puzzle.
    JEL: C12 C32 C52 E1
    Date: 2009–09
  17. By: Christoph Himmels; Tatiana Kirsanova
    Abstract: We study a credible Markov-perfect monetary policy in an open New Keynesian economy with incomplete finacial markets. We demonstrate the existence of two discretionary equilibria. Following a shock the economy can be stabilised either 'quickly' or 'slow', both dynamic paths satisfy conditions of optimality and time-consistency. The model can help us to understand sudden change of the interest rate and exchange rate volatility in 'tranquil' and 'volatile' regimes even under a fully credible 'soft peg' of the nominal exchange rate in developing countries.
    Keywords: Small Open Economy, Incomplete Financial Markets, Discretionary Monetary Policy, Multiple Equilibria.
    JEL: E31 E52 E58 E61 C61 F4
    Date: 2009–08
  18. By: Lucy Qian Liu (International Monetary Fund, Wash D.C.); Liang Wang (Department of Economics, University of Pennsylvania); Randall Wright (Department of Economics, University of Wisconsin-Madison)
    Abstract: Conventional wisdom is that inflation makes people spend money faster, trying to get rid of it like a “hot potato,” and this is a channel through which inflation affects velocity and welfare. Monetary theory with endoge- nous search intensity seems ideal for studying this. However, in standard models, inflation is a tax that lowers the surplus from monetary exchange and hence reduces search effort. We replace search intensity with a free entry (participation) decision for buyers - i.e., we focus on the extensive rather than intensive margin - and prove buyers always spend their money faster when inflation increases. We also discuss welfare.
    Keywords: Search, Money, Inflation, Velocity, Free Entry
    JEL: E40 E50 E31
    Date: 2009–11–04
  19. By: Holinski Nils; Kool Clemens; Muysken Joan (METEOR)
    Abstract: Unprecedented growth in private cross-border asset trade and asymmetric internationalbalance sheets are well-documented stylized facts of financial integration. Moreover, weobserve that current accounts are no longer the number one determinant of external balances. Advancing the work of Blanchard et al. (2005), this paper develops a portfolio-balance model that recognizes these stylized facts and shows how they influence the joint dynamics of the current account, the exchange rate and relative asset prices. Calibrating the model to the external adjustment process of the US, the model produces results that are broadly consistent with recent empirical trends. In particular, we find that the composition of its international balance sheet helps the US to better cope with external shocks.
    Keywords: international economics and trade ;
    Date: 2009
  20. By: Parantap Basu; Max Gillman; Joseph Pearlman
    Abstract: A pervasive empirical finding for the US economy is that inflation is negatively correlated with the normalized market price of capital (Tobin's q) and growth. A dynamic stochastic general equilibrium model of endogenous growth is developed to explain these stylized facts. In this model, human capital is the principal driver of self-sustained growth. Long run comparative statics analysis suggests that inflation diverts scarce time resource to leisure which lowers human capital utilization. This impacts growth adversely and modulates cap¬ital adjustment cost downward resulting in a decline in Tobin's q. For the short run, a Tobin effect of inflation on growth weakens the negative association between inflation and q.
    Date: 2009–05
  21. By: Michaela Krčílková (Czech University of Life Sciences Prague,Faculty of Economics and Management); Jan Zápal (Institute of Economic Studies, Faculty of Social Sciences, Charles University, Prague, Czech Republic; London School of Economics and Political Science)
    Abstract: This paper intends to fill two gaps in the Optimal Currency Area literature. First of all, Mundell's original idea has very little formalmodel theoretical underpinning. Second, it almost exclusively views countries contemplating monetary unification as single economies. We question this view and expand the model to incorporate the division of an economy into three sectors. In the empirical part of the paper, we follow recent OCA empirici literature and investigate the correlation of shocks between the individual new EU member countries and the `EU-core'. Treating the whole economy as one sector this is a standard exercise. However, since the three-sector version of our model provides a natural metric on which to assess the appropriateness of unification, we are able to repeat the exercise treating each country's economy as a collection of three distinct sectors. In the paper we test for the different reactions of stock markets to the current financial crisis. We focus on Central European stock markets, namely the Czech, Polish and Hungarian ones, and compare them to the German and U.S. benchmark stock markets. Using wavelet analysis, we decompose a time series into frequency components called scales and measure their energy contribution. The energy of a scale is proportional to its wavelet variance. The decompositions of the tested stock markets show changes in the energies on the scales during the current financial crisis. The results indicate that each of the tested stock markets reacted differently to the current financial crisis. More important, Central European stock markets seem to have strongly different behaviour during the crisis.
    Keywords: OCA, supply and demand shocks, VAR decomposition, new EU member states
    JEL: E32 F15 F40
    Date: 2009–10
  22. By: Oliver Blaskowitz; Helmut Herwartz
    Abstract: It is commonly accepted that information is helpful if it can be exploited to improve a decision mak- ing process. In economics, decisions are often based on forecasts of up{ or downward movements of the variable of interest. We point out that directional forecasts can provide a useful framework to assess the economic forecast value when loss functions (or success measures) are properly formu- lated to account for realized signs and realized magnitudes of directional movements. We discuss a general approach to evaluate (directional) forecasts which is simple to implement, robust to outlying or unreasonable forecasts and which provides an economically interpretable loss/success functional framework. As such, the measure of directional forecast value is a readily available alternative to the commonly used squared error loss criterion.
    Keywords: Directional forecasts, directional forecast value, forecast evaluation, economic forecast value, mean squared forecast error, mean absolute forecast error
    JEL: C52 E17 E27 E37 E47 F17 F37 F47
    Date: 2009–10
  23. By: Andres Fernandez; Norman R. Swanson
    Abstract: In this paper, the authors empirically assess the extent to which early release inefficiency and definitional change affect prediction precision. In particular, they carry out a series of ex-ante prediction experiments in order to examine: the marginal predictive content of the revision process, the trade-offs associated with predicting different releases of a variable, the importance of particular forms of definitional change, which the authors call "definitional breaks," and the rationality of early releases of economic variables. An important feature of our rationality tests is that they are based solely on the examination of ex-ante predictions, rather than being based on in-sample regression analysis, as are many tests in the extant literature. Their findings point to the importance of making real-time datasets available to forecasters, as the revision process has marginal predictive content, and because predictive accuracy increases when multiple releases of data are used when specifying and estimating prediction models. The authors also present new evidence that early releases of money are rational, whereas prices and output are irrational. Moreover, they find that regardless of which release of our price variable one specifies as the "target" variable to be predicted, using only "first release" data in model estimation and prediction construction yields mean square forecast error (MSFE) "best" predictions. On the other hand, models estimated and implemented using "latest available release" data are MSFE-best for predicting all releases of money. The authors argue that these contradictory findings are due to the relevance of definitional breaks in the data generating processes of the variables that they examine. In an empirical analysis, they examine the real-time predictive content of money for income, and they find that vector autoregressions with money do not perform significantly worse than autoregressions, when predicting output during the last 20 years.
    Keywords: Economic forecasting ; Econometrics
    Date: 2009
  24. By: David Büttner (Faculty of Business Administration and Economics, Philipps Universitaet Marburg); Bernd Hayo (Faculty of Business Administration and Economics, Philipps Universitaet Marburg)
    Abstract: We investigate conditional correlations between six CEEC-3 financial markets estimated by DCC-MGARCH models. In general, the highest correlations exist between Hungary and Poland in foreign exchange and stock markets. Short-term money markets are rather isolated from each other. We find that the associations of CEEC-3 exchange rates versus the euro are weaker than those versus the US dollar. The persistence of the effect of shocks on the timevarying correlations is strongest for foreign exchange and stock markets, indicating a tendency toward contagion. In searching for the origins of financial market volatility in the CEEC-3, we uncover some evidence of Granger-causality on the foreign exchange markets. Finally, using a pool model, we investigate the impact of euro area, US, and CEEC-3 news on the correlations. Apart from ECB monetary policy news, we observe no broad effects of international news on correlations; instead, local news exerts an influence, which suggests adominance of country- or market-specific circumstances.
    Keywords: Financial markets, Czech Republic, Hungary, Poland, political news, macroeconomic shocks, contagion, DCC-MGARCH
    JEL: G12 G15 F30
    Date: 2009
  25. By: Ignazio Angeloni; Ester Faia
    Abstract: We introduce banks, modeled as in Diamond and Rajan (JoF 2000 or JPE 2001), into a standard DSGE model and use this framework to study the role of banks in the transmission of shocks, the effects of monetary policy when banks are exposed to runs, and the interplay between monetary policy and Basel-like capital ratios. In equilibrium, bank leverage depends positively on the uncertainty of projects and on the bank’s "relationship lender" skills, and negatively on short term interest rates. A monetary restriction reduces leverage, while a productivity or asset price boom increases it. Procyclical capital ratios are destabilising; monetary policy can only partly offset this effect. The best policy combination includes mildly anticyclical capital ratios and a response of monetary policy to asset prices or leverage
    Keywords: capital requirements, leverage, bank runs, combination policy, market liquidity
    Date: 2009–10
  26. By: John Weeks
    Abstract: <p>In this PERI Working Paper, John Weeks inspects the standard policy rule that under a flexible exchange rate regime with perfectly elastic capital flows, monetary policy is effective, and fiscal policy is not. The logical validity of the statement requires that the effect of an exchange rate change on the domestic price level be ignored. The price level effect is noted in some textbooks, but not formally analyzed. When it is subjected to a rigorous analysis, the interaction between changes in the exchange rate and the domestic price level significantly alters the standard policy rule.</p> According to Weeks, the more accurate statement would be: under a flexible exchange rate regime with perfectly elastic capital flows <i>the effectiveness of monetary policy depends on the values of the import share and the sum of the trade elasticities.</i> Inspection of data from developing countries indicates the effectiveness of monetary policy under flexible exchange rates can be quite low, even if capital flows are perfectly elastic.   
    Date: 2009
  27. By: Jane D'Arista
    Abstract: The monetary policy that culminated in the current crisis and the failure of the Federal Reserve’s efforts to end the credit freeze in 2008 are critical components of the analysis needed as a backdrop for reform. This working paper argues that the link between excess liquidity, the buildup in debt, the asset bubbles that debt created and the financial crisis that followed are outcomes of monetary as well as regulatory policy failures; that they reflect a substantial weakening in the Fed’s ability to implement countercyclical initiatives. D'Arista argues that the effectiveness of monetary policy can, and must, be restored. She proposes a new system of reserve management that assesses reserves against assets rather than deposits and applies reserve requirements to all segments of the financial sector. She concludes that a change in the current system for implementing monetary policy is needed to end the credit crunch, address the impact of the current crisis on the financial sector and the economy and ensure the success of any fiscal stimulus that will be undertaken.
    Keywords: Federal Reserve System, monetary policy, reserve requirements, financial crisis.
    Date: 2009
  28. By: Ansgar Belke; Walter Orth; Ralph Setzer
    Abstract: Global liquidity expansion has been very dynamic since 2001. Contrary to conventional wisdom, high money growth rates have not coincided with a concurrent rise in goods prices. At the same time, however, asset prices have increased sharply, significantly outpacing the subdued development in consumer prices. We investigate the interactions between money and goods and asset prices at the global level. Using aggregated data for major OECD countries, our VAR results support the view that different price elasticities on asset and goods markets explain the observed relative price change between asset classes and consumer goods.
    Keywords: Global liquidity, inflation control, monetary policy transmission, asset prices
    JEL: E31 E52 F01 F42
    Date: 2009
  29. By: Eleni Iliopulos (Centre d'Economie de la Sorbonne - Paris School of Economics)
    Abstract: In this article, we focus on current account dynamics in large open economies characterized by debt-constrained heterogeneous agents and endogenous monetary policies. We incorporate three key features that have bulked large in the New Open Macroeconomics literature : i) home bias in trade, ii) price rigidities, and iii) durable goods (real properties). In order to limit agents' willingness to consume and to (partially) insure creditors against the risk of default, we incorporate collateral constraints. We show that the impatience of collateral-constrained agents can be at the roots of permanent external imbalances. Indeed our model has a unique and dynamically determinate steady state, which is characterized by a positive level of debt. Our framework allows us to analyze the linkage between exchange rates, real assets and international capital flows. We focus on this mechanism so as to track the (international) transmission of shocks and the implications for the monetary policy. We show how developments hitting the house market can affect current account and exchange rate dynamics.
    Keywords: Open economy, durable goods, collateral constraints, sticky prices, simple monetary rules.
    JEL: E52 F32 F37 F41
    Date: 2009–10
  30. By: Eleni Iliopulos (CES - Centre d'économie de la Sorbonne - CNRS : UMR8174 - Université Panthéon-Sorbonne - Paris I, EEP-PSE - Ecole d'Économie de Paris - Paris School of Economics - Ecole d'Économie de Paris, CEPREMAP - Centre pour la recherche économique et ses applications)
    Abstract: In this article, we focus on current account dynamics in large open economies characterized by debt-constrained heterogeneous agents and endogenous monetary policies. We incorporate three key features that have bulked large in the New Open Macroeconomics literature : i) home bias in trade, ii) price rigidities, and iii) durable goods (real properties). In order to limit agents' willingness to consume and to (partially) insure creditors against the risk of default, we incorporate collateral constraints. We show that the impatience of collateral-constrained agents can be at the roots of permanent external imbalances. Indeed our model has a unique and dynamically determinate steady state, which is characterized by a positive level of debt. Our framework allows us to analyze the linkage between exchange rates, real assets and international capital flows. We focus on this mechanism so as to track the (international) transmission of shocks and the implications for the monetary policy. We show how developments hitting the house market can affect current account and exchange rate dynamics.
    Keywords: Open economy ; durable goods ; collateral constraints ; sticky prices ; simple monetary rules
    Date: 2009–10
  31. By: Weshah Razzak
    Abstract: Essentially, the impact of the currency union on member countries depends on whether the common currency area is optimal in the sense that the effect of the asymmetric shocks is small, Mundell (1961). Typically, researchers use VAR of different types to analyze the data. For robustness, we use different methodologies. First, we use different estimators to estimate a small textbook model for the panel of the Gulf Cooperation Council countries (GCC) from 1970 to 2006, where the short-run equilibrium real output and the real exchange rate are determined by the intersection of the assets and goods markets equilibrium schedules. And the central bank fixes the exchange rate by keeping the money supply at a level where the domestic interest rate is equal to the foreign interest rate. Then we test for symmetry using the nonparametric Triples test, Randles et al. (1980). Third, we introduce a nonparametric multivariate statistic to test whether the variances of the shocks (the conditional variance) are equal across countries.
    Keywords: Optimum Currency Area, asymmetrical shocks and conditional variance
    JEL: F31 P28 C13 C33
    Date: 2009–02–11
  32. By: Laura Povoledo
    Abstract: This paper investigates the business cycle fluctuations of the tradeable and nontradeable sectors of the US economy. Then, it evaluates whether a “New Open Economy” model having prices sticky in the producer’s currency can re¬produce the observed fluctuations qualitatively. The answer is positive: both in the model and in the data the standard deviations of tradeable inflation, out¬put and employment are significantly higher than the standard deviations of the corresponding nontradeable sector variables. A key role in generating this result is played by the greater responsiveness of tradeable sector variables to monetary shocks.
    Keywords: New Open Economy Macroeconomics, Tradeable and Nontradeable Sectors, Business Cycles.
    JEL: F41 E32
    Date: 2009–02
  33. By: Elisa Newby
    Abstract: This paper models the gold standard as a state contingent commitment technology that is only feasible during peace. Monetary policy during war, when the gold convertibility rule suspended, can still be credible, if the policy maker’s plan is to resume the gold standard in the future. The DGE model developed in this paper suggests that the resumption of the gold standard was a sustainable plan, which replaced the gold standard as a commitment technology and made monetary policy time consistent. Trigger strategies support the equilibrium: private agents retaliate if a policy maker defaults its plan to resume the gold standard.
    Keywords: Time Consistency, Monetary Policy, Monetary Regimes.
    JEL: C61 E31 E4 E5 N13
    Date: 2009–06
  34. By: Laurens CHERCHYE; Thomas DEMUYNCK; Bram DE ROCK
    Abstract: Focusing on the testable implications on the equilibrium manifold, we show that the rationalizability problem is NP-complete. Subsequently, we present an integer programming (IP) approach to characterizing general equilibrium models. This approach avoids the use of the Tarski-Seidenberg algorithm for quantifier elimination that is commonly used in the literature. The IP approach naturally applies to settings with any number of observations, which is attractive for empirical applications. In addition, it can easily be adjusted to analyze the testable implications of alternative general equilibrium models (that include, e.g., public goods, externalities and/or production). Further, we show that the IP framework can easily address recoverability questions (pertaining to the structural model that underlies the observed equilibrium behavior), and account for empirical issues when bringing the IP methodology to the data (such as goodness-of-fit and power). Finally, we show how to develop easy-to-implement heuristics that give a quick (but possibly inconclusive) answer to whether or not the data satisfy the general equilibrium models.
    Keywords: General equilibrium, equilibrium manifold, exchange economies, production economies, NP-completeness, nonparametric restrictions, GARP, integer programming.
    JEL: C60 D10 D51
    Date: 2009–07
  35. By: Johanna Etner (CERSES - Centre de recherche sens, ethique, société - CNRS : UMR8137 - Université Paris Descartes - Paris V); Meglena Jeleva (GAINS - Université du Maine); Jean-Marc Tallon (CES - Centre d'économie de la Sorbonne - CNRS : UMR8174 - Université Panthéon-Sorbonne - Paris I, EEP-PSE - Ecole d'Économie de Paris - Paris School of Economics - Ecole d'Économie de Paris)
    Abstract: We review recent advances in the field of decision making under uncertainty or ambiguity.
    Keywords: Ambiguity, ambiguity aversion, uncertainty, decision.
    Date: 2009–10
  36. By: McKibbin, Warwick J. (Australian National University); Chanthapun, Waranya Pim (Australian National University)
    Abstract: Rising economic integration in Asia and periodic volatility in global and national financial markets raise the issue of the optimal degree and form of monetary cooperation among Asian economies. There is a large literature on the benefits and costs of monetary cooperation, however, less can be found with a specific focus on Asia. A number of studies have explored whether Asia might form an optimal currency area, although these have focused on the nature of shocks, in particular business cycle correlations, as well as the extent of trade linkages among economies. Less has been done on the impact of portfolio shifts and financial shocks, and how these shocks impact on financial cooperation. <p> This paper has two goals. The first is to explore the impacts of the current global financial crisis on Asian economies under existing monetary and exchange rate arrangements. The second is to explore how alternative forms of cooperation and exchange rate regimes might change the economic outcomes in Asia. In particular, the paper explores the impact of current regimes compared to one of three hypothetical regimes: (i) all countries peg to the US dollar, (ii) all Asian economies are in an Asian Currency Union with an Asian Central Bank setting policy, or (iii) floating exchange rates with each central bank in Asia independently choosing optimal time-consistent, close-loop policy rules to target a loss function consisting of deviation in inflation and output growth from desired levels.
    Keywords: Monetary cooperation; exchange rates; financial crisis
    JEL: E27 E42 E44 E52 E58 F41 F42
    Date: 2009–10–01
  37. By: Ansgar Belke; Gunther Schnabl; Holger Zemanek
    Abstract: The paper scrutinizes the role of wages and capital flows for competitiveness in the new EU member states in the context of real convergence. For this purpose it extends the seminal Balassa-Samuelson model by international capital markets. The augmented Balassa-Samuelson model is linked to the monetary overinvestment theories of Wicksell and Hayek in order to trace cyclical deviations of real exchange rates from the productivity-driven equilibrium path. Panel estimations for the period from 1993 to 2008 reveal mixed evidence for the role of capital markets for both the economic catch-up process and international competitiveness of the Central and Eastern European countries.
    Keywords: Exchange rate regime, wages, Central and Eastern Europe, EMU accession, panel model
    JEL: E24 F16 F31 F32
    Date: 2009
  38. By: Graciela Kaminsky; Amine Mati; Nada Choueiri
    Abstract: This paper examines Argentina’s currency crises from 1970 to 2001, with particular attention to the role of domestic and external factors. Using VAR estimations, we find that deteriorating domestic fundamentals matter. For example, at the core of the late 1980s crises was excessively loose monetary policy while a sharp output contration triggered the collapse of the currency board in January 2002. In contrast, adverse external shocks were at the heart of the 1995 crisis, with spillovers from the Mexican crisis and high world interest rates being key sources of financial distress.
    JEL: F3 F30 F32 F34
    Date: 2009–11
  39. By: Sossounov, Kirill; Ushakov, Nikolay
    Abstract: The equilibrium real exchange rate of Russian ruble is estimated for the period from the beginning of 1995 to the beginning of 2008. According to the methodological approach proposed by Edwards (1988) the equilibrium real exchange rate is a function of a set of fundamental variables (so-called “reduced form equation”). In order to estimate an equilibrium real exchange rate a set of fundamentals was selected: terms of trade, productivity differential, fiscal policy variable. Estimation was performed in a cointegrated VAR framework using the Johansen cointegration test. The speed of adjustment of the actual real exchange rate to the equilibrium real exchange rate as well as the influence of monetary policy and private capital flows on the short-run dynamics of real exchange rate is explored.
    Keywords: macroeconomics; real exchange rate; Russia
    JEL: C51 E00
    Date: 2009–05–01

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