nep-cba New Economics Papers
on Central Banking
Issue of 2012‒07‒23
twenty-one papers chosen by
Maria Semenova
Higher School of Economics

  1. Market and Non-Market Monetary Policy Tools in a Calibrated DSGE Model for Mainland China By Chen, Qianying; Funke, Michael; Paetz, Michael
  2. U.S. monetary policy: a view from macro theory By William T. Gavin; Benjamin D. Keen
  3. Static and Dynamic Effects of Central Bank Transparency. By Meixing Dai
  4. Does Central Bank Staff Beat Private Forecasters? By Makram El-Shagi; Sebastian Giesen; A. Jung
  5. In flation Targeting, Credibility and Non-Linear Taylor Rules By Matthias Neuenkirch; Peter Tillmann
  6. Monetary Policy in a World Where Money (Also) Matters By Makram El-Shagi; Sebastian Giesen; L. J. Kelly
  7. The Credibility of Monetary Policy Announcements – Empirical Evidence for OECD Countries since the 1960s By Ansgar Belke; Andreas Freytag; Jonas Kei; Friedrich Schneider
  8. Global Banks and Crisis Transmission By Kalemli-Ozcan, Sebnem; Papaioannou, Elias; Perri, Fabrizio
  9. Determinacy, Learnability, Plausibility, and the Role of Money in New Keynesian Models By Bennett T. McCallum
  10. Euro area and global oil shocks: an empirical model-based analysis By Lorenzo Forni; Andrea Gerali; Alessandro Notarpietro; Massimiliano Pisani
  11. Banks’ reactions to Basel-III By Paolo Angelini; Andrea Gerali
  12. Do Low Interest Rates Sow the Seeds of Financial Crises? By Simona E. Cociuba; Malik Shukayev; Alexander Ueberfeldt
  13. Housing Bubbles and Interest Rates By Christian Hott; Terhi Jokipii
  14. Measuring complementarity in financial systems By Adeline Saillard; Thomas Url
  15. Identifying systemically important financial institutions: size and other determinants By Kyle Moore; Chen Zhou
  16. Bank ownership and credit over the business cycle: Is lending by state banks less procyclical? By Bertay, Ata Can; Demirguc-Kunt, Asli; Huizinga, Harry
  17. Monetary Commitment and Structural Reforms – A Dynamic Panel Analysis for Transition Economies By Ansgar Belke; Lukas Vogel
  18. Capital Requirements under Basel III in Latin America: The Cases of Bolivia, Colombia, Ecuador and Peru - Working Paper 296 By Liliana Rojas-Suarez, Arturo J. Galindo, and Marielle del Valle
  19. Reducing overreaction to central banks' disclosures:theory and experiment By Romain Baeriswyl; Camille Cornand
  20. Foreigners vs. Natives: Bank Lending Technologies and Loan Pricing By Beck, T.H.L.; Ioannidou, V.; Schäfer, L.
  21. Taming SIFIs By Xavier Freixas; Jean-Charles Rochet

  1. By: Chen, Qianying (BOFIT); Funke, Michael (BOFIT); Paetz, Michael (BOFIT)
    Abstract: Monetary policy in mainland China differs from conventional central banking in several respects. The central bank regulates retail lending and deposit rates, influences the credit supply via window guidance, and, in recent years has even used the required reserve ratio as a tool for fine-tuning monetary policy. This paper develops a New Keynesian DSGE model to captures China’s unconventional monetary policy toolkit. We find that credit quotas are important as the interest-rate corridor distorts the efficient reactions of the economy. Moreover, for China’s central bankers the choice of a particular monetary policy tool or a the appropriate combination of instruments depends on the source of the shock.
    Keywords: DSGE models; monetary policy; China; macroprudential policy
    JEL: E42 E52 E58
    Date: 2012–07–13
  2. By: William T. Gavin; Benjamin D. Keen
    Abstract: We use a dynamic stochastic general equilibrium model to address two questions about U.S. monetary policy: 1) Can monetary policy elevate output when it is below potential? and 2) Is the zero lower bound a trap? The model answer to the first question is yes it can, but the effect is only temporary and probably not welfare enhancing. The answer to the second question is more complicated becasue it depends on policy. It also depends on whether it is the inflation rate or the real interest rate that will adjust over the longer run if the policy rate is held near zero for an extended period. We use the Fisher equation to analyze possible outcomes for situtations where the central bank has promised to keep the interest rate near zero for an extended period.
    Keywords: Monetary policy ; Econometric models
    Date: 2012
  3. By: Meixing Dai
    Abstract: Using a New Keynesian framework, this paper shows that, under optimal discretion and optimal pre-commitment in a timeless perspective, imperfect transparency about the relative weight that the central bank assigns to output-gap stabilization generally reduces the average reaction of inflation to inflation shocks and the volatility of inflation, but increases these of the output gap in static and dynamic terms, and more so when inflation shocks are highly persistent. On balance, when inflation shocks are not excessively persistent, opacity could improve social welfare, more likely under pre-commitment than under discretion, if the weight assigned to output-gap stabilization is low.
    Keywords: Central bank transparency (opacity), macroeconomic volatility, inflation expectations dynamics, speed of convergence to the equilibrium.
    JEL: E52 E58
    Date: 2012
  4. By: Makram El-Shagi; Sebastian Giesen; A. Jung
    Abstract: In the tradition of Romer and Romer (2000), this paper compares staff forecasts of the Federal Reserve (Fed) and the European Central Bank (ECB) for inflation and output with corresponding private forecasts. Standard tests show that the Fed and less so the ECB have a considerable information advantage about inflation and output. Using novel tests for conditional predictive ability and forecast stability for the US, we identify the driving forces of the narrowing of the information advantage of Greenbook forecasts coinciding with the Great Moderation.
    Keywords: relative forecast performance, forecast stability, staff forecasts, private forecasts, real-time data
    JEL: C53 E37 E52 E58
    Date: 2012–07
  5. By: Matthias Neuenkirch (Philipps-University Marburg); Peter Tillmann (Philipps-University Giessen)
    Abstract: In this paper we systematically evaluate how central banks respond to infl ation deviations from target. We present a stylized New Keynesian model in which agents' infl ation expectations are sensitive to in flation deviations from target. To (re-)establish credibility, optimal monetary policy under discretion is shown to set higher interest rates today if average in flation exceeded the target in the past. Moreover, policy responds non-linearly to past in flation gaps. This is refl ected in an additional term in the central bank's optimal instrument rule, which we refer to as the "credibility loss". Augmenting a standard Taylor (1993) rule with the latter term, we provide empirical evidence for the interest rate response for a sample of nine IT or quasi-IT economies. We find that past deviations from the in flation target are feeding back into the reaction function of seven central banks and that this in fluence is economically meaningful. A deteroriation in credibility forces central bankers to undertake larger interest rate steps (ceteris paribus).
    Keywords: In flation expectations, credibility, reaction function, Taylor rule
    JEL: C32 E31 E43 E52 E58
    Date: 2012
  6. By: Makram El-Shagi; Sebastian Giesen; L. J. Kelly
    Abstract: While the long-run relation between money and inflation as predicted by the quantity theory is well established, empirical studies of the short-run adjustment process have been inconclusive at best. The literature regarding the validity of the quantity theory within a given economy is mixed. Previous research has found support for quantity theory within a given economy by combining the P-Star, the structural VAR and the monetary aggregation literature. However, these models lack precise modelling of the short-run dynamics by ignoring interest rates as the main policy instrument. Contrarily, most New Keynesian approaches, while excellently modeling the short-run dynamics transmitted through interest rates, ignore the role of money and thus the potential mid-and long-run effects of monetary policy. We propose a parsimonious and fairly unrestrictive econometric model that allows a detailed look into the dynamics of a monetary policy shock by accounting for changes in economic equilibria, such as potential output and money demand, in a framework that allows for both monetarist and New Keynesian transmission mechanisms, while also considering the Barnett critique. While we confirm most New Keynesian findings concerning the short-run dynamics, we also find strong evidence for a substantial role of the quantity of money for price movements.
    Keywords: monetary policy, P-Star, structural identification, Barnett critique
    JEL: E31 E52 C32
    Date: 2012–07
  7. By: Ansgar Belke; Andreas Freytag; Jonas Kei; Friedrich Schneider
    Abstract: Monetary policy rules have been considered as fundamental protection against inflation. However, empirical evidence for a correlation between rules and inflation is relatively weak. In this paper, we first discuss likely causes for this weak link and present the argument that monetary commitment is not credible in itself. It can grant price stability best if it is backed by an adequate assignment of economic policy. An empirical assessment based on panel data covering five decades and 22 OECD countries confirms the crucial role of a credibly backed monetary commitment to price stability.
    Keywords: Credibility; central bank independence; price stability; monetary commitment
    JEL: E31 E50 E52
    Date: 2012–07
  8. By: Kalemli-Ozcan, Sebnem; Papaioannou, Elias; Perri, Fabrizio
    Abstract: We study the effect of financial integration on the transmission of international business cycles. In a sample of 20 developed countries between 1978 and 2009 we find that, in periods without financial crises, increases in bilateral financial linkages are associated with more divergent output cycles. This relation is significantly weaker during financial turmoil periods, suggesting that financial crises induce co-movement among more financially integrated countries. We also show that countries with stronger, direct and indirect, financial ties to the U.S. experienced more synchronized cycles with the U.S. during the recent 2007-2009 crisis. We then interpret these findings using a simple general equilibrium model of international business cycles with banks and shocks to banking activity. The model suggests that the change in the relation between integration and synchronization can be driven by changes in the nature of shocks hitting the world economy, and that shocks to global banks played an important role in triggering and spreading the 2007-2009 crisis.
    Keywords: co-movement; crisis; financial integration; international business cycles
    JEL: E32 F15 F36
    Date: 2012–07
  9. By: Bennett T. McCallum
    Abstract: Recent mainstream monetary policy analysis focuses on rational expectation solutions that are uniquely stable. A number of recent studies have examined the question of whether typical New Keynesian (NK) models, with policy rules that satisfy the Taylor principle, also exhibit solutions with explosive inflation that cannot be ruled out by any transversality condition or any other generally accepted economic principle. This paper contributes to that debate by supporting and developing previous arguments suggesting that such explosive solutions are informationally infeasible. It also critiques prevailing notions of "determinancy" and outlines two alternative approaches to solution selection.
    JEL: C61 C62 E37 E47
    Date: 2012–07
  10. By: Lorenzo Forni (International Monetary Fund); Andrea Gerali (Bank of Italy); Alessandro Notarpietro; Massimiliano Pisani (Bank of Italy)
    Abstract: We assess the impact of oil shocks on euro-area macroeconomic variables by estimating a new-Keynesian small open economy model with Bayesian methods. Oil price is determined according to supply and demand conditions in the world oil market. We find that the impact of an increase in the price of oil depends upon the underlying sources of variation: when the driver of higher oil prices is an increase in the rest of the world's aggregate demand, both euro-area GDP and CPI inflation increase, whereas negative oil supply shocks and positive worldwide oil-specific demand shocks have stagflationary effects on the euro-area economy. Moreover, the increase in oil prices during the 2004-2008 period did not induce stagflationary effects on the euro-area economy because it was associated with positive aggregate demand shocks in the rest of the world. Similarly, a drop in world aggregate demand helps to explain the recent (2008) simultaneous drop in oil prices, euro-area GDP and inflation - particularly its fuel component.
    Keywords: oil shocks, DSGE modelling, open-economy macroeconomics, Bayesian inference, euro area
    JEL: C11 C51 E32 F41
    Date: 2012–07
  11. By: Paolo Angelini (Bank of Italy); Andrea Gerali (Bank of Italy)
    Abstract: We use a dynamic general equilibrium model of the euro area to study banks’ possible responses to the stricter capital requirements called for by the Basel III reform package. We show that the effects on output depend, inter alia, on the strategy banks adopt in response to the reform, and that banks tend to prefer some strategies over others. Specifically, an increase in loan spreads minimizes banks’ costs and induces the sharpest contraction in real activity and investment, in the immediate as well as long term. A recapitalization, or restrictions on dividends, have more modest effects on output, but are less likely to be preferred by banks. We also find that the undesired macroeconomic effects of the reform during the transition phase are significantly mitigated if the reform is announced well ahead of its actual implementation – as was done for the Basel III package.
    Keywords: Basel III, capital requirements, macroprudential policy, banks.
    JEL: E44 E58 E61
    Date: 2012–07
  12. By: Simona E. Cociuba (University of Western Ontario); Malik Shukayev (Bank of Canada); Alexander Ueberfeldt (Bank of Canada)
    Abstract: A view advanced in the aftermath of the late-2000s financial crisis is that lower than optimal interest rates lead to excessive risk taking by financial intermediaries. We evaluate this view in a quantitative dynamic model where interest rate policy affects risk taking by changing the amount of safe bonds available as collateral for repo transactions. Given properly priced collateral, lower than optimal interest rates reduce risk taking. However, if intermediaries can augment their collateral by issuing assets whose risk is underestimated by rating agencies, lower than optimal interest rates contribute to excessive risk taking and amplify the severity of recessions.
    Keywords: financial intermediation; risk taking; optimal interest rate policy; capital regulation
    JEL: E44 E52 G28 D53
    Date: 2012
  13. By: Christian Hott; Terhi Jokipii
    Abstract: In this paper we assess whether persistently too low interest rates can cause housing bubbles. For a sample of 14 OECD countries, we calculate the deviations of house prices from their (theoretically implied) fundamental value and define them as bubbles. We then estimate the impact that a deviation of short term interest rates from the Taylor-implied interest rates have on house price bubbles. We additionally assess whether interest rates that have remained low for a longer period of time have a greater impact on house price overvaluation. Our results indicate that there is a strong link between low interest rates and housing bubbles. This impact is especially strong when interest rates are "too low for too long". We argue that, by ensuring that rates do not deviate too far from Taylorimplied rates, central banks could lean against house price fluctuations without considering house price developments directly. If this is not possible, e.g. because a single monetary policy is confronted with a very heterogenous economic development within the currency area, alternative counter cyclical measures have to be considered.
    Keywords: House Prices, Bubbles, Interest Rates, Taylor Rule
    JEL: E52 G12 R21
    Date: 2012
  14. By: Adeline Saillard (CES - Centre d'économie de la Sorbonne - CNRS : UMR8174 - Université Paris I - Panthéon Sorbonne, EEP-PSE - Ecole d'Économie de Paris - Paris School of Economics - Ecole d'Économie de Paris); Thomas Url (WIFO - Austrian Institute of Economic Research)
    Abstract: The distinction between bank and market based economies has a long tradition in applied macroeconomics. The two types differ not only in the level of financial activity channeled through the stock market and private banking, but also in their institutional frameworks. We challenge this traditional distinction between the two types of financial architecture. We develop an index that accounts for complementarity between financial markets and banking systems that has been hypothesized by Sylla (1998) and Song and Thakor (2010). The theoretical foundation of our empirical approach is the general equilibrium framework by Freixas and Rochet (1997). We validate the proposed index and the underlying theory of complementary using a random coefficient and a Generalized estimating equations (GEE).
    Keywords: Bank-based, market-based, complementarity, efficiency, financial structure.
    Date: 2012–06
  15. By: Kyle Moore; Chen Zhou
    Abstract: This paper analyzes the conditions under which a financial institution is systemically important. Measuring the level of systemic importance of financial institutions, we find that size is a leading determinant confirming the usual “Too Big To Fail” argument. Nevertheless, the relation is non-linear during the recent global financial crisis. Moreover, since 2003, other determinants of systemic importance emerge. For example, decisions made by financial institutions on their choice of asset holdings, methods of funding, and sources of income have had a significant effect on the level of systemic importance during the global financial crises starting in 2008. These findings help to identify systemically important financial institutions by examining their relevant banking activities and to further design macro-prudential regulation towards reducing the systemic risk in the financial system.
    JEL: G01 G21 G28
    Date: 2012–07
  16. By: Bertay, Ata Can; Demirguc-Kunt, Asli; Huizinga, Harry
    Abstract: This paper finds that lending by state banks is less procyclical than lending by private banks, especially in countries with good governance. Lending by state banks in high income countries is even countercyclical. On the liability side, state banks expand potentially unstable non-deposit liabilities relatively little during booms, especially in countries with good governance. Public banks also report loan non-performance more evenly over the business cycle. Overall our results suggest that state banks can play a useful role in stabilizing credit over the business cycle as well as during periods of financial instability. However, the track record of state banks in credit allocation remains quite poor, questioning the wisdom of using state banks as a short term counter-cyclical tool.
    Keywords: lending; procyclicality; state banks
    JEL: G21 H44
    Date: 2012–07
  17. By: Ansgar Belke; Lukas Vogel
    Abstract: This paper examines the contemporaneous relationship between the exchange rate regime and structural economic reforms for a sample of CEEC/CIS transition countries. We investigate empirically whether structural reforms are complements or substitutes for monetary commitment in the attempt to improve macroeconomic performance. Both EBRD and EFW data suggest a negative relationship between flexible exchange rate arrangements and external liberalization. Another finding from the EFW sample is that economic liberalisation has tended to be stronger under better macroeconomic fundamentals, suggesting that the impact of good macroeconomic conditions as facilitating structural reforms outweighs countervailing effects in the sense of lower reform pressure.
    Keywords: Exchange rate regime; structural reform; panel data; political economy of reform; transition countries
    JEL: D78 E52 E61 F36
    Date: 2012–07
  18. By: Liliana Rojas-Suarez, Arturo J. Galindo, and Marielle del Valle
    Abstract: A number of banks in developed countries argue that the new capital requirements under Basel III are too stringent and that implementing the proposed regulation would require raising large amounts of capital, with adverse consequences on credit and the cost of finance. In contrast, many emerging market economies claim that their systems are adequately capitalized and that they have no problems with implementing the new capital requirements. This paper conducts a detailed calculation of capital held by the banks in four Latin American countries—known as the Andean countries: Bolivia, Colombia, Ecuador and Peru—and assesses the potential effects of full compliance with the capital requirements under Basel III. The conclusions are positive and show that while capital would decline somewhat in these countries after they make adjustments to comply with the new definition of capital under Basel III, they would still meet the Basel III recommendations on capital requirements. More importantly, these countries would hold Tier 1 capital to risk-weighted-asset ratios significantly above the 8.5 percent requirement under Basel III. That is, not only the quantity, but also the quality of capital is adequate in the countries under study. While encouraging, these results should not be taken as a panacea since the new regulations are only effective if coupled with appropriate risk management and supervision mechanisms to control the build-up of excessive risk-taking by banks. Further research into these areas is needed for a complete assessment of the strength of banks in the Andean countries.
    JEL: G21 G28 G32 G38
    Date: 2012–05
  19. By: Romain Baeriswyl; Camille Cornand
    Abstract: Financial markets are known for overreacting to public information. Central banks can reduce this overreaction either by disclosing information to a fraction of market participants only (partial publicity) or by disclosing information to all participants but with ambiguity (partial transparency). We show that, in theory, both communication strategies are strictly equivalent in the sense that overreaction can be indifferently mitigated by reducing the degree of publicity or by reducing the degree of transparency. We run a laboratory experiment to test whether theoretical predictions hold in a game played by human beings. In line with theory, the experiment does not allow the formulation of a clear preference in favor of either communication strategy. This paper then discusses the opportunity for central banks to choose between partial transparency and partial publicity to control market reaction to their disclosures.
    Keywords: heterogeneous information, public information, overreaction, transparency,coordination, experiment
    JEL: C92 D82 D84 E58
    Date: 2012
  20. By: Beck, T.H.L.; Ioannidou, V.; Schäfer, L. (Tilburg University, Center for Economic Research)
    Abstract: Abstract: Do domestic and foreign banks differ in their lending techniques and loan pricing models? Are such differences driven by different clienteles? Using a sample of firms that borrow from both domestic and foreign banks in the same month, we show significant differences in lending techniques and loan pricing. Foreign banks charge lower interest rates, but grant loans at a shorter maturity and are more likely to demand collateral than domestic banks. Foreign banks also base their pricing on credit ratings and collateral pledges, while domestic banks price according to length, depth and breadth of the relationship with the borrower. These findings confirm that foreign and domestic banks can cater to the same clientele but with different lending techniques: foreign banks with transaction-based and domestic banks with relationship-based lending techniques.
    Keywords: Bank Financing;Foreign Ownership;Lending Technologies;Loan Pricing.
    JEL: G21 G30
    Date: 2012
  21. By: Xavier Freixas; Jean-Charles Rochet
    Abstract: We model a Systemically Important Financial Institution (SIFI) that is too big (or too interconnected) to fail. Without credible regulation and strong supervision, the shareholders of this institution might deliberately let its managers take excessive risk. We propose a solution to this problem, showing how insurance against systemic shocks can be provided without generating moral hazard. The solution involves levying a systemic tax needed to cover the costs of future crises and more importantly establishing a Systemic Risk Authority endowed with special resolution powers, including the control of bankers' compensation packages during crisis periods.
    Keywords: SIFI, dynamic moral hazard, risk taking
    JEL: G21 G32 G34
    Date: 2012–06

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