nep-cba New Economics Papers
on Central Banking
Issue of 2010‒03‒28
39 papers chosen by
Alexander Mihailov
University of Reading

  1. Globalization, Pass-Through and Inflation Dynamics By Pierpaolo Benigno; Ester Faia
  2. Fiscal Calculus in a New Keynesian Model with Matching Frictions By Alessia Campolmi; Ester Faia; Roland Winkler
  3. On the Solvency of Nations: Are Global Imbalances Consistent with Intertemporal Budget Constraints? By Ceyhun Bora Durdu; Marco Terrones; Enrique G. Mendoza
  4. Price Level Targeting: What Is the Right Price? By Malik Shukayev; Alexander Ueberfeldt
  5. Lessons and Policy Implications from the Global Financial Crisis By Luc Laeven; Deniz Igan; Stijn Claessens; Giovanni Dell'Ariccia
  6. Structural Models in Real Time By Jaromir Benes; Marianne Johnson; Kevin Clinton; Troy Matheson; Douglas Laxton
  7. Bank Credit during the 2008 Financial Crisis: A Cross-Country Comparison By Ari Aisen; Michael Franken
  8. Business Cycles around the Globe: A Regime Switching Approach By Sumru Altug; Melike Bildirici
  9. The Global Integrated Monetary and Fiscal Model (GIMF) – Theoretical Structure By Michael Kumhof; Dirk Muir; Susanna Mursula; Douglas Laxton
  10. Asymmetric standing facilities: an unexploited monetary policy tool By Gabriel Perez-Quiros; Hugo Rodríguez Mendizábal
  11. Limits of Arbitrage: The State of the Theory By Dimitri Vayanos; Denis Gromb
  12. Short-Term Inflation Projections: a Bayesian Vector Autoregressive Approach By Domenico Giannone; Michele Lenza; Daphne Momferatu; Luca Onorante
  13. The Fiscal Multiplier and Spillover in a Global Liquidity Trap By Ippei Fujiwara; Kozo Ueda
  14. Alternative Optimized Monetary Policy Rules in Multi-Sector Small Open Economies: The Role of Real Rigidities By Carlos de Resende; Ali Dib; Maral Kichian
  15. Optimal Monetary Policy with Overlapping Generations of Policymakers By Maral Shamloo
  16. A "quantum" approach to rational inattention By Saint-Paul, Gilles
  17. Determinacy and sunspots in a nonlinear monetary model By Alessandra Cornaro; Anna Agliari
  18. Interest rate pass-through in the major European economies - the role of expectations By Anindya Banerjee; Victor Bystrov; Paul Mizen
  19. Simulating Inflation Forecasting in Real-Time: How Useful Is a Simple Phillips Curve in Germany, the UK, and the US? By Jens R. Clausen; Bianca Clausen
  20. Do Currency Fundamentals Matter for Currency Speculators? By Masahiro Nozaki
  21. Production, Hidden Action, and the Payment System By Chao Gu; Joseph H. Haslag; Mark Guzman
  22. Taking Monetary Aggregates Seriously By Pierre Siklos
  23. New Keynesian Dynamics in a Low Interest Rate Environment By R. Anton Braun; Lena Mareen Korber
  24. The Effects of Monetary Policy Commitment: Evidence from Time- varying Parameter VAR Analysis By Jouchi Nakajima; Shigenori Shiratsuka; Yuki Teranishi
  25. Optimal Monetary Policy with Durable Consumption Goods and Factor Demand Linkages By Petrella, Ivan; Santoro, Emiliano
  26. Inflation Targeting and the Crisis: An Empirical Assessment By Irineu E. Carvalho Filho
  27. Dissecting Taylor Rules in a Structural VAR By Yi Wen; Woon Gyu Choi
  28. Policy Measures to Alleviate Foreign Currency Liquidity Shortages under Aggregate Risk with Moral Hazard By Hiroshi Fujiki
  29. European Monetary Policy and the ECB Rotation Model: Voting Power of the Core versus the Periphery By Ansgar Belke; Barbara von Schnurbein
  30. Policy Rules, Regime Switches, and Trend Inflation: An Empirical Investigation for the U.S. By E. Castelnuovo; L. Greco; D. Raggi
  31. Solving forward-looking models of cross-country adjustment within the euro area By Andrzej Torój
  32. Fiscal policies in Europe and the United States during the Great Depression By Ilja Kristian Kavonius
  33. Monetary Policy Strategies in the Asia and Pacific Region: What Way Forward? By Hans Genberg
  34. Forecasting Inflation in Mexico Using Factor Models: Do Disaggregated CPI Data Improve Forecast Accuracy? By Raúl Ibarra-Ramírez
  35. Financial asset prices, linear and nonlinear policy rules. An In-sample assessment of the reaction function of the South African Reserve Bank By Ruthira Naraidoo; Kasai Ndahiriwe
  36. Forecasting Monetary Rules in South Africa By Ruthira Naraidoo; Ivan Paya
  37. The Credit Channel and Monetary Transmission in Brazil and Chile: A Structured VAR Approach By Luis Catão; Adrian Pagan
  38. A Model for Full-Fledged Inflation Targeting and Application to Ghana By Jihad Dagher; Ondra Kamenik; Ali Alichi; Kevin Clinton; Marshall Mills; Douglas Laxton
  39. Monetary Policy Transmission in Mauritius Using a VAR Analysis By Charalambos G. Tsangarides

  1. By: Pierpaolo Benigno; Ester Faia
    Abstract: An important aspect of the globalization process is the increase in interdependence among countries through the deepening of trade linkages. This process should increase competition in each destination market and change the pricing behavior of firms. We present an extension of Dornbusch (1987)’s model to analyze the extent to which globalization, interpreted as an increase in the number of foreign products in each destination market, modifies the slope and the position of the New-Keynesian aggregate-supply equation and, at the same time, affects the degree of exchange-rate pass-through. We provide empirical evidence that supports the results of our model
    Date: 2010–03
  2. By: Alessia Campolmi; Ester Faia; Roland Winkler
    Abstract: The endorsement of expansionary fiscal packages has often been based on the idea that large multipliers can contrast rising unemployment. Is that really the case? We explore those issues in a New Keynesian model in which unemployment arises because of matching frictions. We compare fiscal packages with different targets (pure demand stimuli versus subsidy to cost of hiring) and of government funding (lump sum taxation versus distortionary taxation). We find that in presence of demand stimuli fiscal multipliers are zero and even turn negative when financed with distortionary taxation. On the other side, in a model with a non-Walrasian labor market, policies aimed at reducing labor wedges, such as cost of hiring, are particularly effective in boosting employment and output
    Keywords: fiscal calculus, taxation, matching frictions
    JEL: E62 E63 E24
    Date: 2010–03
  3. By: Ceyhun Bora Durdu; Marco Terrones; Enrique G. Mendoza
    Abstract: Theory predicts that a nation's stochastic intertemporal budget constraint is satisfied if net exports (NX) and net foreign assets (NFA) satisfy an error-correction specification with a residual integrated of any finite order. We test this hypothesis using data for 21 industrial and 29 emerging economies for the 1970-2004 period to search for existence of negative relationship between NX and NFA. The results show that, despite the large global imbalances of recent years, NX and NFA positions are consistent with external solvency. Pooled Mean Group error-correction estimation yields evidence of a statistically significant, negative response of the NX-GDP ratio to the NFA-GDP ratio that is largely homogeneous across countries.
    Keywords: Balance of payments positions , Cross country analysis , Current account , Debt sustainability , Developed countries , Economic models , Emerging markets , International financial system , Time series ,
    Date: 2010–02–26
  4. By: Malik Shukayev; Alexander Ueberfeldt
    Abstract: Various papers have suggested that Price-Level targeting is a welfare improving policy relative to Inflation targeting. From a practical standpoint, this raises an important yet unanswered question: What is the optimal price index to target? This paper derives the optimal price level targeting index defined over the eight main components of the Consumer Price Index. It finds that such an index places a heavier weight, relative to the expenditure weight, on sectors with slow price adjustments. However, using the expenditure weights instead of the optimal ones results in very small welfare cost.
    Keywords: Monetary policy framework
    JEL: E32 E52
    Date: 2010
  5. By: Luc Laeven; Deniz Igan; Stijn Claessens; Giovanni Dell'Ariccia
    Abstract: The ongoing global financial crisis is rooted in a combination of factors common to previous financial crises and some new factors. The crisis has brought to light a number of deficiencies in financial regulation and architecture, particularly in the treatment of systemically important financial institutions, the assessments of systemic risks and vulnerabilities, and the resolution of financial institutions. The global nature of the financial crisis has made clear that financially integrated markets, while offering many benefits, can also pose significant risks, with large real economic consequences. Deep reforms are therefore needed to the international financial architecture to safeguard the stability of an increasingly financially integrated world.
    Keywords: Asset prices , Bank regulations , Bank supervision , Central bank role , Financial crisis , Financial sector , Fiscal policy , Fiscal reforms , Global Financial Crisis 2008-2009 , International financial system , Intervention , Liquidity management , Price increases , Stabilization measures ,
    Date: 2010–02–22
  6. By: Jaromir Benes; Marianne Johnson; Kevin Clinton; Troy Matheson; Douglas Laxton
    Abstract: This paper outlines a simple approach for incorporating extraneous predictions into structural models. The method allows the forecaster to combine predictions derived from any source in a way that is consistent with the underlying structure of the model. The method is flexible enough that predictions can be up-weighted or down-weighted on a case-by-case basis. We illustrate the approach using a small quarterly structural and real-time data for the United States.
    Keywords: Economic forecasting , Economic indicators , Economic models , Monetary policy ,
    Date: 2010–03–09
  7. By: Ari Aisen; Michael Franken
    Abstract: This paper empirically estimates the main determinants of bank credit growth during the 2008 financial crisis. Using a sample covering over 80 countries, this paper finds that larger bank credit booms prior to the crisis and lower GDP growth of trading partners are among the most important determinants of the post-crisis bank credit slowdown. Structural variables such as financial depth and integration were also relevant. Finally, countercyclical monetary policy and liquidity played a critical role in alleviating bank credit contraction after the 2008 financial crisis, suggesting that countries should pursue appropriate institutional and macroeconomic frameworks conducive to countercyclical monetary policies.
    Keywords: Bank credit , Banking systems , Business cycles , Credit expansion , Cross country analysis , Economic growth , Economic integration , Economic models , Financial crisis , Global Financial Crisis 2008-2009 , Liquidity , Monetary policy ,
    Date: 2010–02–25
  8. By: Sumru Altug (Koc University); Melike Bildirici
    Abstract: This paper characterizes business cycle phenomena in a sample of 22 developed and developing economies using a univariate Markov regime switching approach. It examines the efficacy of this approach for detecting business cycle turning points and for identifying distinct economic regimes for each country in question. The paper also provides a comparison of the business cycle turning points implied by this study and those derived in other studies and by other methods. Our findings document the importance of heterogeneity of individual countries’ experiences. We also argue that consideration of a large and diverse group of countries provides an alternative perspective on the co-movement of aggregate economic activity worldwide.
    Keywords: Markov switching approach, business cycles, turning point analysis, nonparametric modelling
    JEL: E32 E37 C32
    Date: 2010–03
  9. By: Michael Kumhof; Dirk Muir; Susanna Mursula; Douglas Laxton
    Abstract: This working paper presents a comprehensive overview of the theoretical structure of the Global Integrated Monetary and Fiscal Model (GIMF), a multi-region dynamic general equilibrium model that is used by the IMF for a variety of tasks including policy analysis, risk analysis, and surveillance.
    Keywords: Banking sector , Central banks , Corporate sector , Cross country analysis , Economic integration , Economic models , Fiscal policy , Monetary policy , Private consumption , Private investment , Private savings , Private sector ,
    Date: 2010–02–17
  10. By: Gabriel Perez-Quiros (Banco de España); Hugo Rodríguez Mendizábal (Instituto de Análisis Económico (CSIC))
    Abstract: This paper analyzes the role of standing facilities in the determination of the demand for reserves in the overnight money market. In particular, we study how the asymmetric nature of the deposit and lending facilities could be used as a powerful policy tool for the simultaneous control of prices and quantities in the market for daily funds.
    Keywords: Monetary policy implementation, standing facilities, overnight interest rates, fine tuning operations
    JEL: E52 E58 E43
    Date: 2010–03
  11. By: Dimitri Vayanos; Denis Gromb
    Abstract: We survey theoretical developments in the literature on the limits of arbitrage. This literature investigates how costs faced by arbitrageurs can prevent them from eliminating mispricings and providing liquidity to other investors. Research in this area is currently evolving into a broader agenda emphasizing the role of financial institutions and agency frictions for asset prices. This research has the potential to explain so-called \\market anomalies¶ and inform welfare and policy debates about asset markets. We begin with examples of demand shocks that generate mispricings, arguing that they can stem from behavioral or from institutional considerations. We next survey, and nest within a simple model, the following costs faced by arbitrageurs: (i) risk, both fundamental and non-fundamental, (ii) short-selling costs, (iii) leverage and margin constraints, and (iv) constraints on equity capital. We finally discuss implications for welfare and policy, and suggest directions for future research.
    Date: 2010–03
  12. By: Domenico Giannone; Michele Lenza; Daphne Momferatu; Luca Onorante
    Abstract: In this paper, we construct a large Bayesian Vector Autoregressive model (BVAR) for the Euro Area that captures the complex dynamic inter-relationships between the main components of the Harmonized Index of Consumer Price (HICP) and their determinants. The model is estimated using Bayesian shrinkage. We evaluate the model in real time and find that it produces accurate forecasts. We use the model to study the pass-through of an oil shock and to study the evolution of inflation during the global financial crisis.
    Date: 2010
  13. By: Ippei Fujiwara (Director, Financial Markets Department, Bank of Japan (E-mail: ippei.fujiwara; Kozo Ueda (Director, Institute for Monetary and Economic Studies, Bank of Japan (E-mail: kouzou.ueda
    Abstract: We consider the fiscal multiplier and spillover in an environment in which two countries are caught simultaneously in a liquidity trap. Using an optimizing two-country sticky price model, we show that the fiscal multiplier and spillover are contrary to those predicted in textbook economics. For the country with government expenditure, the fiscal multiplier exceeds one, the currency depreciates, and the terms of trade worsen. The fiscal spillover is negative if the intertemporal elasticity of substitution in consumption is less than one and positive if the parameter is greater than one. Incomplete stabilization of marginal costs due to the existence of the zero lower bound is a crucial factor in understanding the effects of fiscal policy in open economies.
    Keywords: Zero lower bound, two-country model, fiscal policy, beggar-thy-neighbor
    JEL: E52 E62 E63 F41
    Date: 2010–03
  14. By: Carlos de Resende; Ali Dib; Maral Kichian
    Abstract: Inflation-targeting central banks around the world often state their inflation objectives with regard to the consumer price index (CPI). Yet the literature on optimal monetary policy based on models with nominal rigidities and more than one sector suggests that CPI inflation is not always the best choice from a social welfare perspective. We revisit this issue in the context of an estimated multi-sector New-Keynesian small open economy model where sectors are heterogeneous along multiple dimensions. With key parameters of the model estimated using data from an inflation targeting economy, namely Canada, we particularly focus on (i) the role of sector-specific real rigidities, specially in the form of factor mobility costs, and (ii) welfare implications of targeting alternative price indices. Our estimations reveal considerable heterogeneity across sectors, and in several dimensions. Moreover, in contrast to existing studies, our welfare analysis comparing simple optimized policy rules based on alternative sectoral inflation rates provides support for CPI-based targeting policies by central banks. Capital mobility costs matter importantly in this regard.
    Keywords: Inflation: costs and benefits; Inflation and prices; Inflation targets; Monetary policy framework; Monetary policy implementation
    JEL: E4 E52 F3 F4
    Date: 2010
  15. By: Maral Shamloo
    Abstract: In this paper I study the effect of imperfect central bank commitment on inflationary outcomes. I present a model in which the monetary authority is a committee that consists of members who serve overlapping, finite terms. Older and younger generations of Monetary Policy Committee (MPC) members decide on policy by engaging in a bargaining process. I show that this setup gives rise to a continuous measure of the degree of monetary authority's commitment. The model suggests that the lower the churning rate or the longer the tenure time, the closer social welfare will be to that under optimal commitment policy.
    Keywords: Economic models , Governance , Monetary authorities , Monetary policy , Russian Federation ,
    Date: 2010–02–16
  16. By: Saint-Paul, Gilles
    Abstract: In this paper, I propose a model of rational inattention where the choice variable is a deterministic function of the exogenous variables, and still only a finite amount of information is being used. This holds provided the choice variable is discrete rather than continuous; that is, the mapping from the realization of the exogenous variables to the endogenous ones is piece-wise constant. Thus, limited information is now a source of lumpiness in behavior, rather than a source of noise. A central result is that the mutual information between the exogenous variable and the endogenous one is simply equal to the entropy, in the usual discrete sense, of the endogenous variable. The approach is illustrated with two applications: a general linear-quadratic problem with a uniform distribution, and a simple static model of price-setting where individual price setters face aggregate monetary shocks and idiosyncratic productivity shocks.
    JEL: D8 E3
    Date: 2010–03–02
  17. By: Alessandra Cornaro (DISCE, Università Cattolica); Anna Agliari (DISCE, Università Cattolica)
    Abstract: In this paper we analyze a basic sticky price model with monopolistic competition and price stickiness à la Calvo. Starting by the relations describing a general economic equilibrium model (see Woodford in Interest and Prices, Foundations of a Theory of Monetary Policy, The MIT Press, 2003), as it results from the optimizing behavior of the private agents, we provide a nonlinear model for the monetary policy analysis. This kind of model is a candidate for the existence of multiple equilibria, with a dependence of exogenous sunspots. We explore the stability of such a model combined with interest rate rules in order to investigate the determinacy of the model and we find, for some policy and elasticity parameters, the conditions under which it is possible.
    Keywords: Monetary policy; Nonlinear models; Determinacy; Sunspots
    JEL: E52 C62
    Date: 2010–02
  18. By: Anindya Banerjee; Victor Bystrov; Paul Mizen
    Abstract: Much of the literature on interest rate pass through assumes banks set retail rates in relation to contemporary market rates. We argue that future rates also matter, and if forecasts of future rates are included, the empirical specifications of many previous studies are misspecified. Including forecasts rquires careful choice of the data and models used to make forecasts: a large number of variables could influence future market rates, suggesting that factor forecasts method may be an appropriate method to consider. We evaluate forecasts before including them in a model of retail rate adjustment for five interest rates in five European countries and the euro area as a whole. We find a significant role for forecasts of future interest rates in determining short- and long-run pass through, and we show that models which do not include future rates do not provide accurate estimates.
    Keywords: forecasting, factor models, interest rate pass-through
    JEL: C32 C53 E43 E47
    Date: 2010–02
  19. By: Jens R. Clausen; Bianca Clausen
    Abstract: This paper simulates out-of-sample inflation forecasting for Germany, the UK, and the US. In contrast to other studies, we use output gaps estimated with unrevised real-time GDP data. This exercise assumes an information set similar to that available to a policymaker at a given point in time since GDP data is subject to sometimes substantial revisions. In addition to using real-time datasets for the UK and the US, we employ a dataset for real-time German GDP data not used before. We find that Phillips curves based on ex post output gaps generally improve the accuracy of inflation forecasts compared to an AR(1) forecast but that real-time output gaps often do not help forecasting inflation. This raises the question how operationally useful certain output gap estimates are for forecasting inflation.
    Keywords: Cross country analysis , Economic forecasting , Economic growth , Germany , Gross domestic product , Inflation , United Kingdom , United States ,
    Date: 2010–02–26
  20. By: Masahiro Nozaki
    Abstract: The answer seems affirmative. We compare currency carry trades with an investment strategy based on currency fundamentals: taking a long (short) position in undervalued (overvalued) currencies. Carry trades have high risk-adjusted returns, but are subject to "crash risk." In contrast, the fundamental strategy has lower risk-adjusted returns, but is less prone to crash risk, because the realization of crash risk coincides with corrections towards fundamentals. In particular, the fundamental strategy outperformed carry trades during the recent global financial crisis. Building on these results, we present early warning indicators for potential turbulence in the currency market.
    Keywords: Asset management , Currencies , Economic models , Exchange rate assessments , Investment , Real effective exchange rates , Terms of trade ,
    Date: 2010–02–19
  21. By: Chao Gu (Department of Economics, University of Missouri-Columbia); Joseph H. Haslag (Department of Economics, University of Missouri-Columbia); Mark Guzman
    Abstract: In this paper, we study a model economy that can account for the distribution of payments within a day. In our model, debtors choose when to arrive at the settlement location. Concomitant with choosing their arrival, debtors are making a production decision. We assume there is a cost to arriving early; that is, late-arrival is associated with a technology that dominates early arrival/production. Second, we treat the debtor's choice as hidden from creditors. We derive conditions under which the planner allocates production to each type of agents. In the decentralized setting, there is a nonarbitrage condition that is consistent with a positive intraday rate. The central bank may be able to implement the planner's allocation with a proper intraday interest rate. In some cases, the optimal intraday rate is positive.
    Keywords: Friedman rule; discount window policy; payment system, intraday rate, settlement risk .
    JEL: E31 E51 E58
    Date: 2010–03–15
  22. By: Pierre Siklos (Wilfrid Laurier University)
    Abstract: In response to the recent financial crisis, central banks around the world, including the Bank of Canada, have provided markets with extraordinary levels of liquidity. As the economic recovery takes hold, the question arises of what the increased liquidity, through higher money growth, portends for the near future. The supply of and demand for money carries information on the outlook for inflation and economic growth. Current evidence suggests a rebound in economic growth and inflationary pressure unless the Bank begins to rein in money growth. The Bank of Canada should provide some guidance on its thinking on the behaviour of monetary and credit aggregates and what it entails for inflation and economic growth.
    Keywords: Monitary Policy, Bank of Canada, monetary aggregates, money gap estimate, central bank policy
    JEL: E58 E52 E51
    Date: 2010–03
  23. By: R. Anton Braun (University of Tokyo (E-mail:; Lena Mareen Korber (German Institute for Economic Research (E-mail:
    Abstract: Recent research has found that the dynamics of the New Keynesian model are very different when the nominal interest rate is zero. Improvements in technology shocks and reductions in the labor tax rate lower economic activity and the size of the government purchase multiplier can be as large as four. We consider the empirical relevance of these dynamics using Japanese data. Japan is interesting because it experienced a protracted period of zero nominal interest rates. A prototypical New Keynesian model calibrated to Japan and solved using nonlinear methods exhibits orthodox dynamics with a government purchase multiplier that is less than one.
    Keywords: Government purchases, zero nominal interest rates, monetary policy
    JEL: E3 E5 E6
    Date: 2010–03
  24. By: Jouchi Nakajima (Currently in the Personnel and Corporate Affairs Department (studying at Duke University, E-mail:; Shigenori Shiratsuka (Deputy Director-General, Institute for Monetary and Economic Studies, Bank of Japan (E-mail:; Yuki Teranishi (Associate Director, Institute for Monetary and Economic Studies, Bank of Japan (E-mail:
    Abstract: In this paper, we explore the effects of the Bank of Japan's ( BOJ's) policy commitment under zero interest rates on the economy, by considering the transmission channel of altering private-sector expectations. To that end, we carry out a structural vector autoregression analysis on macroeconomic variables and private-sector expectations variables, using a time-varying parameters estimation technique with stochastic volatility. We show empirical evidence on two points. First, the BOJ's policy commitment regarding the future course of short-term interest rates, associated with only a small reduction in policy interest rates, succeeded in altering private-sector expectations. Second, the BOJ's policy commitment alone, nevertheless, was not sufficient to restore the previous trends in prices and output.
    Keywords: Policy commitment, policy duration effect, expectations management, Bayesian estimation, time-varying parameter vector autoregression with stochastic volatility
    JEL: C11 C13 E43 E44 E52 E58
    Date: 2010–03
  25. By: Petrella, Ivan; Santoro, Emiliano
    Abstract: This paper deals with the implications of factor demand linkages for monetary policy design. We consider a dynamic general equilibrium model with two sectors that produce durable and non-durable goods, respectively. Part of the output of each sector serves as a production input in both sectors, in accordance with a realistic input-output structure. Strategic complementarities induced by factor demand linkages significantly alter the transmission of exogenous shocks and amplify the loss of social welfare under optimal monetary policy, compared to what is observed in standard two-sector models. The distinction between value added and gross output that naturally arises in this context is of key importance to explore the welfare properties of the model economy. A flexible inflation targeting regime is close to optimal only if the central bank balances inflation and value added variability. Otherwise, targeting gross output variability entails a substantial increase in the loss of welfare.
    Keywords: Input-Output Interactions; Durable Goods; Optimal Monetary Policy
    JEL: E32 E23 E52
    Date: 2010–03–11
  26. By: Irineu E. Carvalho Filho
    Abstract: This paper appraises how countries with inflation targeting fared during the current crisis, with the goal of establishing the stylized facts that will guide and motivate future research. We find that since August 2008, IT countries lowered nominal policy rates by more and this loosening translated into an even larger differential in real interest rates relative to other countries; were less likely to face deflation scares; and saw sharp real depreciations not associated with a greater perception of risk by markets. We also find some weak evidence that IT countries did better on unemployment rates and advanced IT countries have had relatively stronger industrial production performance. Finally, we find that advanced IT countries had higher GDP growth rates than their non-IT peers, but find no such difference for emerging countries or the full sample.
    Keywords: Central banks , Cross country analysis , Deflation , Economic growth , Emerging markets , Financial crisis , Flexible exchange rates , Global Financial Crisis 2008-2009 , Industrial production , Inflation targeting , Monetary policy , Real effective exchange rates , Unemployment ,
    Date: 2010–02–23
  27. By: Yi Wen; Woon Gyu Choi
    Abstract: This paper uncovers Taylor rules from estimated monetary policy reactions using a structural VAR on U.S. data from 1959 to 2009. These Taylor rules reveal the dynamic nature of policy responses to different structural shocks. We find that U.S. monetary policy has been far more responsive over time to demand shocks than to supply shocks, and more aggressive toward inflation than output growth. Our estimated dynamic policy coefficients characterize the style of policy as a "bang-bang" control for the pre-1979 period and as a gradual control for the post-1979 period.
    Keywords: Economic models , Economic stabilization , External shocks , Inflation targeting , Interest rate policy , Monetary policy , Productivity , Stabilization measures ,
    Date: 2010–01–27
  28. By: Hiroshi Fujiki (Associate Director-General and Senior Monetary Affairs Department, Bank of Japan (E-mail: hiroshi.fujiki
    Abstract: During the recent global financial crisis, some central banks introduced two innovative cross-border operations to deal with the problems of foreign currency liquidity shortages: domestic liquidity operations using cross-border collaterals and operations for supplying foreign currency based on standing swap lines among central banks. We show theoretically that central banks improve the efficiency of equilibrium under foreign currency liquidity shortages by those two innovative temporary policy measures.
    Keywords: Standing swap lines, Operations supplying US dollar funds outside the US, Cross-border collateral arrangements
    JEL: E58 F31 F33
    Date: 2010–03
  29. By: Ansgar Belke; Barbara von Schnurbein
    Abstract: We analyze the ECB Governing Council's voting procedures. The literature has by now discussed numerous aspects of the rotation model but does not account for many institutional aspects of the voting procedure of the GC. Using the randomization scheme based on the multilinear extension (MLE) of games, we try to close three of these gaps. First, we integrate specific preferences of national central bank presidents, i.e. their desired interest rates. Second, we address the agenda-setting power of the ECB president. Third, we do not simulate an average of the decisions but look at every relevant point in time separately.
    Keywords: Euro area, European Central Bank, monetary policy, rotation, voting rights
    JEL: D72 D78 E58
    Date: 2010
  30. By: E. Castelnuovo; L. Greco; D. Raggi
    Abstract: This paper estimates Taylor rules featuring instabilities in policy parameters, switches in policy shocks' volatility, and time-varying trend inflation using post-WWII U.S. data. The model embedding the stochastic target performs better in terms of data-fit and identification of the changes in the FOMC's chairmanships. Policy breaks are found not to be synchronized with variations in policy shocks' volatilities. Finally, we detect a negative correlation between systematic monetary policy aggressiveness and inflation gap persistence.
    JEL: E52 E61 E62
    Date: 2010–02
  31. By: Andrzej Torój (Ministry of Finance, Poland)
    Abstract: This paper generalizes the standard methods of solving rational expectations models to the case of time-varying nonstochastic parameters, recurring in a finite cycle. Such a specification occurs in a simple stylized New Keynesian model of the euro area when we combine the rotation in the ECB Governing Council (as constituted by the Treaty of Nice) and home bias in the interest rate decisions taken by its members. In small and mid-size economies, this combination slightly increases output and inflation volatility, as compared to a monetary policy setup without rotation. The method of Christiano (2002) has also been applied to solve the model when we assume a lagged perception of foreign macroeconomic shocks by domestic agents. When the cross-country synchronization of shocks is low or moderate and when these shocks are relatively persistent, the exclusion of contemporaneous foreign shocks from domestic agents' information sets may raise the volatility of output. There is also some tentative evidence that this effect could particularly affect mid-size economies.
    Keywords: EMU, monetary policy, solving rational expectations models, generalized Schur decomposition, heterogeneity.
    JEL: C32 C61 E52 F15
    Date: 2009–09–04
  32. By: Ilja Kristian Kavonius
    Abstract: Abstract: This paper discusses the fiscal policy reactions and economic policies of European countries and the United States during the Great Depression. Economic as well as economic history literature has tended to overlook the fiscal policy aspects of the Great Depression, in particular in relation to European countries. This paper concentrates specifically on this aspect, providing a comprehensive discourse on the background of the crisis and using for analysis a data set compiled from available international sources. On this basis, central government reactions, mainly on the expenditure side, are analysed. Thus, this paper provides new information concerning the economic policies during the Great Depression and helps to understands how the Great Depression developed. The conclusion reached is that fiscal policies between the two World Wars were mainly neo-classical, i.e. expenditure reacted to the development of revenue. In certain European countries, for example the Netherlands and Sweden, some counter-cyclical fiscal policies can be observed. However, as the governments there were smaller and the effect therefore comparably limited, this did not play a key role in the economic recovery. Finally, the paper briefly discusses the similarities and differences between the Great Depression and the current crisis.
    Keywords: Great Depression, fiscal policy, counter-cyclical, Keynesian fiscal policy, neo-classical economic policy, economic policy
    JEL: N12 H30 N42 N44 H60 H50 N14 H62 H63
    Date: 2010–02–11
  33. By: Hans Genberg (Asian Development Bank Institute)
    Abstract: Monetary policy frameworks in the Asia and Pacific region have performed well in the past decade as judged by inflation outcomes. We argue that this is due to three principal factors: (i) central banks have focused on price stability as the primary objective of monetary policy, (ii) institutional setups have been put in place that are supportive of the central banks’ abilities to carry out their objectives, and (iii) economic policies in general have been supportive of the pursuit of price stability, in particular the adoption of prudent fiscal policies that have reduced concerns of fiscal dominance. The financial systems in the region have also held up well in the face of the current crisis, notwithstanding more adverse liquidity conditions in several markets and pressures on certain exchange rates that spilled over from the West. It may nevertheless be useful to ask whether changes in monetary policy frameworks should be contemplated. This paper concludes that: (i) for economies with well developed financial markets, there may be little value in using unconventional monetary policies in the absence of financial crises, because in normal times such policies are not likely to be effective and may further reduce the efficiency of the financial market; (ii) a good case can be made for elevating the role of the misalignment of asset prices (including exchange rates) and financial imbalances in the conduct of monetary policy; and (iii) financial stability should take on greater importance as an objective for public policy. Whether and how much of the financial stability objective should be assigned to the central bank is still an open question.
    Keywords: monetary policy, price stability, financial institutions, fiscal policy, financial crisis
    JEL: E52 E58
    Date: 2010
  34. By: Raúl Ibarra-Ramírez
    Abstract: In this paper we apply a dynamic factor model to generate out of sample forecasts for the inflation rate in Mexico. We evaluate the role of using a wide range of macroeconomic variables with particular interest on the importance of using CPI disaggregated data to forecast inflation. Our data set contains 54 macroeconomic series and 243 CPI subcomponents from 1988 to 2008. Our results indicate that: i) Factor models outperform the benchmark autoregressive model at horizons of one, two, four and six quarters, ii) Using disaggregated price data improves forecasting performance, and iii) The factors are related to key variables in the economy such as output growth and inflation.
    Keywords: Factor models, Inflation forecasting, Disaggregate information, Principal components, Forecast evaluation.
    JEL: C22 C53 E37
    Date: 2010–03
  35. By: Ruthira Naraidoo (Department of Economics, University of Pretoria); Kasai Ndahiriwe (Department of Economics, University of Pretoria)
    Abstract: In this paper we provide an in-sample assessment of how the South African Reserve Bank (SARB) sets policy rate in the context of both linear and nonlinear Taylor type rule models of monetary policy. Given the controversial debate on whether central banks should target asset prices for economic stability, we investigate whether the SARB policy-makers pay close attention to asset and financial markets in its policy decisions. The main findings are that the nonlinear Taylor rule improves its performance with the advent of the financial crisis, providing the best description of in-sample SARB interest rate setting behaviour. The SARB policy-makers pay close attention to the financial conditions index when setting interest rate. The SARB’s response of monetary policy to inflation is greater during business cycle recessions with not much weight on output and seems to place high importance on inflationary pressures of output during boom periods. The 2007-2009 financial crisis witnesses an overall decreased reaction to inflation, output and financial conditions amidst increased economic uncertainty, with a shift from an asymmetric response to financial conditions over recessions to a more symmetric response irrespectively of the state of the economy.
    Keywords: monetary policy, nonlinearity, financial conditions index
    JEL: C51 C52 C53 E52 E58
    Date: 2010–03
  36. By: Ruthira Naraidoo (Department of Economics, University of Pretoria); Ivan Paya (Department of Economics, Lancaster University)
    Abstract: This paper is the ?rst one to analyze the ability of linear and nonlinear monetary policy rule specifications as well as nonparametric and semiparametric models in forecasting the nominal interest rate setting that describes the South African Reserve Bank (SARB) policy decisions. We augment the traditional Taylor rule with indicators of asset prices in order to account for potential financial stability targets implicitly considered by the SARB. Using an in-sample period of 1986:01 to 2004:12, we compare the out-of-sample forecasting ability of the models over the period 2005:01 to 2008:12. Our results indicate that the semiparametric models perform particularly well relative to the Taylor rule models currently dominating the monetary policy literature, and that nonlinear Taylor rules improve their performance under the new monetary regime.
    Keywords: Monetary policy, Taylor rules, nonlinearity, nonparametric, semiparametric, forecasting
    JEL: C14 C51 C52 C53 E52 E58
    Date: 2010–03
  37. By: Luis Catão (IDB, IMF); Adrian Pagan (UNSW, QUT)
    Abstract: We use an expectation-augmented SVAR representation of an open economy New Keynesian model to study monetary transmission in Brazil and Chile. The underlying structural model incorporates key structural features of Emerging Market economies, notably the role of a bank-credit channel. We find that interest rate changes have swifter effects on output and inflation in both countries compared to advanced economies and that exchange rate dynamics plays an important role in monetary transmission, as currency movements are highly responsive to changes in in policy-controlled interest rates. We also find the typical size of credit shocks to have large effects on output and inflation in the two economies, being stronger in Chile where bank penetration is higher.
    Keywords: Monetary Policy, Bank Credit, VAR, Brazil, Chile
    JEL: C51 E31 E52
    Date: 2010–03–10
  38. By: Jihad Dagher; Ondra Kamenik; Ali Alichi; Kevin Clinton; Marshall Mills; Douglas Laxton
    Abstract: A model in which monetary policy pursues full-fledged inflation targeting adapts well to Ghana. Model features include: endogenous policy credibility; non-linearities in the inflation process; and a policy loss function that aims to minimize the variability of output and the interest rate, as well as deviations of inflation from the long-term low-inflation target. The optimal approach from initial high inflation to the ultimate target is gradual; and transitional inflation-reduction objectives are flexible. Over time, as policy earns credibility, expectations of inflation converge towards the long-run target, the output-inflation variability tradeoff improves, and optimal policy responses to shocks moderate.
    Keywords: Central banks , Disinflation , Economic models , External shocks , Ghana , Inflation rates , Inflation targeting , Low-income developing countries , Monetary policy , Public information , Transparency ,
    Date: 2010–01–29
  39. By: Charalambos G. Tsangarides
    Abstract: Applying commonly used vector autoregression (VAR) techniques, this paper investigates the transmission mechanism of monetary policy on output and prices for Mauritius, using data for 1999-2009. The results show that (i) an unexpected monetary policy tightening-an increase in the Bank of Mauritius policy interest rate-leads to a decline in prices and output but the effect on output is weaker; (ii) an unexpected decrease in the money supply or an unexpected increase in the nominal effective exchange rate result in a decrease in prices; and (iii) variations of the policy variables account for small a percentage of the fluctuations in output and prices. Taken together, these results suggest a rather weak monetary policy transmission mechanism. Finally, we find some differences in the transmission mechanism depending on whether core or headline consumer price index is used in the estimations.
    Keywords: Central bank policy , Consumer price indexes , Economic models , Interest rate increases , Mauritius , Monetary policy , Monetary policy instruments , Monetary transmission mechanism , Price adjustments ,
    Date: 2010–02–17

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