nep-cba New Economics Papers
on Central Banking
Issue of 2011‒04‒16
thirty-six papers chosen by
Alexander Mihailov
University of Reading

  1. Learning as a rational foundation for macroeconomics and finance By Evans, George W; Honkapohja, Seppo
  2. Ordering Policy Rules with an Unconditional Welfare Measure By Tatjana Damjanovic; Vladislav Damjanovic; Charles Nolan
  3. The Real Exchange Rate, Real Interest Rates, and the Risk Premium By Engel, Charles
  4. Intergenerational Redistribution in the Great Recession By Andrew Glover; Jonathan Heathcote; Dirk Krueger; José-Víctor Ríos-Rull
  5. A note on expectational stability under non-zero trend inflation By Teruyoshi Kobayashi; Ichiro Muto
  6. The ECB's New Multi-Country Model for the euro area: NMCM - with boundedly rational learning expectations By Alistair Dieppe; Alberto González Pandiella; Stephen Hall; Alpo Willman
  7. The ECB's New Multi-Country Model for the euro area: NMCM - simulated with rational expectations By Alistair Dieppe; Alberto González Pandiella; Alpo Willman
  8. Monetary and macroprudential policies By Paolo Angelini; Stefano Neri; Fabio Panetta
  9. Macro-financial vulnerabilities and future financial stress - Assessing systemic risks and predicting systemic events By Lo Duca, Marco; Peltonen, Tuomas
  10. "It's Time to Rein In the Fed" By Scott Fullwiler; L. Randall Wray
  11. Asian Monetary Unit and Monetary Cooperation in Asia By Ogawa, Eiji; Shimizu, Junko
  12. Testable Implications of Affine Term Structure Models By James D. Hamilton; Jing Cynthia Wu
  13. Forecasting macroeconomic variables using disaggregate survey data By Kjetil Martinsen; Francesco Ravazzolo; Fredrik Wulfsberg
  14. Imperfect information, real-time data and monetary policy in the euro area By Stefano Neri; Tiziano Ropele
  15. Monetary Union Stability: The Economics of the Phillips Curve: Formation of Inflation Expectations versus Incorporation of Inflation Expectations By Thomas I. Palley
  16. Using the global dimension to identify shocks with sign restrictions By Alexander Chudik; Michael Fidora
  17. The efficiency wages Phillips curve: closed economy versus open economy By Andrea Vaona
  18. Financial imbalances and financial fragility By Frédéric Boissay
  19. Fiscal policy, pricing frictions and monetary accommodation By Fabio Canova; Evi Pappa
  20. The new rules of the Stability and Growth Pact. Threats from heterogeneity and interdependence By Roberto Tamborini
  21. Fiscal disciplining effect of central bank opacity: Stackelberg versus Nash equilibrium By Dai, Meixing; Sidiropoulos, Moïse
  22. Fiscal Shocks in a Two-Sector Open Economy By Olivier CARDI; Romain RESTOUT
  23. Fiscal developments and financial stress: a threshold VAR analysis By António Afonso; Jaromír Baxa; Michal Slavík
  24. Can Fiscal Policy Stimulus Boost Economic Recovery? By Agnello, L.; Sousa, R.
  25. Trade, Exchange Rate Regimes and Output Co-Movement: Evidence from the Great Depression By Gabriel P. Mathy; Christopher M. Meissner
  26. The US Dollar-Euro exchange rate and US-EMU bond yield differentials: A Causality Analysis By Simón Sosvilla-Rivero; María del Carmen Ramos-Herrera
  27. Real Exchanges Rates in Commodity Producing Countries: A Reappraisal By Vincent BODART; Bertrand CANDELON; Jean-François CARPANTIER
  28. Trust in public institutions over the business cycle By Betsey Stevenson; Justin Wolfers
  29. Unbiased estimate of dynamic term structure models By Michael D. Bauer; Glenn D. Rudebusch; Jing (Cynthia) Wu
  30. Mediterranean business cycles: structure and characteristics By Fabio Canova; Alain Schlaepfer
  31. Household sector borrowing in the euro area - a micro data perspective By Ramon Gomez-Salvador; Adriana Lojschova; Thomas Westermann
  32. What lies beneath? A time-varying FAVAR model for the UK transmission mechanism By Haroon Mumtaz; Pawel Zabczyk; Colin Ellis
  33. Fixing Canada’s CPI: A Simple and Sensible Policy Change for Minister Flaherty By Christopher Ragan
  34. Price and wage setting in Portugal: learning by asking By Fernando Martins
  35. Forecasting the Polish zloty with non-linear models By Michal Rubaszek; Pawel Skrzypczynski; Grzegorz Koloch
  36. Revisiting Bank Pricing Policies in Brazil: evidence from loan and deposit markets By Leonardo S. Alencar

  1. By: Evans, George W (University of Oregon and University of Saint Andrews); Honkapohja, Seppo (Bank of Finland)
    Abstract: Expectations play a central role in modern macroeconomics. The econometric learning approach, in line with the cognitive consistency principle, models agents as forming expectations by estimating and updating subjective forecasting models in real time. This approach provides a stability test for RE equilibria and a selection criterion in models with multiple equilibria. Further features of learning – such as discounting of older data, use of misspecified models or heterogeneous choice by agents between competing models – generate novel learning dynamics. Empirical applications are reviewed and the roles of the planning horizon and structural knowledge are discussed. We develop several applications of learning with relevance to macroeconomic policy: the scope of Ricardian equivalence, appropriate specification of interest-rate rules, implementation of price-level targeting to achieve learning stability of the optimal RE equilibrium and whether, under learning, price-level targeting can rule out the deflation trap at the zero lower bound.
    Keywords: cognitive consistency; E-stability; least-squares; persistent learning dynamics; business cycles; monetary policy; asset prices
    JEL: C62 D83 D84 E32
    Date: 2011–03–24
  2. By: Tatjana Damjanovic; Vladislav Damjanovic; Charles Nolan
    Abstract: The unconditional expectation of social welfare is often used to assess alternative macroeconomic policy rules in applied quantitative research. It is shown that it is generally possible to derive a linear-quadratic problem that approximates the exact non-linear problem where the unconditional expectation of the objective is maximised and the steady-state is distorted. Thus, the measure of policy performance is a linear combination of second moments of economic variables which is relatively easy to compute numerically, and can be used to rank alternative policy rules. The approach is applied to a simple Calvo-type model under various monetary policy rules.
    Keywords: Linear-quadratic approximation; unconditional expectations; optimal monetary policy; ranking simple policy rules.
    JEL: E20 E32 F32 F41
    Date: 2011–03
  3. By: Engel, Charles (Department of Economics, University of Wisconsin, Madison, USA)
    Abstract: The well-known uncovered interest parity puzzle arises from the empirical regularity that, among developed country pairs, the high interest rate country tends to have high expected returns on its short term assets. At the same time, another strand of the literature has documented that high real interest rate countries tend to have currencies that are strong in real terms – indeed, stronger than can be accounted for by the path of expected real interest differentials under uncovered interest parity. These two strands – one concerning short-run expected changes and the other concerning the level of the real exchange rate – have apparently contradictory implications for the relationship of the foreign exchange risk premium and interest-rate differentials. This paper documents the puzzle, and shows that existing models appear unable to account for both empirical findings. The features of a model that might reconcile the findings are discussed.
    Keywords: Uncovered interest parity, foreign exchange risk premium, forward premium puzzle
    JEL: F30 F31 F41 G12
    Date: 2011–04
  4. By: Andrew Glover; Jonathan Heathcote; Dirk Krueger; José-Víctor Ríos-Rull
    Abstract: In this paper we construct a stochastic overlapping-generations general equilibrium model in which households are subject to aggregate shocks that affect both wages and asset prices. We use a calibrated version of the model to quantify how the welfare costs of severe recessions are distributed across different household age groups. The model predicts that younger cohorts fare better than older cohorts when the equilibrium decline in asset prices is large relative to the decline in wages, as observed in the data. Asset price declines hurt the old, who rely on asset sales to finance consumption, but benefit the young, who purchase assets at depressed prices. In our preferred calibration, asset prices decline more than twice as much as wages, consistent with the experience of the US economy in the Great Recession. A model recession is approximately welfare-neutral for households in the 20-29 age group, but translates into a large welfare loss of around 10% of lifetime consumption for households aged 70 and over.
    JEL: D31 D58 D91 E21
    Date: 2011–04
  5. By: Teruyoshi Kobayashi (Graduate School of Economics, Kobe University); Ichiro Muto (Bank of Japan)
    Abstract: This study examines the expectational stability of the rational expectations equilibria (REE) under alternative Taylor rules when trend inflation is non-zero. We find that when trend inflation is high, the REE is likely to be expectationally unstable. This result holds true regardless of the nature of the data (such as contemporaneous data, forecast, and lagged data) introduced in the Taylor rule. Our results suggest that a high macroeconomic volatility during the period of high trend inflation can be well explained by introducing the concept of expectational stability.
    Keywords: Adaptive learning, E-stability, Taylor rule, trend inflation
    JEL: D84 E31 E52
    Date: 2011–04
  6. By: Alistair Dieppe (European Central Bank, Kaiserstraße 29, D-60311 Frankfurt am Main, Germany.); Alberto González Pandiella (European Central Bank, Kaiserstraße 29, D-60311 Frankfurt am Main, Germany.); Stephen Hall (National Institute of Economic and Social Research and University of Leicester.); Alpo Willman (European Central Bank, Kaiserstraße 29, D-60311 Frankfurt am Main, Germany.)
    Abstract: Rational expectations has been the dominant way to model expectations, but the literature has quickly moved to a more realistic assumption of boundedly rational learning where agents are assumed to use only a limited set of information to form their expectations. A standard assumption is that agents form expectations by using the correctly specified reduced form model of the economy, the minimal state variable solution (MSV), but they do not know the parameters. However, with medium-sized and large models the closed-form MSV solutions are difficult to attain given the large number of variables that could be included. Therefore, agents base expectations on a misspecified MSV solution. In contrast, we assume agents know the deep parameters of their own optimising frameworks. However, they are not assumed to know the structure nor the parameterisation of the rest of the economy, nor do they know the stochastic processes generating shocks hitting the economy. In addition, agents are assumed to know that the changes (or the growth rates) of fundament variables can be modelled as stationary ARMA(p,q) processes, the exact form of which is not, however, known by agents. This approach avoids the complexities of dealing with a potential vast multitude of alternative mis-specified MSVs. Using a new Multi-country Euro area Model with Boundedly Estimated Rationality we show this approach is compatible with the same limited information assumption that was used in deriving and estimating the behavioral equations of different optimizing agents. We find that there are strong differences in the adjustment path to the shocks to the economy when agent form expectations using our learning approach compared to expectations formed under the assumption of strong rationality. Furthermore, we find that some variation in expansionary fiscal policy in periods of downturns compared to boom periods. JEL Classification: C51, D83, D84, E17, E32.
    Keywords: Expectation, bounded rationality, learning, imperfect information, heterogeneity, macro modelling, open-economy macroeconomics.
    Date: 2011–04
  7. By: Alistair Dieppe (European Central Bank, Kaiserstraße 29, D-60311 Frankfurt am Main, Germany.); Alberto González Pandiella (European Central Bank, Kaiserstraße 29, D-60311 Frankfurt am Main, Germany.); Alpo Willman (European Central Bank, Kaiserstraße 29, D-60311 Frankfurt am Main, Germany.)
    Abstract: The model presented here is a New estimated medium-scale Multi-Country Model (NMCM) which covers the five largest euro area countries and is used for forecasting and scenarios analysis at the European Central Bank. The model has a tight theoretical structure which allows for non-unitary elasticity of substitution, non-constant augmenting technical progress and heterogeneous sectors with differentiated price and income elastiticites of demand across sectors. Furthermore, it has the explicit inclusion of expectations on the basis of three optimising private sector decision making units: i.e. firms, trade unions and households, where output is in the short run demand-determined and monopolistically competing firms set prices and factor demands. Labour is indivisible and monopoly-unions set wages and households make consumption/saving decisions. We assume agents optimise under limited information where each agent knows only the parameters related to his/her optimization problem. Therefore we estimate with GMM, which implicitly assumes limited information boundedly rational expectations. In this paper we provide some simulation results under the assumption of model-consistent rational expectations, we show that there is some heterogeneity across countries and that the reactions of the economies to shocks depends strongly on whether the shocks are pre-announced, announced and credible or unannounced and uncredible. JEL Classification: C51, C6, E5.
    Keywords: Macro model, Open-economy macroeconomics, Rational expectations.
    Date: 2011–04
  8. By: Paolo Angelini (Banca d'Italia); Stefano Neri (Banca d'Italia); Fabio Panetta (Banca d'Italia)
    Abstract: We use a dynamic general equilibrium model featuring a banking sector to assess the interaction between macroprudential policy and monetary policy. We find that in “normal” times (when the economic cycle is driven by supply shocks) macroprudential policy generates only modest benefits for macroeconomic stability over a “monetary-policy-only” world. And lack of cooperation between the macroprudential authority and the central bank may even result in conflicting policies, hence suboptimal results. The benefits of introducing macroprudential policy tend to be sizeable when financial or housing market shocks, which affect the supply of loans, are important drivers of economic dynamics. In these cases a cooperative central bank will “lend a hand” to the macroprudential authority, working for broader objectives than just price stability in order to improve overall economic stability.
    Keywords: macroprudential policy, monetary policy, capital requirements
    JEL: E44 E58 E61
    Date: 2011–03
  9. By: Lo Duca, Marco (BOFIT); Peltonen, Tuomas (BOFIT)
    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 macro-financial 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 2006Q2, 5 quarters before the emergence of money markets tensions in August 2007.
    Keywords: early warning indicators; asset price booms and busts; financial stress; macro-prudential policies
    JEL: E44 E58 F01 F37
    Date: 2011–04–05
  10. By: Scott Fullwiler; L. Randall Wray
    Abstract: Scott Fullwiler and Senior Scholar L. Randall Wray review the roles of the Federal Reserve and the Treasury in the context of quantitative easing, and find that the financial crisis has highlighted the limited oversight of Congress and the limited transparency of the Fed. And since a Fed promise is ultimately a Treasury promise that carries the full faith and credit of the US government, the question is whether the Fed should be able to commit the public purse in times of national crisis.
    Date: 2011–04
  11. By: Ogawa, Eiji (Asian Development Bank Institute); Shimizu, Junko (Asian Development Bank Institute)
    Abstract: Regional monetary and financial cooperation in Asia has been discussed for years. To move towards a coordinated exchange rate policy, Ogawa and Shimizu (2005) proposed both an Asian Monetary Unit (AMU), which is a common currency basket computed as a weighted average of the thirteen ASEAN+3 currencies, and AMU Deviation Indicators (AMU DIs), which indicates the deviation of each Asian currency in terms of the AMU compared with the benchmark rate. The AMU and the AMU DIs are considered both as surveillance measures under the Chiang Mai Initiative and as benchmarks for coordinated exchange rate policies among Asian countries. In this paper, the authors show that monitoring the AMU and the AMU DIs plays an important role in the regional surveillance process under the Chiang Mai Initiative. By using daily and monthly data of AMU and AMU DIs for the period from January 2000 to June 2010, which are available from the website of the Research Institute of Economy, Trade, and Industry (RIETI), they examine their usefulness as a surveillance indicator. Our studies of AMU and AMU DIs confirm the following: first, an AMU peg system stabilizes the nominal effective exchange rate (NEER) of each Asian country. Second, the AMU and the AMU DIs could signal overvaluation or undervaluation for each of the Asian currencies. Third, trade imbalances within the region have been growing as the AMU DIs have been widening. Fourth, the AMU DIs could predict huge capital inflows and outflows for each Asian country. The above findings support the usefulness of using the AMU and the AMU DIs as surveillance indicators for monetary cooperation in Asia.
    Keywords: asian monetary unit; asian monetary cooperation; asian financial cooperation; chiang mai initiative; exchange rate policy; common currency basket; asian currencies
    JEL: F31 F33 F36
    Date: 2011–04–05
  12. By: James D. Hamilton; Jing Cynthia Wu
    Abstract: Affine term structure models have been used to address a wide range of questions in macroeconomics and finance. This paper investigates a number of their testable implications which have not previously been explored. We show that the assumption that certain specified yields are priced without error is testable, and find that the implied measurement or specification error exhibits serial correlation in all of the possible formulations investigated here. We further find that the predictions of these models for the average levels of different interest rates are inconsistent with the observed data, and propose a more general specification that is not rejected by the data.
    JEL: E43 G12
    Date: 2011–04
  13. By: Kjetil Martinsen (Norges Bank (Central Bank of Norway)); Francesco Ravazzolo (Norges Bank (Central Bank of Norway)); Fredrik Wulfsberg (Norges Bank (Central Bank of Norway))
    Abstract: We assess the forecast ability of Norges Bank’s regional survey for inflation, GDP growth and the unemployment rate in Norway. We propose several factor models based on regional and sectoral information given by the survey. The analysis identifies which information extracted from the ten sectors and the seven regions performs particularly well at forecasting different variables and horizons. Results show that several factor models beat an autoregressive benchmark in forecasting inflation and unemployment rate. However, the factor models are most successful in forecasting GDP growth. Forecast combinations based on past performance give in most cases more accurate forecasts than the benchmark, but they never give the most accurate forecasts.
    Keywords: Keywords: Factor models; macroeconomic forecasting; qualitative survey data.
    JEL: C53 C80
    Date: 2011–04–11
  14. By: Stefano Neri (Bank of Italy); Tiziano Ropele (Bank of Italy)
    Abstract: An important concern for the European Central Bank (ECB), and all central banks alike, is the necessity of making decisions in real time under conditions of great uncertainty about the underlying state of the economy. We address this concern by estimating on real-time data a New Keynesian model for the euro area under the assumption of imperfect information. In comparison to models that maintain the assumption of perfect information and are estimated on ex-post revised, we find that: (i) the estimated policy rule becomes more inertial and less aggressive towards inflation; (ii) the ECB is confronted with a more severe trade-off in the stabilization of inflation and the output gap.
    Keywords: monetary policy, imperfect information, real-time data
    JEL: E47 E52 E58
    Date: 2011–03
  15. By: Thomas I. Palley (New America Foundation, Washington DC)
    Abstract: This paper examines the theory of the Phillips curve, focusing on the distinction between "formation" of inflation expectations and "incorporation" of inflation expectations. Phillips curve theory has largely focused on the former. Explaining the Phillips curve by reference to expectation formation keeps Phillips curve theory in the policy orbit of natural rate thinking where there is no welfare justification for higher inflation even if there is a permanent inflation - unemployment trade-off. Explaining the Phillips curve by reference to incorporation of inflation expectations breaks that orbit and provides a welfare economics rationale for Keynesian activist policies that reduce unemployment at the cost of higher inflation.
    Keywords: Phillips curve, formation of inflation expectations, incorporation of inflation expectations, backward bending Phillips curve.
    JEL: E00 E31 E52
    Date: 2011
  16. By: Alexander Chudik (European Central Bank, Kaiserstraße 29, D-60311 Frankfurt am Main, Germany.); Michael Fidora (European Central Bank, Kaiserstraße 29, D-60311 Frankfurt am Main, Germany.)
    Abstract: Identification of structural VARs using sign restrictions has become increasingly popular in the academic literature. This paper (i) argues that identification of shocks can benefit from introducing a global dimension, and (ii) shows that summarising information by the median of the available impulse responses—as commonly done in the literature—has some undesired features that can be avoided by using an alternatively proposed summary measure based on a “scaled median” estimate of the structural impulse response. The paper implements this approach in both a small scale model as originally presented in Uhlig (2005) and a large scale model, introducing the sign restrictions approach to the global VAR (GVAR) literature, that allows to explore the global dimension by adding a large number of sign restrictions. We find that the patterns of impulse responses are qualitatively similar though point estimates tend to be quantitatively much larger in the alternatively proposed approach. In addition, our GVAR application in the context of global oil supply shocks documents that oil supply shocks have a stronger impact on emerging economies’ real output as compared to mature economies, a negative impact on real growth in oil-exporting economies as well, and tend to cause an appreciation (depreciation) of oil-exporters’ (oil-importers’) real exchange rates but also lead to an appreciation of the US dollar. One possible explanation would be the recycling of oil-exporters’ increased revenues in US financial markets. JEL Classification: C32, E17, F37, F41, F47.
    Keywords: Identification of shocks, sign restrictions, VAR, global VAR, oil shocks.
    Date: 2011–04
  17. By: Andrea Vaona (Department of Economics (University of Verona))
    Abstract: The paper extends the efficiency wages Phillips curve from a closed economy context to an open economy one with both commodity trade and capital mobility. Opening the trade account does not alter the slope of the Phillips curve, but it makes its position a function of the change of foreign and domestic outputs. Opening the capital account also alters the slope of the Phillips curve.
    Keywords: efficiency wages, money growth, Phillips curve, inflation
    JEL: E3 E20 E40 E50
    Date: 2011–04
  18. By: Frédéric Boissay (European Central Bank, Kaiserstraße 29, D-60311 Frankfurt am Main, Germany.)
    Abstract: This paper develops a general equilibrium model to analyze the link between financial imbalances and financial crises. The model features an interbank market subject to frictions and where two equilibria may (co-)exist. The normal times equilibrium is characterized by a deep market with highly leveraged banks. The crisis times equilibrium is characterized by bank deleveraging, a market run, and a liquidity trap. Crises occur when there is too much liquidity (savings) in the economy with respect to the number of (safe) investment opportunities. In effect, the economy is shown to have a limited liquidity absorption capacity, which depends –inter alia– on the productivity of the real sector, the ultimate borrower. I extend the model in order to analyze the effects of financial integration of an emerging and a developed country. I find results in line with the recent literature on global imbalances. Financial integration permits a more efficient allocation of savings worldwide in normal times. It also implies a current account deficit for the developed country. The current account deficit makes financial crises more likely when it exceeds the liquidity absorption capacity of the developed country. Thus, under some conditions –which this paper spells out– financial integration of emerging countries may increase the fragility of the international financial system. Implications of financial integration and global imbalances in terms of output, wealth distribution, welfare, and policy interventions are also discussed. JEL Classification: E21, F36, G01, G21.
    Keywords: Financial Integration, Global Imbalances, Asymmetric Information, Moral Hazard, Financial Crisis.
    Date: 2011–04
  19. By: Fabio Canova; Evi Pappa
    Abstract: We investigate the theoretical conditions for effectiveness of government consumption expenditure expansions using US, Euro area and UK data. Fiscal expansions taking place when monetary policy is accommodative lead to large output multipliers in normal times. The 2009-2010 packages need not produce significant output multipliers, may have moderate debt effects, and only generate temporary inflation. Expenditure expansions accompanied by deficit/debt consolidations schemes may lead to short run output gains but their success depends on how monetary policy and expectations behave. Trade openness and the cyclicality of the labor wedge explain cross-country differences in the magnitude of the multipliers.
    Keywords: Government consumption expenditure shocks; pricing frictions; monetary policy accommodation; debt and inflation dynamics
    JEL: C32 E62 E63
    Date: 2011–03
  20. By: Roberto Tamborini
    Abstract: This paper examines the new SGP rules that should govern fiscal policies of the EMU member countries by means of dynamic models of the debt/GDP ratio. The focus is on factors of heterogeneity and interdependence in the three key variables that may affect the debt/GDP evolution in a multi-country setup like a monetary union: the real growth rate, the inflation rate and the nominal interest rate on the sovereign debt stock. These factors are almost ignored in the SGP intellectual and institutional framework, but they can jeopardize the main goal of fostering convergence and keeping debt/GDP ratios equalized and stable over time. Even the return of growth, inflation and interest rates to their pre-crisis tendential values, a not so likely and imminent event, will probably be insufficient to create a favourable environment for smooth debt/GDP convergence across EMU countries.
    Keywords: Stability and Growth Pact, Public debt management
    JEL: E6
    Date: 2011
  21. By: Dai, Meixing; Sidiropoulos, Moïse
    Abstract: In a Stackelberg equilibrium, central bank opacity has a fiscal disciplining effect in the sense that it induces the government to reduce taxes and public expenditures, leading hence to lower inflation and output distortions. This effect could disappear or be dominated by the direct effect of opacity when the fiscal and monetary authorities play a Nash game.
    Keywords: Distortionary taxes; output distortions; central bank transparency (opacity); fiscal disciplining effect.
    JEL: E62 E58 E52 H30 E63
    Date: 2011
  22. By: Olivier CARDI (Université Panthéon-Assas ERMES Ecole Polytechnique); Romain RESTOUT (UNIVERSITE CATHOLIQUE DE LOUVAIN, Institut de Recherches Economiques et Sociales (IRES))
    Abstract: We use a two-sector neoclassical open economy model with traded and non-traded goods to investigate both the aggregate and the sectoral effects of temporary fiscal shocks. One central finding is that both sectoral capital intensities and labor supply elasticity matter in determining the response of key economic variables. In particular, the model can produce a drop in investment and in the current account, in line with empirical evidence, only if the traded sector is more capital intensive than the non-traded sector, and labor is supplied elastically. Irrespective of sectoral capital intensities, a fiscal shock raises the relative size of the non-traded sector substantially in the short-run. Additionally, allowing for the markup to depend on the number of competitors, the two-sector model can produce the real exchange rate depreciation found in the data. Finally, markup variations triggered by firm entry modify substantially the response of the real wage and the sectoral composition of GDP in the short-run.
    Keywords: Non-traded Goods; Fiscal Shocks; Investment; Current Account
    JEL: F41 E62 E22 F32
    Date: 2011–02–21
  23. By: António Afonso (European Central Bank, Directorate General Economics, Kaiserstraße 29, D-60311 Frankfurt am Main, Germany.); Jaromír Baxa (Institute of Economic Studies, Faculty of Social Sciences, Charles University in Prague, Smetanovo nábřeží 6, 111 01 Prague 1, Czech Republic.); Michal Slavík (European Central Bank, Fiscal Policies Division, Kaiserstraße 29, D-60311 Frankfurt am Main, Germany.)
    Abstract: We use a threshold VAR analysis to study whether the effects of fiscal policy on economic activity differ depending on financial market conditions. In particular, we investigate the possibility of a non-linear propagation of fiscal developments according to different financial market stress regimes. More specifically we employ a quarterly dataset, for the U.S., the U.K., Germany and Italy, for the period 1980:4-2009:4, encompassing macro, fiscal and financial variables. The results show that (i) the use of a nonlinear framework with regime switches is corroborated by nonlinearity tests; (ii) the responses of economic growth to a fiscal shock are mostly positive in both financial stress regimes; (iii) financial stress has a negative effect on output growth and worsens the fiscal position; (iv) the nonlinearity in the response of output growth to a fiscal shock is mainly associated with different behaviour across regimes; (v) the size of the fiscal multipliers is higher than average in the last crisis. JEL Classification: E62, G15, H60.
    Keywords: fiscal policy, financial markets, threshold VAR.
    Date: 2011–04
  24. By: Agnello, L.; Sousa, R.
    Abstract: We assess the role played by fiscal policy in explaining the dynamics of asset markets. Using a panel of ten industrialized countries, we show that a positive fiscal shock has a negative impact in both stock and housing prices. However, while stock prices immediately adjust to the shock and the effect of fiscal policy is temporary, housing prices gradually and persistently fall. Consequently, the attempts of fiscal policy to mitigate stock price developments (e.g. via taxes on capital gains) may severely de-stabilize housing markets. The empirical findings also point to significant fiscal multiplier effects in the context of severe housing busts, which gives rise to the importance of the implementation of fiscal stimulus packages. In addition, our results suggest that when governments run a budget deficit, they place an upward pressure on real interest rates, which "crowds-out" private consumption and investment. In contrast, during bust periods, unexpected variation in the fiscal stance crowds-in private spending, which reflects the "direct" and "indirect" effects of policy actions impact arising from a downward movement in real interest rates and an upward revision in price level expectations.
    Keywords: Fiscal policy, asset prices, panel VAR.
    JEL: E62 H30
    Date: 2011
  25. By: Gabriel P. Mathy; Christopher M. Meissner
    Abstract: A large body of cross-country empirical evidence identifies monetary policy and trade integration as key determinants of business cycle co-movement. Partially consistent with this, many argue that the re-emergence of the gold standard allowed for the global transmission of a deflationary shock in 1929 that culminated in the Great Depression. It is puzzling then to see decreased co-movement between 1920 and 1927 when international integration increased and nations returned to the gold standard. Fixed exchange rates and global trade were also on the rise after 1932, but co-movement declined again. Our empirical results shows that exchange rate regimes and trade were associated with higher co-movement at the bilateral level while common shocks and exchange control policies also mattered. Much of the fall after 1932 was driven by the rise of smaller blocs of monetary and trade cooperation and an inter-bloc fall in co-movement.
    JEL: E32 E42 F42 N1 N12 N14
    Date: 2011–04
  26. By: Simón Sosvilla-Rivero; María del Carmen Ramos-Herrera
    Abstract: This paper test for causality between the US Dollar-Euro exchange rate and US-EMU bond yield differentials. To that end, we apply Hsiao (1981)’s sequential procedure to daily data covering the 1999-2011 period. Our results suggest the existence of statistically significant Granger causality running one-way from bond yield differentials to the exchange rate, but not the other way around.
    Keywords: Causality, Exchange rate, Long-term interest rates, Rolling regression
    JEL: C32 F31 F33 G15
    Date: 2011–03
  27. By: Vincent BODART (UNIVERSITE CATHOLIQUE DE LOUVAIN, Institut de Recherches Economiques et Sociales (IRES) and Department of Economics); Bertrand CANDELON (University of Maastricht, Department of Economics); Jean-François CARPANTIER (UNIVERSITE CATHOLIQUE DE LOUVAIN, Institut de Recherches Economiques et Sociales (IRES) and Center for Operations Research and Econometrics (CORE))
    Abstract: Commodity currency literature recently stressed the importance of commodity prices as a determinant of real exchange rates in developing countries (Cashin, Cespedes and Sahay 2004). We provide new empirical evidence on this issue by focusing on countries which are specialized in the export of one leading commodity. For those countries, we investigate to which extent their real exchange rate is sensitive to price uctuations of their dominant commodity. By using non-stationary panel techniques robust to cross-sectional-dependence, we find that the price of the dominant commodity has a significant long-run impact on the real exchange rate when the exports of the leading commodity have a share of at least 20 percent in the country's total exports of merchandises. Our results also show that the larger the share, the larger the size of the impact.
    Keywords: Real exchange rates,commodity prices,non-stationary panel
    JEL: C32 C33 E31 F32
    Date: 2011–02–04
  28. By: Betsey Stevenson; Justin Wolfers
    Abstract: We document that trust in public institutions—and particularly trust in banks, business and government—has declined over recent years. U.S. time series evidence suggests that this partly reflects the pro-cyclical nature of trust in institutions. Cross-country comparisons reveal a clear legacy of the Great Recession, and those countries whose unemployment grew the most suffered the biggest loss in confidence in institutions, particularly in trust in government and the financial sector. Finally, analysis of several repeated cross-sections of confidence within U.S. states yields similar qualitative patterns, but much smaller magnitudes in response to state-specific shocks.
    Date: 2011
  29. By: Michael D. Bauer; Glenn D. Rudebusch; Jing (Cynthia) Wu
    Abstract: Affine dynamic term structure models (DTSMs) are the standard finance representation of the yield curve. However, the literature on DTSMs has ignored the coefficient bias that plagues estimated autoregressive models of persistent time series. We introduce new simulation-based methods for reducing or even eliminating small-sample bias in empirical affine Gaussian DTSMs. With these methods, we show that conventional estimates of DTSM coefficients are severely biased, which results in misleading estimates of expected future short-term interest rates and long-maturity term premia. Our unbiased DTSM estimates imply risk-neutral rates and term premia that are more plausible from a macro-finance perspective.
    Keywords: Interest rates
    Date: 2011
  30. By: Fabio Canova; Alain Schlaepfer
    Abstract: We date turning points of the reference cycle for 19 countries in the Mediterranean, for selected regions, and for the area. Cycles phases are asymmetric, with expansions lasting, on average, much longer than recessions. Cyclical fluctuations are volatile and not highly correlated across countries. Recessions are not very deep and output losses limited. Heterogeneities across countries and regions are substantial. There are time variations in features of Mediterranean business cycles not clearly linked with the Euro-Mediterranean partnership process. The concordance of cyclical fluctuations in the region is poorly linked to trade as is its evolution over time.
    Keywords: Turning point dates, Reference cycle, Euro Mediterranean partnership, Trade interdependences
    JEL: E32 C32
    Date: 2011–02
  31. By: Ramon Gomez-Salvador (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main); Adriana Lojschova (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main); Thomas Westermann (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main)
    Abstract: This paper uses micro data from the European Union Statistics on Income and Living Conditions (EU-SILC) to generate structural information for the euro area on the incidence of household indebtedness and the debt service burden. It breaks down incidence by characteristics such as income, age and employment status, all features that can be cross-referenced in the light of theories such as the life-cycle hypothesis. Overall, income appears to be the dominant feature determining the debt status of a household. The paper also examines the evolution of indebtedness and debt service burdens over time and compares the situation in the euro area with that in the United States. In general, the results suggest that the macroeconomic implications of indebtedness for monetary transmission and fi nancial stability are not associated with the mean but with the tails of the distribution. JEL Classification: C42, D12, D14, G21
    Keywords: Household indebtedness, financial vulnerability, micro survey data, monetary transmission.
    Date: 2011–04
  32. By: Haroon Mumtaz (Centre for Central Banking Studies, Bank of England.); Pawel Zabczyk (Bank of England and European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany.); Colin Ellis (University of Birmingham and BVCA.)
    Abstract: This paper uses a time-varying Factor Augmented VAR to investigate the evolving transmission of monetary policy and demand shocks in the UK. Simultaneous estimation of time-varying impulse responses of a large set of macroeconomic variables and disaggregated prices suggest that the response of inflation, money supply and asset prices to monetary policy and demand shocks has changed over the sample period. In particular, during the post-1992 inflation targeting period, monetary policy shocks started having a bigger impact on prices, a smaller impact on activity and began contributing more to overall volatility. In contrast, demand shocks had the largest impact on these variables before the 1990s. We also document changes in the response of disaggregated prices, with the median reaction to contractionary policy shocks becoming more negative and the distribution more dispersed post-1992. JEL Classification: C38, E44, E52.
    Keywords: Transmission mechanism, monetary policy, Factor Augmented VAR, timevarying coefficients, sign restrictions.
    Date: 2011–04
  33. By: Christopher Ragan (McGill University)
    Abstract: Fixing measurement errors in the Consumer Price Index is a small idea that offers big payoffs to Canadians and the government. In this paper, the author says if the upcoming federal budget devoted the resources needed to improve Statistics Canada’s measurement of the Consumer Price Index, Canadians would have a truer sense of changes in the cost of living, monetary policy would be guided by a more accurate measure of inflation, and Minister Flaherty would more easily achieve the government’s commitment to balance the federal budget by 2015/16.
    Keywords: Monetary Policy, Consumer Price Index (CPI), Statistics Canada, inflation rate
    JEL: E31
    Date: 2011–03
  34. By: Fernando Martins (Banco de Portugal (Research Department), ISEG (Technical University of Lisbon) and Universidade Lusíada de Lisboa.)
    Abstract: This paper presents the main findings of a survey conducted on a sample of Portuguese firms. The main aim was to identify some relevant characteristics about the dynamics of prices and wages in Portugal. The most important conclusions are: i) changes to wages are more synchronized than changes to prices; ii) most wages are defined using inflation as a yardstick, even though there are no formal rules; iii) the wages of most workers are defined in terms of sector-related collective agreements; iv) a considerable proportion of workers receive wages above those been agreed under the collective agreement; v) firms make frequent use of other mechanisms to cut payroll costs as a way of overcoming the restrictions imposed by downward nominal wage rigidity. JEL Classification: D21, E30, J31.
    Keywords: survey data, wage rigidity, price rigidity, indexation, institutions.
    Date: 2011–04
  35. By: Michal Rubaszek (National Bank of Poland, Economic Institute; Warsaw School of Economics); Pawel Skrzypczynski (National Bank of Poland, Economic Institute); Grzegorz Koloch (National Bank of Poland, Economic Institute; Warsaw School of Economics)
    Abstract: The literature on exchange rate forecasting is vast. Many researchers have tested whether implications of theoretical economic models or the use of advanced econometric techniques can help explain future movements in exchange rates. The results of the empirical studies for major world currencies show that forecasts from a naive random walk tend to be comparable or even better than forecasts from more sophisticated models. In the case of the Polish zloty, the discussion in the literature on exchange rate forecasting is scarce. This article fills this gap by testing whether non-linear time series models are able to generate forecasts for the nominal exchange rate of the Polish zloty that are more accurate than forecasts from a random walk. Our results confirm the main findings from the literature, namely that it is difficult to outperform a naive random walk in exchange rate forecasting contest.
    Keywords: Exchange rate forecasting; Polish zloty; Markov-switching models; Artificial neural networks
    JEL: C22 C45 C53 F31
    Date: 2011
  36. By: Leonardo S. Alencar
    Abstract: This paper addresses the determinants of interest rates in the Brazilian banking market. The results suggest that banks fully adjust their loan interest rates to a change in the monetary policy rate, but we also observe a rigid short-term response for some loan product categories. The study confirms that pricing policies can vary substantially depending on the market. For example, microeconomic factors did not seem to be a major determinant of retail loan rates, but they were found to be important determinants of corporate loan or time deposit rates. As two additional results, market concentration was found to have a robust significant positive effect on loan rates and interest spreads, as well as the international risk perception of Brazil, as proxied by the EMBI Brazil.
    Date: 2011–03

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