nep-cba New Economics Papers
on Central Banking
Issue of 2011‒04‒02
sixty-four papers chosen by
Alexander Mihailov
University of Reading

  1. Financial Crises and Macro-Prudential Policies By Gianluca Benigno; Huigang Chen; Christopher Otrok; Alessandro Rebucci; Eric Young
  2. Capital Injection, Monetary Policy, and Financial Accelerators By Naohisa Hirakata; Nao Sudo; Kozo Ueda
  3. Securitization markets and central banking: an evaluation of the term asset-backed securities loan facility By Sean Campbell; Daniel Covitz; William Nelson; Karen Pence
  4. How Can Commodity Exporters Make Fiscal and Monetary Policy Less Procyclical? By Frankel, Jeffrey A.
  5. A Lesson from the South for Fiscal Policy in the US and Other Advanced Countries By Frankel, Jeffrey A.
  6. Generalized Taylor and Generalized Calvo price and wage-setting: micro evidence with macro implications By Dixon, H.; Le Bihan, H.
  7. Commodity prices, commodity currencies, and global economic developments By Paolo A. Pesenti; Jan J.J. Groen
  8. Liquidity hoarding By Douglas Gale; Tanju Yorulmazer
  9. Why Are Some Prices Stickier Than Others? Firm-Data Evidence on Price Adjustment Lags By Daniel Dias; Carlos Robalo Marques; Fernando Martins; J.M.C.Santos Silva
  10. A structural model of central bank operations and bank intermediation By Ulrich Bindseil; Juliusz Jabłecki
  11. A Monetary Theory with Non-Degenerate Distributions By Guido Menzio; Shouyong Shi; Hongfei Sun
  12. What Drives the Relationship Between Inflation and Price Dispersion? Market Power vs. Price Rigidity By Sascha S. Becker
  13. Money Cycles By Clausen, Andrew; Strub, Carlo
  14. Choosing Between Time and State Dependence: Micro Evidence on Firms' Price-Reviewing Strategies By Daniel Dias; Carlos Robalo Marques; Fernando Martins
  15. New Indicators for Tracking Growth in Real Time By Troy Matheson
  16. Price Points and Price Rigidity By Daniel Levy; Dongwon Lee; Haipeng (Allan) Chen; Robert J. Kauffman; Mark Bergen
  17. Business as Usual: A Consumer Search Theory of Sticky Prices and Asymmetric Price Adjustment By Luís Cabral; Arthur Fishman
  18. Investment and interest rate policy in the open economy By Stephen McKnight
  19. Uninsured countercyclical risk: an aggregation result and application to optimal monetary policy By R. Anton Braun; Tomoyuki Nakajima
  20. The low-frequency impact of daily monetary policy shocks By Neville Francis; Eric Ghysels; Michael T. Owyang
  21. Imperfect Information and Saving in a Small Open Economy By Agustin Roitman; Christian Daude
  22. How useful are estimated DSGE model forecasts? By Rochelle M. Edge; Refet S. Gurkaynak
  23. A Century of Inflation Forecasts By D'Agostino, Antonello; Surico, Paolo
  24. Are Forecast Updates Progressive? By Chia-Lin Chang; Philip Hans Franses; Michael McAleer
  25. Price Setting and Price Adjustment in Some European Union Countries: Introduction to the Special Issue By Daniel Levy; Frank Smets
  26. Higher Order Expectations, Illiquidity, and Short-term Trading By Cespa, Giovanni; Vives, Xavier
  27. Current Account Rebalancing and Real Exchange Rate Adjustment Between the U.S. and Emerging Asia By Pau Rabanal; Damiano Sandri; Isabelle Méjean
  28. New perspectives on depreciation shocks as a source of business cycle fluctuations By Francesco Furlanetto; Martin Seneca
  29. Measuring Euro Area Monetary Policy Transmission in a Structural Dynamic Factor Model By Matteo Barigozzi; Antonio M. Conti; Matteo Luciani
  30. The Real Effects of Financial Sector Interventions During Crises By Luc Laeven; Fabian Valencia
  31. Real-Time Nowcasting of GDP: Factor Model versus Professional Forecasters By Liebermann, Joelle
  32. Inflationary effect of oil-price shocks in an imperfect market: a partial transmission input-output analysis By Libo Wu; Jing Li; ZhongXiang Zhang
  33. Input and output inventory dynamics By Yi Wen
  34. News and policy foresight in a macro-finance model of the US By Cristian Badarinza; Emil Margaritov
  35. Monetary Policy Transmission under Zero Interest Rates: An Extended Time-Varying Parameter Vector Autoregression Approach By Jouchi Nakajima
  36. Monopolistic Competition in General Equilibrium: Beyond the CES By Evgeny Zhelobodko; Sergey Kokovin; Mathieu Parenti; Jacques-François THISSE
  37. Fiscal policy in the EU in the crisis: a model-based approach By István P. Székely; Werner Roeger; Jan in 't Veld
  38. Unconventional Fiscal Policy at the Zero Bound By Isabel Horta Correia; Emmanuel Farhi; Juan Pablo Nicolini; Pedro Teles
  39. How Big (Small?) are Fiscal Multipliers? By Ethan Ilzetzki; Enrique G. Mendoza; Carlos A. Végh Gramont
  40. Fiscal shocks, public debt, and long-term interest rate dynamics By L. Marattin; P. Paesani; S. Salotti
  41. Fiscal Expectations Under the Stability and Growth Pact: Evidence from Survey Data By Marcos Poplawski-Ribeiro; Jan-Christoph Rulke
  42. Fiscal Consolidation in a Small Euro Area Economy By Vanda Almeida; Gabriela Lopes de Castro; Ricardo Mourinho Félix; José Ramos Maria
  43. How Strong are Fiscal Multipliers in the GCC? An Empirical Investigation By Raphael A. Espinoza; Abdelhak S Senhadji
  44. Fiscal policy and the labour market: the effects of public sector employment and wages By Pedro Gomes
  45. Fiscal Policy during Absorption Cycles By Ferhan Salman; Gabriela Dobrescu
  46. Leaning Against Boom-Bust Cycles in Credit and Housing Prices By Luisa Lambertini; Caterina Mendicino; Maria Tereza Punzi
  47. The EMU sovereign-debt crisis: Fundamentals, expectations and contagion By Michael G. Arghyrou; Alexandros Kontonikas
  48. Limits of Floating Exchange Rates: the Role of Foreign Currency Debt and Import Structure By Pascal Towbin; Sebastian Weber
  49. Temporal Aggregation and Purchasing Power Parity Persistence By Yamin Ahmad; William D. Craighead
  50. Ist die Währungsunion zu retten? Für einen anreizeffizienten Krisenmechanismus By Henning Klodt
  51. Determinants of Bank Credit in Emerging Market Economies By Vahram Stepanyan; Kai Guo
  52. Preferences for banking and payment services among low- and moderate-income households By Michael S. Barr; Jane K. Dokko; Eleanor M. Feit
  53. Emerging Contours of Financial Regulation: Challenges and Dynamics By Mohan, Rakesh
  54. Macro-financial vulnerabilities and future financial stress: assessing systemic risks and predicting systemic events By Marco Lo Duca; Tuomas A. Peltonen
  55. BASEL III: Long-term impact on economic performance and fluctuations By Angelini, P.; Clerc, L.; Cúrdia, V.; Gambacorta, L.; Gerali, A.; Locarno, A.; Motto, R.; Roeger, W.; Van den Heuvel, S.; Vlcek, J.
  56. About the Impact of Model Risk on Capital Reserves: A Quantitative Analysis. By Bertram, Philip; Sibbertsen, Philipp; Stahl, Gerhard
  57. Coordinating Regional and Multilateral Financial Institutions By C. Randall Henning
  58. The Impact of Cross-Border Banking on Financial Stability By Dirk Schoenmaker; Wolf Wagner
  59. Creating an EU-level supervisor for cross-border banking groups: Issues raised by the U.S. experience with dual banking By Larry D. Wall; María J. Nieto; David Mayes
  60. Time-Varying Parameter VAR Model with Stochastic Volatility: An Overview of Methodology and Empirical Applications By Jouchi Nakajima
  61. Effects of Fiscal Consolidation in the Czech Republic By Vladimir Klyuev; Stephen Snudden
  62. Exploring the Steady-State Relationship between Credit and GDP for a Small Open Economy - The Case of Ireland By Kelly, Robert; McQuinn, Kieran; Stuart, Rebecca
  63. Inflation Uncertainty and Relative Price Variability in WAEMU Countries By Kerstin Gerling; Carlos Fernandez Valdovinos
  64. Modeling Inflation in Chad By Tidiane Kinda

  1. By: Gianluca Benigno; Huigang Chen; Christopher Otrok; Alessandro Rebucci; Eric Young
    Abstract: Stochastic general equilibrium models of small open economies with occasionally binding financial frictions are capable of mimicking both the business cycles and the crisis events associated with the sudden stop in access to credit markets (Mendoza, 2010). This paper studies the inefficiencies associated with borrowing decisions in a two-sector small open production economy, finding that this economy is much more likely to display under-borrowing rather than over-borrowing in normal times. As a result, macro-prudential policies (e.g, Tobin taxes or economy-wide controls on capital inflows) are costly in welfare terms. Moreover, macro-prudential policies aimed at minimizing the probability of the crisis event might be welfare-reducing in production economies. The analysis shows that there is a much larger scope for welfare gains from policy interventions during financial crises. That is to say that, ex post or crisis-management policies dominate ex ante or macro-prudential ones.
    Keywords: Capital controls, Crises, Financial frictions, Macro-prudential policies, Bailouts, Overborrowing
    JEL: E52 F37 F41
    Date: 2011–02
  2. By: Naohisa Hirakata (Deputy Director and Economist, Research and Statistics Department, Bank of Japan (E-mail:; Nao Sudo (Deputy Director and Economist, Institute for Monetary and Economic Studies, Bank of Japan (E-mail:; Kozo Ueda (Director and Senior Economist, Institute for Monetary and Economic Studies, Bank of Japan (E-mail: kouzou.ueda
    Abstract: We evaluate the implications of spread-adjusted Taylor rules and capital injection policies in response to adverse shocks to the economy, using a variant of the financial accelerator model. Our model comprises the two credit-constrained sectors that raise external finance under the credit market imperfection: financial intermediaries (FIs) and entrepreneurs. Using a model calibrated to the United States, we find that a spread-adjusted Taylor rule mitigates (amplifies) the impact of adverse shocks when the shock is accompanied by a widening (shrinking) of the corresponding spread. We formalize a capital injection policy as a positive (negative) amount of injection to either of the two sectors in response to an adverse shock (a favorable shock). In contrast to a spread-adjusted Taylor rule, a positive injection boosts the economy regardless of the type of shock. The capital injection to the FIs has a greater impact on the economy compared with that to the entrepreneurs. Although the welfare implication of these policies varies depending on the source of economic downturn, our result shows more support for adopting the spread-adjusted Taylor rules than capital injections.
    Keywords: Financial Accelerators, Spread-adjusted Taylor rule, Capital Injection
    JEL: E31 F52
    Date: 2011–03
  3. By: Sean Campbell; Daniel Covitz; William Nelson; Karen Pence
    Abstract: In response to the near collapse of US securitization markets in 2008, the Federal Reserve created the Term Asset-Backed Securities Loan Facility, which offered non-recourse loans to finance investors' purchases of certain highly rated asset-backed securities. We study the effects of this program and find that it lowered interest rate spreads for some categories of asset-backed securities but had little impact on the pricing of individual securities. These findings suggest that the program improved conditions in securitization markets but did not subsidize individual securities. We also find that the risk of loss to the US government was small.
    Keywords: Asset-backed financing ; Mortgage-backed securities ; Financial crises ; Term Asset-Backed Securities Loan Facility
    Date: 2011
  4. By: Frankel, Jeffrey A. (Harvard University)
    Abstract: Fiscal and monetary policy each has a role to play in mitigating the volatility that stems from the large trade shocks hitting commodity-exporting countries. All too often macroeconomic policy is procyclical, that is, destabilizing, rather than countercyclical. This paper suggests two institutional innovations designed to achieve greater countercyclicality, one for fiscal policy and one for monetary policy. The proposal for fiscal policy is to emulate Chile's structural budget rule, and particularly its avoidance of over-optimism in forecasting. The proposal for monetary policy is called Product Price Targeting (PPT), an alternative to CPI-targeting that is designed to be more robust with respect to terms of trade shocks.
    Date: 2011–02
  5. By: Frankel, Jeffrey A. (Harvard University)
    Abstract: American fiscal policy has been procyclical: Washington wasted the expansion period 2001-2007 by running budget deficits, but by 2011 had come to feel constrained by inherited debt to withdraw fiscal stimulus. Chile has achieved countercyclical fiscal policy - saving in booms and easing in recession - during the same decade that rich countries forgot how to do so. Chile has a rule that targets a structural budget balance. But rules are not credible by themselves. In Europe and the U.S., official forecasts are overly optimistic in booms; so revenue is spent rather than saved. Chile avoids such wishful thinking by having independent panels of experts decide what is structural and what is cyclical.
    JEL: E62 F41 H50 O54
    Date: 2011–02
  6. By: Dixon, H.; Le Bihan, H.
    Abstract: The Generalized Calvo and the Generalized Taylor model of price and wage-setting are, unlike the standard Calvo and Taylor counterparts, exactly consistent with the distribution of durations observed in the data. Using price and wage micro-data from a major euro-area economy (France), we develop calibrated versions of these models. We assess the consequences for monetary policy transmission by embedding these calibrated models in a standard DSGE model. The Generalized Taylor model is found to help rationalizing the hump-shaped response of inflation, without resorting to the counterfactual assumption of systematic wage and price indexation.
    Keywords: Contract length, steady state, hazard rate, Calvo, Taylor, wage-setting, price-setting.
    JEL: E31 E32 E52 J30
    Date: 2011
  7. By: Paolo A. Pesenti; Jan J.J. Groen
    Abstract: In this paper we seek to produce forecasts of commodity price movements that can systematically improve on naive statistical benchmarks, and revisit the forecasting performance of changes in commodity currencies as efficient predictors of commodity prices, a view emphasized in the recent literature. In addition, we consider different types of factor-augmented models that use information from a large data set containing a variety of indicators of supply and demand conditions across major developed and developing countries. These factor-augmented models use either standard principal components or partial least squares (PLS) regression to extract dynamic factors from the data set. Our forecasting analysis considers ten alternative indices and sub-indices of spot prices for three different commodity classes across different periods. We .find that the exchange rate-based model and especially the PLS factor-augmented model are more prone to outperform the naive statistical benchmarks. However, across our range of commodity price indices we are not able to generate out-of-sample forecasts that, on average, are systematically more accurate than predictions based on a random walk or autoregressive specifications.
    JEL: E24 E62 J45
    Date: 2011–03
  8. By: Douglas Gale; Tanju Yorulmazer
    Abstract: Banks hold liquid and illiquid assets. An illiquid bank that receives a liquidity shock sells assets to liquid banks in exchange for cash. We characterize the constrained efficient allocation as the solution to a planner’s problem and show that the market equilibrium is constrained inefficient, with too little liquidity and inefficient hoarding. Our model features a precautionary as well as a speculative motive for hoarding liquidity, but the inefficiency of liquidity provision can be traced to the incompleteness of markets (due to private information) and the increased price volatility that results from trading assets for cash.
    Keywords: Bank liquidity ; Bank assets ; Interbank market
    Date: 2011
  9. By: Daniel Dias; Carlos Robalo Marques; Fernando Martins; J.M.C.Santos Silva
    Abstract: Infrequent price changes at the firm level are now well documented in the literature. However, a number of issues remain partly unaddressed. This paper contributes to the literature on price stickiness by investigating the lags of price adjustments to different types of shocks. We find that adjustment lags to cost and demand shocks vary with firm characteristics, namely the firm’s cost structure, the type of pricing policy, and the type of good. We also document that firms react asymmetrically to demand and cost shocks, as well as to positive and negative shocks, and that the degree and direction of the asymmetry varies across firms.
    JEL: C41 D40 E31
    Date: 2011
  10. By: Ulrich Bindseil (European Central Bank, Kaiserstraße 29, D-60311 Frankfurt am Main, Germany.); Juliusz Jabłecki (National Bank of Poland and Faculty of Economic Sciences, Warsaw University.)
    Abstract: The banking system is modeled in a closed system of financial accounts, whereby the equilibrium volume of bank intermediation between households and corporates reflects structural parameters such as household preferences, comparative cost structures of heterogeneous banks, loan demand of corporates, and the difference between the borrowing rate and the deposit facility rate of the central bank. The model also allows understanding the link between this difference (the width of the central bank standing facilities corridor) and the stance of monetary policy, and how this link changes during a financial crisis. It is shown how the narrowing of the standing facilities corridor can make more accommodating the stance of monetary policy in a financial crisis. JEL Classification: E43, E44, G21.
    Keywords: bank intermediation, central bank operations, standing facilities, central bank crisis measures.
    Date: 2011–03
  11. By: Guido Menzio; Shouyong Shi; Hongfei Sun
    Abstract: Dispersion of money balances among individuals is the basis for a range of policies but it has been abstracted from in monetary theory for tractability reasons. In this paper, we fill in this gap by constructing a tractable search model of money with a non-degenerate distribution of money holdings. We assume search to be directed in the sense that buyers know the terms of trade before visiting particular sellers. Directed search makes the monetary steady state block recursive in the sense that individuals\' policy functions, value functions and the market tightness function are all independent of the distribution of individuals over money balances, although the distribution affects the aggregate activity by itself. Block recursivity enables us to characterize the equilibrium analytically. By adapting lattice-theoretic techniques, we characterize individuals\' policy and value functions, and show that these functions satisfy the standard conditions of optimization. We prove that a unique monetary steady state exists. Moreover, we provide conditions under which the steady-state distribution of buyers over money balances is non-degenerate and analyze the properties of this distribution.
    Keywords: Money; Distribution; Search; Lattice-Theoretic
    JEL: E00 E4 C6
    Date: 2011–03–24
  12. By: Sascha S. Becker
    Abstract: Recent monetary search and Calvo-type models predict that the relationship between inflation and price dispersion is U-shaped, implying an optimal rate of inflation above zero. Moreover, monetary search models emphasize a critical dependence of the real effects of inflation on sellers’ market power, whereas Calvotype models suggest that the degree of price rigidity significantly affects the inflation - price dispersion nexus. Using a new set of highly disaggregated sectoral price data from a panel of European countries, this paper contributes to the literature by testing the empirical relevance of these two theoretical predictions. In line with monetary search theory, a U-shaped profile is found, provided that markups are sufficiently high, but the relationship breaks down under a more competitive environment. Contrarily, no evidence is found to support the contentions of Calvo-type models: U-shaped effects of inflation occur in product sectors with sticky as well as highly flexible prices.
    Keywords: Inflation, Relative price variability, Price level index, Euro-area, Market structure, Monetary search model, Dynamic panel data models
    JEL: C23 D40 E31 F15
    Date: 2011–03
  13. By: Clausen, Andrew; Strub, Carlo
    Abstract: Classical models of money are typically based on a competitive market without capital or credit. They then impose exogenous timing structures, market participation constraints, or cash-in-advance constraints to make money essential. We present a simple model without credit where money arises from a fixed cost of production. This leads to a rich equilibrium structure. Agents avoid the fixed cost by taking vacations and the trade between workers and vacationers is supported by money. We show that agents acquire and spend money in cycles of finite length. Throughout such a "money cycle," agents decrease their consumption which we interpret as the hot potato effect of inflation. We give an example where money holdings do not decrease monotonically throughout the money cycle. Optimal monetary policy is given by the Friedman rule, which supports efficient equilibria. Thus, monetary policy provides an alternative to lotteries for smoothing out non-convexities.
    Date: 2011–01
  14. By: Daniel Dias; Carlos Robalo Marques; Fernando Martins
    Abstract: Thanks to recent findings based on survey data, it is now well known that firms differ from each other with respect to their price-reviewing strategies. While some firms review their prices at fixed intervals of time, others prefer to perform price revisions in response to changes in economic conditions. In order to explain this fact, some theories have been suggested in the literature. However, empirical evidence on the relative importance of the factors determining firms' different strategies is virtually nonexistent. This paper contributes to filling this gap by investigating the factors that explain why firms follow time-, state- or time- and state-dependent price-reviewing rules. We find that firms' strategies vary with firm characteristics that have a bearing on the importance of information costs, the variability of the optimal price and the sensitivity of profits to non-optimal prices. Menu costs, however, do not seem to play a significant role.
    JEL: C41 D40 E31
    Date: 2011
  15. By: Troy Matheson
    Abstract: We develop monthly indicators for tracking growth in 32 advanced and emerging-market economies. We test the historical performance of our indicators and find that they do a good job at describing the business cycle. In a recursive out-of-sample forecasting exercise, we find that the indicators generally produce good GDP growth forecasts relative to a range of time series models.
    Keywords: Business cycles , Developed countries , Economic growth , Economic indicators , Emerging markets , Forecasting models , Time series ,
    Date: 2011–02–24
  16. By: Daniel Levy (Department of Economics, Bar Ilan University and RCEA); Dongwon Lee (Korea University); Haipeng (Allan) Chen (Texas A&M University); Robert J. Kauffman (Arizona State University); Mark Bergen (University of Minnesota)
    Abstract: We study the link between price points and price rigidity, using two datasets: weekly scanner data, and Internet data. We find that: “9” is the most frequent ending for the penny, dime, dollar and ten-dollar digits; the most common price changes are those that keep the price endings at “9”; 9-ending prices are less likely to change than non-9-ending prices; and the average size of price change is larger for 9-ending than non-9-ending prices. We conclude that 9-ending contributes to price rigidity from penny to dollar digits, and across a wide range of product categories, retail formats and retailers.
    Keywords: Price Point, 9-Ending Price, Price Rigidity
    JEL: E31 L16 D80 M21 M30
    Date: 2010–12
  17. By: Luís Cabral (IESE Business School and NYU); Arthur Fishman (Bar-Ilan University)
    Abstract: Empirical evidence suggests that prices are sticky with respect to cost changes. Moreover, prices respond more rapidly to cost increases than to cost decreases. We develop a search theoretic model which is consistent with this evidence and allows for additional testable predictions. Our results are based on the assumption that buyers do not observe the sellers costs, but know that cost changes are positively correlated across sellers. In equilibrium, a change in price is likely to induce consumer search, which explains sticky prices. Moreover, the signal conveyed by a price decrease is different from the signal conveyed by a price increase, which explains asymmetry in price adjustment.
    Date: 2011–01
  18. By: Stephen McKnight (El Colegio de México)
    Abstract: This paper analyses the necessary and sufficient conditions to ensure that interest rate policy does not introduce real indeterminacy and thus self-fulfilling fluctuations into open economies. A key feature of the model is the incorporation of capital and investment spending into the analysis. The conditions for real determinacy are examined for two measures of inflation that central banks' can target in open economies: domestic vs. consumer price inflation. In stark contrast to previous studies, in the presence of investment activity monetary policy that targets domestic price inflation is more susceptible to self-fulfilling fluctuations than monetary policy rules that target consumer price inflation. However, the problem of indeterminacy identified under domestic price inflation can be ameliorated provided the policy rule also responds to either the exchange rate or to output.
    Keywords: real indeterminacy, open economy monetary models, trade openness, interest rate rules
    JEL: E32 E43 E52 E58 F41
    Date: 2011–03
  19. By: R. Anton Braun; Tomoyuki Nakajima
    Abstract: We consider an incomplete-markets economy with capital accumulation and endogenous labor supply. Individuals face countercyclical idiosyncratic labor and asset risk. We derive conditions under which the aggregate allocations and price system can be found by solving a representative agent problem. This result is applied to analyze the properties of an optimal monetary policy in a new Keynesian economy with uninsured countercyclical individual risk. The optimal monetary policy that emerges from our incomplete-markets economy is the same as the optimal monetary policy in a representative agent model with preference shocks. When price rigidity is the only friction, the optimal monetary policy calls for stabilizing the inflation rate at zero.
    Date: 2011
  20. By: Neville Francis; Eric Ghysels; Michael T. Owyang
    Abstract: With rare exception, studies of monetary policy tend to neglect the timing of the innovations to the monetary policy instrument. Models which do take timing seriously are often difficult to compare to standard VAR models of monetary policy because of the differences in the frequency that they use. We propose an alternative model using MIDAS regressions which nests both ideas: Accurate (daily) timing of innovations to the monetary policy instrument are embedded in a monthly frequency VAR to determine the macroeconomic effects of high frequency changes to policy. We find that taking into account the timing of the shocks is important and can alleviate some of the puzzles in standard monthly VARs [e.g., the price puzzle]. We find that policy shocks are most important to variables thought of as being heavily expectations-oriented and that, contrary to some VAR studies, the effects of FOMC shocks on real variables are small.>
    Keywords: Monetary policy ; Econometric models ; Prices
    Date: 2011
  21. By: Agustin Roitman; Christian Daude
    Abstract: Emerging markets are more volatile and face different types of shocks, in size and nature, compared to their developed counterparts. Accurate identification of the stochastic properties of shocks is difficult. We show evidence suggesting that uncertainty about the underlying stochastic process is present in commodity prices. In addition, we build a dynamic stochastic general equilibrium model with informational frictions, which explicitly considers uncertainty about the nature of shocks. When formulating expectations, the economy assigns some probability to the shocks being temporary even if they are actually permanent. Parameter instability in the stochastic process implies that optimal saving levels (debt holdings) should be higher (lower) compared to a process with fixed parameters. Imperfect information about the nature of shocks matters when commodity GDP shares are high. Thus, economic policies based on misperception of the underlying regime can lead to substantial over/under saving with important associated costs.
    Keywords: Commodity prices , Economic models , Emerging markets , External shocks , Savings , Small states ,
    Date: 2011–03–18
  22. By: Rochelle M. Edge; Refet S. Gurkaynak
    Abstract: DSGE models are a prominent tool for forecasting at central banks and the competitive forecasting performance of these models relative to alternatives--including official forecasts--has been documented. When evaluating DSGE models on an absolute basis, however, we find that the benchmark estimated medium scale DSGE model forecasts inflation and GDP growth very poorly, although statistical and judgmental forecasts forecast as poorly. Our finding is the DSGE model analogue of the literature documenting the recent poor performance of macroeconomic forecasts relative to simple naive forecasts since the onset of the Great Moderation. While this finding is broadly consistent with the DSGE model we employ--ie, the model itself implies that under strong monetary policy especially inflation deviations should be unpredictable--a "wrong" model may also have the same implication. We therefore argue that forecasting ability during the Great Moderation is not a good metric to judge the usefulness of model forecasts.
    Keywords: Economic forecasting ; Inflation (Finance) ; Econometric models
    Date: 2011
  23. By: D'Agostino, Antonello; Surico, Paolo
    Abstract: We investigate inflation predictability in the United States across the monetary regimes of the XXth century. The forecasts based on money growth and output growth were significantly more accurate than the forecasts based on past inflation only during the regimes associated with neither a clear nominal anchor nor a credible commitment to fight inflation. These include the years from the outbreak of World War II in 1939 to the implementation of the Bretton Woods Agreements in 1951, and from Nixon's closure of the gold window in 1971 to the end of Volcker’s disinflation in 1983.
    Keywords: monetary regimes; Phillips curve; predictability; time-varying models
    JEL: E37 E42 E47
    Date: 2011–03
  24. By: Chia-Lin Chang (NCHU Department of Applied Economics (Taiwan)); Philip Hans Franses (Econometrisch Instituut (Econometric Institute), Faculteit der Economische Wetenschappen (Erasmus School of Economics), Erasmus Universiteit); Michael McAleer (Econometrisch Instituut (Econometric Institute), Faculteit der Economische Wetenschappen (Erasmus School of Economics) Erasmus Universiteit, Tinbergen Instituut (Tinbergen Institute).)
    Abstract: Many macro-economic forecasts and forecast updates, such as those from the IMF and OECD, typically involve both a model component, which is replicable, as well as intuition (namely, expert knowledge possessed by a forecaster), which is non-replicable. . Learning from previous mistakes can affect both the replicable component of a model as well as intuition. If learning, and hence forecast updates, are progressive, forecast updates should generally become more accurate as the actual value is approached. Otherwise, learning and forecast updates would be neutral. The paper proposes a methodology to test whether macro-economic forecast updates are progressive, where the interaction between model and intuition is explicitly taken into account. The data set for the empirical analysis is for Taiwan, where we have three decades of quarterly data available of forecasts and their updates of two economic fundamentals, namely the inflation rate and real GDP growth rate. The empirical results suggest that the forecast updates for Taiwan are progressive, and that progress can be explained predominantly by improved intuition.
    Keywords: Macro-economic forecasts, econometric models, intuition, learning, progressive forecast updates, forecast errors.
    JEL: C53 C22 E27 E37
    Date: 2011
  25. By: Daniel Levy (Department of Economics, Bar Ilan University and RCEA); Frank Smets (European Central Bank and CEPR)
    Abstract: This introductory essay briefly summarizes the eleven empirical studies of price setting and price adjustment that are included in this special issue. The studies, which use data from several European countries, were conducted as part of the European Central Bank’s Inflation Persistence Network.
    Keywords: Price Rigidity, Price Flexibility, Cost of Price Adjustment, Menu Cost, Managerial and Customer Cost of Price Adjustment, Pricing, Price System, Price Setting, New Keynesian Economics, Store-Level Data, Micro-Level Data, Product-Level Data
    JEL: D21 D40 E12 E31 E50 E52 E58 L11 L16 M20 M30
    Date: 2010–12
  26. By: Cespa, Giovanni; Vives, Xavier
    Abstract: We propose a theory that jointly accounts for an asset illiquidity and for the asset price potential over-reliance on public information. We argue that, when trading frequencies differ across traders, asset prices reflect investors' Higher Order Expectations (HOEs) about the two factors that influence the aggregate demand: fundamentals information and liquidity trades. We show that it is precisely when asset prices are driven by investors' HOEs about fundamentals that they over-rely on public information, the market displays high illiquidity, and low volume of informational trading; conversely, when HOEs about fundamentals are subdued, prices under-rely on public information, the market hovers in a high liquidity state, and the volume of informational trading is high. Over-reliance on public information results from investors' under-reaction to their private signals which, in turn, dampens uncertainty reduction over liquidation prices, favoring an increase in price risk and illiquidity. Therefore, a highly illiquid market implies higher expected returns from contrarian strategies. Equivalently, illiquidity arises as a byproduct of the lack of participation of informed investors in their capacity of liquidity suppliers, a feature that appears to capture some aspects of the recent crisis.
    Keywords: Average expectations; Beauty Contest; Expected returns; Multiple equilibria; Over-reliance on public information
    JEL: G10 G12 G14
    Date: 2011–03
  27. By: Pau Rabanal; Damiano Sandri; Isabelle Méjean
    Abstract: A reduction in the U.S. current account deficit vis-à-vis emerging Asia involves a shift in demand from U.S. to emerging Asia tradable goods and a change in international relative prices. This paper quantifies the required adjustment in the terms of trade and real exchange rates in a three-country open economy model of the U.S., China, and other emerging Asia. We compare scenarios where both Chinese and other emerging Asian export prices change by the same proportion to the case where export prices remain constant in one country and increase in the other. Our results are robust to different assumptions about elasticities of substitution and to introducing a high degree of vertical fragmentation in production in the model.
    Keywords: Asia , Bilateral trade , China, People's Republic of , Current account , Economic models , Emerging markets , Export prices , Exports , Price elasticity , Real effective exchange rates , Terms of trade , United States ,
    Date: 2011–03–04
  28. By: Francesco Furlanetto (Norges Bank (Central Bank of Norway)); Martin Seneca (Norges Bank (Central Bank of Norway))
    Abstract: In this paper we study the transmission for capital depreciation shocks. The existing literature in the Real Business Cycle tradition has concluded that these shocks are irrelevant for business cycle fluctuations. We show that these shocks are potentially important drivers of aggregate fluctuations in a New Keynesian model. Nominal rigidities and some persistence in the shock process are the key ingredients to generate co-movement across real variables.
    Keywords: Keywords: depreciation shocks, investment-specific technology shocks, consumption, nominal rigidities, co-movement.
    JEL: E32
    Date: 2011–03–25
  29. By: Matteo Barigozzi; Antonio M. Conti; Matteo Luciani
    Abstract: We study the effects of euro area common monetary policy by means of a structural dynamic factor model estimated on a large panel of euro area quarterly series. While we estimate a flat response of prices to a monetary policy shock, which we explain as aggregation of heterogeneous country-specific responses, we find no relevant asymmetries between countries in terms of output reaction. However, for both Spain and Italy, we find asymmetries in consumption, investment and unemployment. The introduction of the single currency in 1999 has helped reducing asymmetries in price responses but not in consumption and investment.
    JEL: C32 E41 E52
    Date: 2011–03
  30. By: Luc Laeven; Fabian Valencia
    Abstract: We collect new data to assess the importance of supply-side credit market frictions by studying the impact of financial sector recapitalization packages on the growth performance of firms in a large cross-section of 50 countries during the recent crisis. We develop an identification strategy that uses the financial crisis as a shock to credit supply and exploits exogenous variation in the degree to which firms depend on external financing for investment needs, and focus on policy interventions aimed at alleviating the bank capital crunch. We find that the growth of firms dependent on external financing is disproportionately positively affected by bank recapitalization policies, and that this effect is quantitatively important and robust to controlling for other financial sector support policies. We also find that fiscal policy disproportionately boosted growth of firms more dependent on external financing. These results provide new evidence of a quantitatively important role of credit market frictions in influencing real economic activity.
    Keywords: Banking crisis , Banking sector , Capital , Central banks , Credit , External shocks , Financial crisis , Financial sector , Liquidity management , Monetary policy ,
    Date: 2011–03–02
  31. By: Liebermann, Joelle (Central Bank of Ireland)
    Abstract: This paper performs a fully real-time nowcasting (forecasting) exercise of US real gross domestic product (GDP) growth using Giannone, Reichlin and Small (2008) factor model framework which enables one to handle unbalanced datasets as available in real-time. To this end, we have constructed a novel real-time database of vintages from October 2000 to June 2010 for a panel of US variables, and can hence reproduce, for any given day in that range, the exact information that was available to a real-time forecaster. We track the daily evolution throughout the current and next quarter of the model nowcasting performance. Similarly to Giannone et al. pseudo realtime results, we find that the precision of the nowcasts increases with information releases. Moreover, the Survey of Professional Forecasters (SPF) does not carry additional information with respect to the model best specification, suggesting that the often cited superiority of the SPF, attributable to judgment, is weak over our sample. Then, as one moves forward along the real-time data flow, the continuous updating of the model provides a more precise estimate of current quarter GDP growth and the SPF becomes stale compared to all the model specifications. These results are robust to the recent recession period.
    Keywords: Real-time data, Nowcasting, Forecasting, Factor model.
    JEL: E52 C53 C33
    Date: 2011–03
  32. By: Libo Wu (Center for Energy Economics ans Strategy Studies, Fudan University); Jing Li (Department of World Economy, School of Economics, Fudan University); ZhongXiang Zhang (East-West Center)
    Abstract: This paper aims to examine the impacts of oil-price shocks on China’s price levels. To that end, we develop a partial transmission input-output model that captures the uniqueness of the Chinese market. We hypothesize and simulate price control, market factors and technology substitution - the three main factors that restrict the functioning of a price pass-through mechanism during oil-price shocks. Using the models of both China and the U.S., we separate the impact of price control from those of other factors leading to China’s price stickiness under oil-price shocks. The results show a sharp contrast between China and the U.S., with price control in China significantly preventing oil-price shocks from spreading into its domestic inflation, especially in the short term. However, in order to strengthen the economy’s resilience to oil-price shocks, the paper suggests a gradual relaxing of price control in China.
    JEL: Q43 Q41 Q48 O13 O53 P22 E31
    Date: 2011–03
  33. By: Yi Wen
    Abstract: This paper develops an analytically tractable general-equilibrium model of inventory dynamics based on a precautionary stockout-avoidance motive. The model’s predictions are broadly consistent with the U.S. business cycle and key features of inventory behavior. It is also shown that technological improvement of inventory management can increase, rather than decrease, the volatility of aggregate output. Key to this seemingly counterintuitive result is that a stockout-avoidance motive leads to a procyclical shadow value of inventories, which acts as an automatic stabilizer that discourages sales in booms and encourages demand in recessions, thereby reducing the variability of GDP.>
    Keywords: Inventories ; Business cycles
    Date: 2011
  34. By: Cristian Badarinza (House of Finance, Goethe University, Frankfurt am Main, Germany.); Emil Margaritov (House of Finance, Goethe University, Frankfurt am Main, Germany.)
    Abstract: We study the effects of information shocks on macroeconomic and term structure dynamics in an estimated medium-scale DSGE model for the US economy. We consider news about total factor productivity and investment-specific technology, as well as foresight about monetary policy. Our empirical investigation confirms the findings of previous studies on the limited role played by productivity news in this class of models. In contrast, we uncover a non-trivial role for investment-specific news and anticipated monetary policy shocks not only in the historical and variance decomposition of real economic variables but also for the overall dynamic behavior of the term structure of interest rates. We also document substantial qualitative differences in the dynamic responses of the macroeconomy and the bond yield term structure to anticipated and surprise structural and policy innovations. JEL Classification: E32, E43, E52.
    Keywords: News, Policy Foresight, Term Structure, DSGE Model.
    Date: 2011–03
  35. By: Jouchi Nakajima (Institute for Monetary and Economic Studies, Bank of Japan (Currently in the Personnel and Corporate Affairs Department < studying at Duke University>, E-mail:
    Abstract: This paper attempts to explore monetary policy transmission under zero interest rates by explicitly incorporating the zero lower bound (ZLB) of nominal interest rates into the time-varying parameter structural vector autoregression model with stochastic volatility (TVP- VAR-ZLB). Nominal interest rates are modeled as a censored variable with Tobit-type non-linearity and incorporated into the TVP-VAR framework. For estimation, an efficient Markov chain Monte Carlo (MCMC) method is constructed in the context of Bayesian inference. The model is applied to the Japanese macroeconomic data including the periods of the zero interest rates policy and the quantitative easing policy. The empirical results show that a dynamic relationship between monetary policy and macroeconomic variables is well detected through changes in medium-term interest rates, and not policy interest rates under the ZLB, although other macroeconomic dynamics are reasonably traced without considering the ZLB in an explicit manner.
    Keywords: Monetary policy, Zero lower bound of nominal interest rates, Markov chain Monte Carlo, Time-varying parameter vector autoregression with stochastic volatility
    JEL: C11 C15 E44 E52 E58
    Date: 2011–03
  36. By: Evgeny Zhelobodko (Novosibirsk State University (Russia)); Sergey Kokovin (Novosibirsk State University and Sobolev Institute of Mathematics (Russia)); Mathieu Parenti (Université de Paris 1 and PSE (France)); Jacques-François THISSE (CORE, Université catholique de Louvain (Belgium), Université du Luxembourg, CEPR, and RIEB, Kobe University)
    Abstract: We propose a general model of monopolistic competition and derive a complete characterization of the market equilibrium using the concept of Relative Love for Variety. When the RLV increases with individual consumption, the market generates pro-competitive effects. When it decreases, the market mimics anti-competitive behavior. The CES is a borderline case. We extend our setting to heterogeneous firms and show that the cutoff cost decreases (increases) when the RLV increases (decreases). Last, we study how combining vertical, horizontal and cost heterogeneity affects our results.
    Keywords: monopolistic competition, additive preferences, love for variety, heterogeneous firms.
    JEL: D43 F12 L13
    Date: 2011–03
  37. By: István P. Székely; Werner Roeger; Jan in 't Veld
    Abstract: This paper uses a multi region DSGE model with collateral constrained households and residential investment to examine the effectiveness of fiscal policy stimulus measures in a credit crisis. The paper explores alternative scenarios which differ by the type of budgetary measure, its length, the degree of monetary accommodation and the level of international coordination. In particular we provide estimates for New EU Member States where we take into account two aspects. First, debt denomination in foreign currency and second, higher nominal interest rates, which makes it less likely that the Central Bank is restricted by the zero bound and will consequently not accommodate a fiscal stimulus. We also compare our results to other recent results obtained in the literature on fiscal policy which generally do not consider credit constrained households.
    Keywords: Fiscal Policy, Monetary Policy, Fiscal Multiplier, Collateral Constraint, DSGE modelling
    JEL: E21 E62 F42 H31 H63
    Date: 2011–03
  38. By: Isabel Horta Correia; Emmanuel Farhi; Juan Pablo Nicolini; Pedro Teles
    Abstract: When the zero lower bound on nominal interest rates binds, monetary policy cannot provide appropriate stimulus. We show that in the standard New Keynesian model, tax policy can deliver such stimulus at no cost and in a time-consistent manner. There is no need to use inefficient policies such as wasteful public spending or future commitments to inflate. We conclude that in the New Keynesian model, the zero bound on nominal interest rates is not a relevant constraint on both .fiscal and monetary policy.
    JEL: E31 E40 E52 E58 E62 E63
    Date: 2011
  39. By: Ethan Ilzetzki; Enrique G. Mendoza; Carlos A. Végh Gramont
    Abstract: We contribute to the intense debate on the real effects of fiscal stimuli by showing that the impact of government expenditure shocks depends crucially on key country characteristics, such as the level of development, exchange rate regime, openness to trade, and public indebtedness. Based on a novel quarterly dataset of government expenditure in 44 countries, we find that (i) the output effect of an increase in government consumption is larger in industrial than in developing countries, (ii) the fisscal multiplier is relatively large in economies operating under predetermined exchange rate but zero in economies operating under flexible exchange rates; (iii) fiscal multipliers in open economies are lower than in closed economies and (iv) fiscal multipliers in high-debt countries are also zero.
    Keywords: Consumption , Cross country analysis , Developed countries , Developing countries , Exchange rate regimes , External shocks , Fiscal policy , Government expenditures , Public debt , Trade liberalization ,
    Date: 2011–03–10
  40. By: L. Marattin; P. Paesani; S. Salotti
    Abstract: Public finances worldwide have been severely hit by the 2008-2009 Great Recession, stimulating the debate on the consequences of growing fiscal imbalances. Building on Paesani et al. (2006), this paper focuses on the USA, Germany and Italy over the 1983-2009 period and studies the effects of fiscal shocks and government debt accumulation on long-term interest rates, both nationally and across borders. Based on a a theoretical framework, the empirical analysis disentangles permanent and transitory components of interest rates dynamics .nding that sustained debt accumulation leads, at least temporarily, to higher long-term interest rates. The is particularly true for the Italian case. There is also evidence of signi.cant cross-country linkages, mainly between Italy and the USA.
    JEL: E6 H63
    Date: 2011–03
  41. By: Marcos Poplawski-Ribeiro; Jan-Christoph Rulke
    Abstract: The paper uses survey data to analyze whether financial market expectations on government budget deficits changed in France, Germany, Italy, and the United Kingdom during the period of the Stability and Growth Pact (SGP). Our findings indicate that accuracy of financial expert deficit forecasts increased in France. Convergence between the European Commission's and market experts’ deficit forecasts also increased in France, Italy, and the United Kingdom, particularly during the period after SGP’s reform in 2005. Yet, convergence between markets’ forecasts and those of the French, German, and Italian national fiscal authorities seems not to have increased significantly during the SGP.
    Keywords: Budget deficits , Cross country analysis , Economic forecasting , Economic growth , European Economic and Monetary Union , Fiscal policy , Fiscal stability , France , Germany , Italy , United Kingdom ,
    Date: 2011–03–04
  42. By: Vanda Almeida; Gabriela Lopes de Castro; Ricardo Mourinho Félix; José Ramos Maria
    Abstract: This article focuses on the costs and benefits of a fiscal consolidation in a small euro area economy. The macroeconomic impacts and the welfare analysis are conducted in a New-Keynesian general equilibrium model with non-Ricardian agents. We define a benchmark fiscal consolidation strategy based on a permanent reduction in Government expenditure. We find that, over the long run, fiscal consolidation leads to a considerable increase in the level of output and consumption, and is welfare improving. In addition, the gains are boosted if the fiscal strategy also involves a tax reform that shifts the tax burden away from labour income towards the final goods consumption. However, important short-run costs arise, notably output, consumption and welfare losses. Finally, we assess the effect of alternative fiscal consolidation paths in terms of the degree of front loading, the speed of its completion and the interaction with risk premium.
    JEL: E62 F41 H62
    Date: 2011
  43. By: Raphael A. Espinoza; Abdelhak S Senhadji
    Abstract: The effectiveness of fiscal policy in smoothing the impact of shocks depends critically on the size of fiscal multipliers. This is particularly relevant for the GCC countries given the need for fiscal policy to cushion the economy from large terms of trade shocks in the absence of an independent monetary policy and where fiscal multipliers could be weak dues to substantial leakages through remittances and imports. The paper provides estimates of the size of fiscal multipliers using a variety of models. The focus is on government spending since tax revenues are small. The long-run multiplier estimates vary in the 0.3-0.7 range for current expenditure and 0.6-1.1 for capital spending, depending on the particular specification and estimation method chosen. These estimates fall within the range of fiscal multiplier estimates in the literature for non-oil emerging markets.
    Keywords: Cooperation Council for the Arab States of the Gulf , External shocks , Fiscal policy , Government expenditures , Nonoil sector , Saudi Arabia ,
    Date: 2011–03–22
  44. By: Pedro Gomes
    Abstract: I build a dynamic stochastic general equilibrium model with search and matching frictions in order to study the labour market effects of public sector employment and wages. Public sector wages are important to achieve the effcient allocation. High wages induce too many unemployed to queue for public sector jobs, raising unemployment. Following technology shocks, public sector wages should be procyclical and deviations from the optimal policy increase the volatility of unemployment significantly. Another conclusion is that different types of fiscal shocks have opposite effects on labour market variables. I then estimate the parameters of the model for the United States
    JEL: E24 E62 J45
    Date: 2011–02
  45. By: Ferhan Salman; Gabriela Dobrescu
    Abstract: Domestic absorption cycles are relevant in assessment and design of fiscal policies. Our cross-country analysis covers 59 advanced and emerging countries for the 1990-2009 period. We show that ignoring domestic absorption cycles leads to biased fiscal stance indicators, for both advanced and emerging economies, by up to 1.5 percent of GDP. The estimates of fiscal policy reaction functions indicate that absorption booms are associated with pro-cyclical fiscal policy. We tackle the endogeneity problem in reactions functions through stripping the cyclical component of the fiscal aggregates. We also find that simple filtering methods in the computation of absorption gaps perform as better as indirect methods of estimating trade balance gaps and stripping of output gaps.
    Keywords: Business cycles , Cross country analysis , Developed countries , Economic growth , Economic models , Emerging markets , Fiscal policy , Indirect taxation , Revenue sources , Revenues ,
    Date: 2011–02–23
  46. By: Luisa Lambertini; Caterina Mendicino; Maria Tereza Punzi
    Abstract: This paper studies the potential gains of monetary and macro-prudential policies that lean against news-driven boom-bust cycles in housing prices and credit generated by expectations of future macroeconomic developments. First, we find no trade-off between the traditional goals of monetary policy and leaning against boom-bust cycles. An interest-rate rule that completely stabilizes inflation is not optimal. In contrast, an interest-rate rule that responds to financial variables mitigates macroeconomic and financial cycles and is welfare improving relative to the estimated rule. Second, counter-cyclical Loan-to-Value rules that respond to credit growth do not increase inflation volatility and are more effective in maintaining a stable provision of financial intermediation than interest-rate rules that respond to financial variables. Heterogeneity in the welfare implications for borrowers and savers make it difficult to rank the two policy frameworks.
    JEL: E32 E44 E52
    Date: 2011
  47. By: Michael G. Arghyrou; Alexandros Kontonikas
    Abstract: We offer a detailed empirical investigation of the European sovereign debt crisis based on the theoretical model by Arghyrou and Tsoukalas (2010). We find evidence of a marked shift in market pricing behaviour from a ‘convergence-trade’ model before August 2007 to one driven by macro-fundamentals and international risk thereafter. The majority of EMU countries have experienced contagion from Greece. There is no evidence of significant speculation effects originating from CDS markets. Finally, the escalation of the Greek debt crisis since November 2009 is confirmed as the result of an unfavourable shift in country specific market expectations. Our findings highlight the necessity of structural, competitiveness-inducing reforms in periphery EMU countries and institutional reforms at the EMU level enhancing intra-EMU economic monitoring and policy co-ordination.
    JEL: E43 E44 F30 G12
    Date: 2011–02
  48. By: Pascal Towbin; Sebastian Weber
    Abstract: A traditional argument in favor of flexible exchange rates is that they insulate output better from real shocks, because the exchange rate can adjust and stabilize demand for domestic goods through expenditure switching. This argument is weakened in models with high foreign currency debt and low exchange rate pass-through to import prices. The present study evaluates the empirical relevance of these two factors. We analyze the transmission of real external shocks to the domestic economy under fixed and flexible exchange rate regimes for a broad sample of countries in a Panel VAR and let the responses vary with foreign currency indebtedness and import structure. We find that flexible exchange rates do not insulate output better from external shocks if the country imports mainly low pass-through goods and can even amplify the output response if foreign indebtedness is high.
    Keywords: Currency pegs , Economic models , Exchange rate regimes , External debt , External shocks , Flexible exchange rates , Floating exchange rates , Imports ,
    Date: 2011–02–24
  49. By: Yamin Ahmad (Department of Economics, University of Wisconsin-Whitewater); William D. Craighead (Department of Economics, Wesleyan University)
    Abstract: This paper uses a unique new monthly US-UK real exchange rate series for the January 1794 – December 2009 period to reexamine the academic debate over purchasing power parity (PPP). The consensus view described by Rogoff (1996) is that PPP holds in the long-run, but short run deviations are very persistent, with half-lives ranging from 3-5 years. Most of the literature using long time series relies on the annual data developed by Lee (1976) and Lothian and Taylor (1996), which were both constructed from underlying higher-frequency data sources. Estimates of purchasing power parity persistence using these series may therefore be subject to temporal aggregation bias. We find evidence of aggregation bias which indicates the half-life of PPP deviations has been overestimated in much of the previous literature. We also find that estimates of the half-lives under temporal aggregation are further reduced once we account for the Harrod (1933)-Balassa (1964) - Samuelson (1964) effect. The result of aggregation bias appears to be robust even when considering the case that real exchange rates exhibit nonlinear dynamics.
    Keywords: Temporal Aggregation, Real Exchange Rates, Purchasing Power Parity, Exchange Rate Persistence, Half-Lives
    JEL: F31 C22
    Date: 2011–02
  50. By: Henning Klodt
    Abstract: Are the measures of the European Stability Mechanism sufficient for preventing further debt crises similar to those in Greece and Portugal? Definitively not, because private investors still enjoy rather high interest rates of dubious government bonds without being adequately involved in bearing the risks. The paper argues that government bonds of indebted countries should undergo a substantial haircut at the expense of private investors. In turn, the devaluated bonds should be guaranteed by the community of Euro countries. An essential precondition for these measures to work is an appropriate banking regulation which prevents systemic banks from destabilizing entire economies when going bust. Neither the provisional nor the permanent European Stability Mechanism meet these requirements of an incentive efficient rescue plan
    Keywords: European Monetary Union, Debt Mechanics, Brady Bonds
    JEL: F3 E6
    Date: 2011–03
  51. By: Vahram Stepanyan; Kai Guo
    Abstract: We examine changes in bank credit across a wide range of emerging market economies during the last decade. The rich time-series and cross-section information allows us to draw broader lessons compared to many existing researches, which focus on a specific set of emerging market economies or on shorter time periods. Our results show that domestic and foreign funding contribute positively and symmetrically to credit growth. The results also indicate that stronger economic growth leads to higher credit growth, and high inflation, while increasing nominal credit, is detrimental to real credit growth. We also find that loose monetary conditions, either domestic or global, result in more credit, and that the health of the banking sector also matters. Finally, we discuss some policy lessons.
    Keywords: Bank credit , Banking sector , Credit expansion , Cross country analysis , Economic growth , Emerging markets , Inflation , Monetary policy ,
    Date: 2011–03–09
  52. By: Michael S. Barr; Jane K. Dokko; Eleanor M. Feit
    Abstract: This paper characterizes the features of an account-based payment card--including bank debit cards, prepaid debit cards, and payroll cards--that elicit a high take-rate among low- and moderate-income (LMI) households, particularly those without bank accounts. We apply marketing research techniques, specifically choice modeling, to identify the design of a specific financial services product for LMI households, who often face difficulties maintaining standard bank accounts but need banking services. After monthly cost, we find that, on average, non-monetary features of a payment card, such as the availability of federal protection and the type of card, are factors LMI consumers weigh most heavily when choosing among differently designed payment cards. We estimate a high take rate for a well-designed payment card that is decreasing in its cost. The sensitivity of the take-rate with respect to cost varies by income and bank account ownership. These results can guide private and public sector initiatives to expand the range of financial services available to LMI households.
    Keywords: Debit cards ; Credit cards ; Payment systems ; Consumer protection
    Date: 2011
  53. By: Mohan, Rakesh (Asian Development Bank Institute)
    Abstract: In 2008–09 the world experienced the most severe financial and economic crisis since the Great Depression. The global financial crisis is attributed to a variety of factors, such as developments in the subprime mortgage sector, excessive leverage, lax financial regulation and supervision, and global macroeconomic imbalances. At a fundamental level, however, the crisis also reflects the effects of a long period of excessively loose monetary policy in the major advanced economies during the early part of this past decade. The global financial crisis has led to a new wave of thinking on all issues related to both monetary policy and financial regulation. The practice of both monetary policy and financial regulation had tended to become too formula bound and hence predictable. While these new principles are being debated, it is important to realize that in the face of unexpected developments that always arise in the financial sector, there is an important role for the exercise of judgment by both monetary authorities and financial regulators. Whereas considerable progress has been achieved on the principles governing this regulatory overhaul, very significant challenges remain on the implementation issues that will arise as a new regime takes hold globally.
    Keywords: global financial crisis; monetary policy; financial regulation; regulation financial institutions; regulatory reform
    JEL: G18
    Date: 2011–03–25
  54. By: Marco Lo Duca (International Policy Analysis Division, European Central Bank, Kaiserstraße 29, D-60311 Frankfurt am Main, Germany.); Tuomas A. Peltonen (Financial Stability Surveillance Division, European Central Bank, Kaiserstraße 29, D-60311 Frankfurt am Main, Germany.)
    Abstract: This paper develops a framework for assessing systemic risks and for predicting (out-of-sample) systemic events, i.e. periods of extreme financial instability with potential real costs. We test the ability of a wide range of “stand alone” and composite indicators in predicting systemic events and evaluate them by taking into account policy makers’ preferences between false alarms and missing signals. Our results highlight the importance of considering jointly various indicators in a multivariate framework. We find that taking into account jointly domestic and global macrofinancial vulnerabilities greatly improves the performance of discrete choice models in forecasting systemic events. Our framework shows a good out-of-sample performance in predicting the last financial crisis. Finally, our model would have issued an early warning signal for the United States in 2006 Q2, 5 quarters before the emergence of money markets tensions in August 2007. JEL Classification: E44, E58, F01, F37, G01.
    Keywords: Early warning Indicators, Asset Price Booms and Busts, Financial Stress, Macro-Prudential Policies.
    Date: 2011–03
  55. By: Angelini, P.; Clerc, L.; Cúrdia, V.; Gambacorta, L.; Gerali, A.; Locarno, A.; Motto, R.; Roeger, W.; Van den Heuvel, S.; Vlcek, J.
    Abstract: We assess the long-term economic impact of the new regulatory standards (the Basel III reform), answering the following questions. (1) What is the impact of the reform on long-term economic performance? (2) What is the impact of the reform on economic fluctuations? (3) What is the impact of the adoption of countercyclical capital buffers on economic fluctuations? The main results are the following. (1) Each percentage point increase in the capital ratio causes a median 0.09 percent decline in the level of steady state output, relative to the baseline. The impact of the new liquidity regulation is of a similar order of magnitude, at 0.08 percent. This paper does not estimate the benefits of the new regulation in terms of reduced frequency and severity of financial crisis, analysed in Basel Committee on Banking Supervision (BCBS, 2010b). (2) The reform should dampen output volatility; the magnitude of the effect is heterogeneous across models; the median effect is modest. (3) The adoption of countercyclical capital buffers could have a more sizeable dampening effect on output volatility. These conclusions are fully consistent with those of the reports by the Long-term Economic Impact group (BCBS, 2010b) and Macro Assessment Group (MAG, 2010b).
    Keywords: Basel III, countercyclical capital buffers, financial (in)stability, procyclicality, macroprudential policy.
    JEL: E44 E61 G21
    Date: 2011
  56. By: Bertram, Philip; Sibbertsen, Philipp; Stahl, Gerhard
    Abstract: This paper analyzes and quantifies the idea of model risk in the environment of internal model building. We define various types of model risk including estimation risk, model risk in distribution and model risk in functional form. By the quantification of these concepts we analyze the impact of the modeling process of an econometric model on the resulting company model. Utilizing real insurance data we specify, estimate and simulate various linear and nonlinear time series models for the inflation rate and examine its impact on pension liabilities under the aspect of model risk. Under consideration of different risk measures it is shown that model risk can differ profoundly due to the specification process of the econometric model resulting in remarkable monetary differences concerning capital reserves. We furthermore propose a specification strategy for univariate time series models and demonstrate that thereby market risk and capital reserves can be reduced distinctively.
    Keywords: Model risk, Estimation risk, Misspecification risk, Basel multiplication factor, Empirical model specification, Capital reserves
    JEL: G12 G18
    Date: 2011–03
  57. By: C. Randall Henning (Peterson Institute for International Economics)
    Abstract: Recent crises and the expansion of international financial arrangements have dramatically elevated the importance of cooperation between regional institutions and the International Monetary Fund (IMF). While the case for coordination between regional and multilateral institutions is generally accepted, however, the need to organize it on an ex ante is not fully appreciated. The relatively successful cooperation among the European Commission, European Central Bank, and IMF on the European debt crisis is not likely to be easily replicated in joint programs for countries in other regions, moreover, and the costs of coordination failure could be very large. Recent innovations at the IMF, on the other hand, present opportunities for cooperation with regional facilities. Henning reviews (1) the case for organizing cooperation on an ex ante basis, (2) the policy and institutional matters that should be coordinated, (3) how East Asian arrangements in particular and the IMF might cooperate, and (4) an Interinstitutional Agenda of general principles, modalities, and institutional recommendations. The G-20, member states, and institutions themselves should address this agenda proactively.
    Keywords: Financial crises, IMF, regional financial institutions, regional integration, Chiang Mai Initiative, European debt crisis, international cooperation
    JEL: F53 F33 F34 F30
    Date: 2011–03
  58. By: Dirk Schoenmaker (Duisenberg School of Finance & VU University Amsterdam); Wolf Wagner (CentER, Tilburg University & European Banking Center, Tilburg)
    Abstract: This paper focuses on the stability aspects of cross-border banking. We first argue that cross-border banking brings about various benefits and costs for financial stability. Based on this, we draw conclusions for the desirability of cross-border banking in the EU, and derive implications for its optimal form. Next, we derive metrics that allow quantifying whether cross-border banking in a country (or region) takes a desirable form and apply these metrics to the EU countries. Our results suggest that the countries with the largest banking centers, UK and Germany, are well diversified. By contrast, the New Member States (NMS) are highly dependent on a few West-European banks and thus vulnerable to contagion effects. The Nordic and Baltic regions are also much interwoven without much diversification. At the system-wide level, the EU banking system is weakly diversified, with an overexposure to the US and an underexposure to Japan and China. This explains why the recent US originated financial crisis had such a large impact on European banks.
    Keywords: International Banking; Portfolio Diversification; Financial Stability
    JEL: G21 G28
    Date: 2011–03–17
  59. By: Larry D. Wall; María J. Nieto; David Mayes
    Abstract: The European Union (EU) has been facilitating the growth of cross-border banking groups, but bank supervision remains the responsibility of national supervisors. This mismatch has long been recognized and various proposals have been offered to address this weakness. An alternative that would retain the most important advantages of full centralization is that of centralization only for those cross-border groups that are systemically important. All other banks would remain national responsibilities. To identify some of the issues (but not necessarily the best answers) raised by partial centralization in the EU, we look to the dual banking arrangements in the United States, which has long had both federal and state charters. One issue is that of who qualifies for and/or is required to adopt an EU charter. The U.S. policy of low-cost chartering changes encourages both good and bad competition among supervisors. A second issue is that of the potential mismatch between EU responsibility for prudential supervision of some banks and national provision of deposit insurance and lender of last resort services for all banks. A third potential issue is who should provide business conduct regulation.
    Date: 2011
  60. By: Jouchi Nakajima (Institute for Monetary and Economic Studies, Bank of Japan (Currently in the Personnel and Corporate Affairs Department < studying at Duke University>, E-mail:
    Abstract: This paper aims to provide a comprehensive overview of the estimation methodology for the time-varying parameter structural vector autoregression (TVP-VAR) with stochastic volatility, in both methodology and empirical applications. The TVP-VAR model, combined with stochastic volatility, enables us to capture possible changes in underlying structure of the economy in a flexible and robust manner. In that respect, as shown in simulation exercises in the paper, the incorporation of stochastic volatility to the TVP estimation significantly improves estimation performance. The Markov chain Monte Carlo (MCMC) method is employed for the estimation of the TVP-VAR models with stochastic volatility. As an example of empirical application, the TVP-VAR model with stochastic volatility is estimated using the Japanese data with significant structural changes in dynamic relationship between the macroeconomic variables.
    Keywords: Bayesian inference, Markov chain Monte Carlo, Monetary policy, State space model, Structural vector autoregression, Stochastic volatility, Time-varying parameter
    JEL: C11 C15 E52
    Date: 2011–03
  61. By: Vladimir Klyuev; Stephen Snudden
    Abstract: This paper uses the IMF’s Global Integrated Monetary and Fiscal Model (GIMF) to assess the impact of fiscal consolidation on the Czech economy. Its contribution is threefold. First, it provides estimates of dynamic fiscal multipliers for a variety of fiscal instruments (tax and expenditure), consolidation durations, assumptions about credibility, and monetary policy responses. Second, the paper evaluates the impact on the economy of tightening measures envisaged in the 2011 budget. Third, the paper considers alternative packages for consolidation beyond 2011 to achieve the government’s balanced budget target by 2016 and identifies which forms of adjustment are more "growth-friendly".
    Date: 2011–03–24
  62. By: Kelly, Robert (Central Bank of Ireland); McQuinn, Kieran (Central Bank of Ireland); Stuart, Rebecca (Central Bank of Ireland)
    Abstract: The rapid increase in credit in an economy is now commonly perceived to be one of the leading in- dicators of financial instability. This view has been reinforced by the aftermath of the international financial crisis, which commenced in mid-2007. A key policy response has been to focus on the ratio of private sector credit to GDP for an economy, observing, in particular, significant deviations be- tween the actual and long-run trends of the ratio. This paper examines the issue of the steady-state relationship between private sector credit and GDP in the case of Ireland, a country which, even by international standards, experienced a sizeable expansion in credit over the past 10 years.
    Keywords: Credit, GDP, Indicator
    JEL: E51 E63
    Date: 2011–03
  63. By: Kerstin Gerling; Carlos Fernandez Valdovinos
    Abstract: Using a consistent dataset and methodology for all eight member countries of the West African Economic and Monetary Union (WAEMU) from 1994 to 2009, this paper provides evidence of the two major channels for real effects of inflation: inflation uncertainty and relative price variability. In line with theory and most evidence for advanced and emerging market economies, higher inflation increases inflation uncertainty and relative price variability in all WAEMU countries. However, the pattern, magnitude and timing of these two channels vary considerably by country. The findings raise several policy issues for future research.
    Keywords: Central banks , Cross country analysis , Economic models , Inflation , Inflation targeting , Monetary policy , Price elasticity , Prices , West Africa , West African Economic and Monetary Union ,
    Date: 2011–03–16
  64. By: Tidiane Kinda
    Abstract: This paper examines the determinants of inflation in Chad using quarterly data from 1983:Q1 to 2009:Q3. The analysis is based on a single-equation model, completed by a structural vector auto regression model to capture inflation persistence. The results show that the main determinants of inflation in Chad are rainfall, foreign prices, exchange rate movements, and public spending. The effects of rainfall shocks and changes in foreign prices on inflation persist during six quarters. Changes in public spending and the nominal exchange rate affect inflation during three and four quarters, respectively.
    Keywords: Chad , Consumer price indexes , Demand , Demand for money , Economic models , Government expenditures , Inflation ,
    Date: 2011–03–14

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