nep-cba New Economics Papers
on Central Banking
Issue of 2012‒10‒20
twenty-one papers chosen by
Maria Semenova
Higher School of Economics

  1. When Credit Bites Back: Leverage, Business Cycles and Crises By Oscar Jorda; Moritz Schularick; Alan Taylor
  2. Exchange rate pass-through, monetary policy, and variability of exchange rates By Konstantin Styrin; Oleg Zamulin
  3. Fiscal Policy, Banks and the Financial Crisis By Robert Kollmann; Marco Ratto; Werner Roeger; Jan in'tVeld
  4. Global excess liquidity and asset prices in emerging countries: a pvar approach By Sophie Brana; Marie-Louise Djibenou; Stéphanie Prat
  5. Sovereign Defaults and Banking Crises By Cesar Sosa-Padilla
  6. Endogenous risk in a DSGE model with capital-constrained financial intermediaries By Hans Dewachter; Raf Wouters
  7. Macroprudential policy, countercyclical bank capital buffers and credit supply: Evidence from the Spanish dynamic provisioning experiments By Gabriel Jiménez; Steven Ongena; José-Luis Peydró; Jesús Saurina
  8. Monetary policy implications of the dependence of long term interest rates on disagreement about macroeconomic forecasts By Eric Dor
  9. Assets matter: New and old views of monetary policy By Stan du Plessis
  10. Bank/sovereign risk spillovers in the European debt crisis By Valerie De Bruyckere; Maria Gerhardt; Glenn Schepens; Rudi Vander Vennet
  11. Bank ratings: What determines their quality? By Hau, Harald; Langfield, Sam; Marqués Ibañez, David
  12. Euro Area: Single Currency - National Money Creation By Stefan Kooths; Björn van Roye
  13. Time Variation in an Optimal Asymmetric Preference Monetary Policy Model By Cassou, Steven P.; Vázquez Pérez, Jesús
  14. A macroeconomic framework for quantifying systemic risk By Zhiguo He; Arvind Krishnamurthy
  15. Liquidity Coinsurance and Bank Capital By Castiglionesi, Fabio; Feriozzi, Fabio; Lóránth, Gyöngyi; Pelizzon, Loriana
  16. Risk, uncertainty and monetary policy By Geert Bekaert; Marie Hoerova; Marco Lo Duca
  17. Credit Shocks Harm the Unprepared - Financing Constraints and the Financial Crisis By Hetland, Ove Rein; Mjøs, Aksel
  18. Financial reforms and capital flows: Insights from general equilibrium By Alberto Martin; Jaume Ventura
  19. Competition for internal funds within multinational banks: Foreign affiliate lending in the crisis By Düwel, Cornelia; Frey, Rainer
  20. Coping with Financial Crises: Latin American Answers to European Questions By Eduardo A. Cavallo; Eduardo Fernández-Arias
  21. Bank strategies in catastrophe settings: empirical evidence and policy suggestions By Leonardo Becchetti; Stefano Castriota; Pierluigi Conzo

  1. By: Oscar Jorda; Moritz Schularick; Alan Taylor (Department of Economics, University of California Davis)
    Abstract: This paper studies the role of credit in the business cycle, with a focus on private credit overhang. Based on a study of the universe of over 200 recession episodes in 14 advanced countries between 1870 and 2008, we document two key facts of the modern business cycle: financial-crisis recessions are more costly than normal recessions in terms of lost output; and for both types of recession, more credit-intensive expansions tend to be followed by deeper recessions and slower recoveries. In additional to unconditional analysis, we use local projection methods to condition on a broad set of macroeconomic controls and their lags. Then we study how past credit accumulation impacts the behavior of not only output but also other key macroeconomic variables such as investment, lending, interest rates, and inflation. The facts that we uncover lend support to the idea that financial factors play an important role in the modern business cycle.
    Keywords: leverage, booms, recessions, financial crises, business cycles, local projections.
    JEL: C14 C52 E51 F32 F42 N10 N20
    Date: 2012–10–05
  2. By: Konstantin Styrin (New Economic School); Oleg Zamulin (National Research University – Higher School of Economics)
    Abstract: We document that contribution of identified US monetary shock to exchange rate variability differs across currencies and is inversely related to the degree of a country’s US dollar exchange rate pass-through into import prices. We explore this empirical pattern under the assumption that each central bank, when choosing its monetary policy, takes into account in which currency its country’s exports and imports are denominated. The choice of imports invoicing currency will affect both the degree of exchange rate pass-through and the monetary policy response. Different shape of monetary policy reaction function will result in different contribution of monetary shocks to the exchange rate dynamics. We illustrate this mechanism using a simple general equilibrium model.
    Keywords: Exchange rate; pass-through; invoicing currency; monetary policy; monetary shocks; variance decomposition
    JEL: F41 F42
    Date: 2012–05
  3. By: Robert Kollmann; Marco Ratto; Werner Roeger; Jan in'tVeld
    Abstract: This paper studies the effectiveness of Euro Area (EA) fiscal policy, during the recent financial crisis, using an estimated New Keynesian model with a bank. A key dimension of policy in the crisis was massive government support for banks—that dimension has so far received little attention in the macroeconomics literature. We use the estimated model to analyze the effects of bank asset losses, of government support for banks, and other fiscal stimulus measures, in the EA. Our results suggest that support for banks had a stabilizing effect on EA output, consumption and investment. Increased government purchases helped to stabilize output, but crowded out consumption. Higher transfers to households had a positive impact on private consumption, but a negligible effect on output and investment. Banking shocks and increased government spending explain half of the rise in the public debt/GDP ratio since the onset of the crisis.
    Keywords: financial crisis; bank rescue measures; fiscal policy
    JEL: E62 E32 G21 H63 F41
    Date: 2012–10
  4. By: Sophie Brana (Larefi - Laboratoire d'analyse et de recherche en économie et finance internationales - Université Montesquieu - Bordeaux IV : EA2954); Marie-Louise Djibenou (Larefi - Laboratoire d'analyse et de recherche en économie et finance internationales - Université Montesquieu - Bordeaux IV : EA2954); Stéphanie Prat (Larefi - Laboratoire d'analyse et de recherche en économie et finance internationales - Université Montesquieu - Bordeaux IV : EA2954)
    Abstract: The overly accommodating monetary policy is often accused of creating surplus liquidity and bubbles on the asset markets. In particular, it could have contributed to strong capital inflows in emerging countries, which may have had a significant impact on financial stability in these countries, affecting domestic financing conditions and creating a risk of upward pressures on asset prices. We focus in this paper on the impact of global excess liquidity on good and asset prices for a set of emerging market countries by estimating a panel VAR model. We define first global liquidity and highlight situations of excess liquidity. We then find that excess liquidity at the global level has spillover effects on output and price level in emerging countries. The impact on real estate and commodity prices in emerging countries is less clear.
    Keywords: Global liquidity, excess liquidity indicators, crises indicators, emerging countries, financial crisis
    Date: 2012–03–01
  5. By: Cesar Sosa-Padilla
    Abstract: Episodes of sovereign default feature three key empirical regularities in connection with the banking systems of the countries where they occur: (i) sovereign defaults and banking crises tend to happen together, (ii) commercial banks have substantial holdings of government debt, and (iii) sovereign defaults result in major contractions in bank credit and production. This paper provides a rationale for these phenomena by extending the traditional sovereign default framework to incorporate bankers that lend to both the government and the corporate sector. When these bankers are highly exposed to government debt a default triggers a banking crisis which leads to a corporate credit collapse and subsequently to an output decline. When calibrated to Argentina's 2001 default episode the model produces default on equilibrium with a frequency in line with actual default frequencies, and when it happens credit experiences a sharp contraction which generates an output drop similar in magnitude to the one observed in the data. Moreover, the model also matches several moments of the cyclical dynamics of macroeconomic aggregates.
    Keywords: sovereign default, banking crisis, credit crunch, optimal fiscal policy, Markov perfect equilibrium, endogenous cost of default, domestic Debt.
    JEL: F34 E62
    Date: 2012–09
  6. By: Hans Dewachter (National Bank of Belgium, Research Department; University of Leuven); Raf Wouters (National Bank of Belgium, Research Department)
    Abstract: This paper proposes a perturbation-based approach to implement the idea of endogenous financial risk in a standard DSGE macro-model. Recent papers, such as Mendoza (2010), Brunnermeier and Sannikov (2012) and He and Krishnamurthy (2012), that have stimulated the research field on endogenous risk in a macroeconomic context, are based on sophisticated solution methods that are not easily applicable in larger models. We propose an approximation method that allows us to capture some of the basic insights of this literature in a standard macro-model. We are able to identify an important risk-channel that derives from the risk aversion of constrained intermediaries and that contributes significantly to the overall financial and macro volatility. With this procedure, we obtain a consistent and computationally-efficient modelling device that can be used for integrating financial stability concerns within the traditional monetary policy analysis.
    Date: 2012–10
  7. By: Gabriel Jiménez (Banco de España); Steven Ongena (CentER - Tilburg University; CEPR); José-Luis Peydró (Universitat Pompeu Fabra, Barcelona; Barcelona Graduate School of Economics); Jesús Saurina (Banco de España)
    Abstract: We analyze the impact of the countercyclical capital buffers held by banks on the supply of credit to firms and their subsequent performance. Countercyclical ‘dynamic’ provisioning unrelated to specific loan losses was introduced in Spain in 2000, and modified in 2005 and 2008. The resultant bank-specific shocks to capital buffers, combined with the financial crisis that shocked banks according to their available pre-crisis buffers, underpin our identification strategy. Our estimates from comprehensive bank-, firm-, loan-, and loan application-level data suggest that countercyclical capital buffers help smooth credit supply cycles and in bad times uphold firm credit availability and performance.
    Keywords: bank capital, dynamic provisioning, credit availability, financial crisis
    JEL: E51 E58 E60 G21 G28
    Date: 2012–10
  8. By: Eric Dor (IESEG School of Management (LEM-CNRS))
    Abstract: Recent studies show that disagreement regarding the future evolution of activity, inflation, or long and short interest rates, significantly forecasts holding excess returns. These studies include the papers of Buraschi and Whelan (2012), Barillas and Nimark (2012), Xiong and Yan (2010), Wu (2009) Such results challenge the common view that, under the expectations hypothesis of the term structure, the excess holding return should be unpredictable. The new evidence thus means that the risk premium is time-varying, moving as a function of disagreement. It is useful to discuss the potential implications of such theoretical results and empirical evidence on related monetary policy issues.
    Date: 2012–12
  9. By: Stan du Plessis (Department of Economics, University of Stellenbosch)
    Abstract: An extraordinary consensus on the goals and conduct of monetary has been undermined by the international financial crisis and the faltering recovery in many economies. There is an evident need to pay closer attention to developments of asset markets and in the financial sector, which has opened a discussion on the appropriate goals for monetary policy. Meanwhile central banks have employed controversial balance sheet operations to restore market stability and encourage economic recovery. This paper argues that both these developments reflect earlier concerns in monetary policy: prior to the modern consensus both balance sheet policies and an emphasis on financial stability were central concerns of monetary authorities and the future of monetary policy is likely to rhyme with its past.
    Keywords: monetary policy, interest rate policy, balance sheet operations, financial stability
    JEL: E51 E52 E58
    Date: 2012
  10. By: Valerie De Bruyckere (Ghent University, Department of Financial Economics); Maria Gerhardt (Ghent University, Department of Financial Economics); Glenn Schepens (Ghent University, Department of Financial Economics); Rudi Vander Vennet (Ghent University, Department of Financial Economics)
    Abstract: This paper investigates contagion between bank risk and sovereign risk in Europe over the period 2006-2011. Since this period covers various stages of the banking and sovereign crisis, it offers a fertile ground to analyze bank/sovereign risk spillovers. We define contagion as excess correlation, i.e. correlation between banks and sovereigns over and above what is explained by common factors, using CDS spreads at the bank and at the sovereign level. Moreover, we investigate the determinants of contagion by analyzing bank-specific as well as country-specific variables and their interaction. We provide empirical evidence that various contagion channels are at work, including a strong home bias in bank bond portfolios, using the EBA’s disclosure of sovereign exposures of banks. We find that banks with a weak capital and/or funding position are particularly vulnerable to risk spillovers. At the country level, the debt ratio is the most important driver of contagion.
    Keywords: Contagion, bank risk, sovereign risk, bank business models, bank regulation, sovereign debt crisis
    JEL: G01 G21 G28 H6
    Date: 2012–10
  11. By: Hau, Harald; Langfield, Sam; Marqués Ibañez, David
    Abstract: This paper examines the quality of credit ratings assigned to banks in Europe and the United States by the three largest rating agencies over the past two decades. We interpret credit ratings as relative assessments of creditworthiness, and define a new ordinal metric of rating error based on banks’ expected default frequencies. Our results suggest that rating agencies assign more positive ratings to large banks and to those institutions more likely to provide the rating agency with additional securities rating business (as indicated by private structured credit origination activity). These competitive distortions are economically significant and help perpetuate the existence of ‘too-big-to-fail’ banks. We also show that, overall, differential risk weights recommended by the Basel accords for investment grade banks bear no significant relationship to empirical default probabilities.
    Keywords: conflicts of interest; credit ratings; prudential regulation; rating agencies; sovereign risk
    JEL: E44 G21 G23 G28
    Date: 2012–10
  12. By: Stefan Kooths; Björn van Roye
    Abstract: The Eurosystem has been pursuing a crisis management policy for more than four years now. This policy aims primarily at maintaining financial stability in the euro area by providing vast liquidity support to commercial banks that are operating in nationally segmented banking systems. As a side effect, the national central banks substitute money market operations for cross-border capital flows. The national central banks are thus increasingly engaging in substantial balance-of-payments financing, and financial risks are being shifted from investors to European taxpayers via the Eurosystem. Symptomatically, this shows up in exploding TARGET2 positions in the national central banks' balance sheets. The longer this process continues, the stronger the centrifugal forces become that ultimately might break up the single currency. Instead of a fiscal union, a euro-area-wide regulatory approach is required. In addition to establishing a uniform scheme for banking regulation, supervision and resolution, we recommend that contingent convertible bonds (CoCos) be introduced to provide a major source of refinancing for the banking industry. Since CoCos cannot be introduced overnight, national and European banking resolution funds would be needed in the short run. These funds would not rescue banks but they would kick in as soon as a bank's equity is depleted in order to wind up failing banks in a systemically prudent way
    Keywords: Balance-of-payments financing, Target2, Eurosystem, Monetary policy, Financial crisis, Euro area, Financing mechanisms
    JEL: E42 E51 E58 F32 F34
    Date: 2012–08
  13. By: Cassou, Steven P.; Vázquez Pérez, Jesús
    Abstract: This paper considers a time varying parameter extension of the Ruge-Murcia (2003, 2004) model to explore whether some of the variation in parameter estimates seen in the literature could arise from this source. A time varying value for the unemployment volatility parameter can be motivated through several means including variation in the slope of the Phillips curve or variation in the preferences of the monetary authority.We show that allowing time variation for the coefficient on the unemployment volatility parameter improves the model fit and it helps to provide an explanation of inflation bias based on asymmetric central banker preferences, which is consistent across subsamples.
    Keywords: asymmetric preferences, time varying parameter, conditional unemployment volatility
    JEL: E61 E31 E52
    Date: 2012
  14. By: Zhiguo He (University of Chicago, Booth School of Business; NBER); Arvind Krishnamurthy (Northwestern University,Kellogg School of Management; NBER)
    Abstract: Systemic risk arises when shocks lead to states where a disruption in financial intermediation adversely affects the economy and feeds back into further disrupting financial intermediation. We present a macroeconomic model with a financial intermediary sector subject to an equity capital constraint. The novel aspect of our analysis is that the model produces a stochastic steady state distribution for the economy, in which only some of the states correspond to systemic risk states. The model allows us to examine the transition from “normal” states to systemic risk states. We calibrate our model and use it to match the systemic risk apparent during the 2007/2008 financial crisis. We also use the model to compute the conditional probabilities of arriving at a systemic risk state, such as 2007/2008. Finally, we show how the model can be used to conduct a Fed “stress test” linking a stress scenario to the probability of systemic risk states.
    Keywords: Liquidity, Delegation, Financial Intermediation, Crises, Financial Friction, Constraints
    JEL: G12 G2 E44
    Date: 2012–10
  15. By: Castiglionesi, Fabio; Feriozzi, Fabio; Lóránth, Gyöngyi; Pelizzon, Loriana
    Abstract: Banks can deal with their liquidity risk by holding liquid assets (self-insurance), by participating in the interbank market (coinsurance), or by using flexible financing instruments, such as bank capital (risk-sharing). We study how the access to an interbank market affects banks' incentive to hold capital. A general insight is that from a risk-sharing perspective it is optimal to postpone payouts to capital investors when a bank is hit by a liquidity shock that it cannot coinsure on the interbank market. This mechanism produces a negative relationship between interbank activity and bank capital. We provide empirical support for this prediction in a large sample of U.S. commercial banks, as well as in a sample of European and Japanese commercial banks.
    Keywords: Bank Capital; Interbank Markets; Liquidity Coinsurance.
    JEL: G21
    Date: 2012–10
  16. By: Geert Bekaert (Graduate School of Business, Columbia University); Marie Hoerova (ECB); Marco Lo Duca (ECB)
    Abstract: The VIX, the stock market option-based implied volatility, strongly co-moves with measures of the monetary policy stance. When decomposing the VIX into two components, a proxy for risk aversion and expected stock market volatility (“uncertainty”), we find that a lax monetary policy decreases both risk aversion and uncertainty, with the former effect being stronger. The result holds in a structural vector autoregressive framework, controlling for business cycle movements and using a variety of identification schemes for the vector autoregression in general and monetary policy shocks in particular.
    Keywords: Monetary policy, Option implied volatility, Risk aversion, Uncertainty, Business cycle, Stock market volatility dynamics
    JEL: E44 E52 G12 G20 E32
    Date: 2012–10
  17. By: Hetland, Ove Rein (Ernst & Young Transaction Advisory Services, Stavanger, and Institute for Research in Economics and Business Administration (SNF)); Mjøs, Aksel (Dept. of Finance and Management Science, Norwegian School of Economics and Business Administration)
    Abstract: We show that the investments of ex ante financially unconstrained firms are more profoundly affected by changes in credit supply than the investments of financially constrained firms. We employ a survey of Norwegian private firms concerning the impact of the financial crisis of 2008-9, linked to firm-level financial and bank accounts. Adverse changes in credit availability reduce investments after controlling for output demand, and this effect is largest for the least financially constrained firms. This is consistent with a model where financially constrained firms hedge against cash flow shortfalls whilst ex ante unconstrained firms rely on access to external funds.
    Keywords: Credit Shocks; Financing Constraints; Financial Crisis
    JEL: G00
    Date: 2012–09–28
  18. By: Alberto Martin; Jaume Ventura
    Abstract: As a result of debt enforcement problems, many high-productivity firms in emerging economies are unable to pledge enough future profits to their creditors and this constrains the financing they can raise. Many have argued that, by relaxing these credit constraints, reforms that strengthen enforcement institutions would increase capital flows to emerging economies. This argument is based on a partial equilibrium intuition though, which does not take into account the origin of any additional resources that flow to high-productivity firms after the reforms. We show that some of these resources do not come from abroad, but instead from domestic low-productivity firms that are driven out of business as a result of the reforms. Indeed, the resources released by these low-productivity firms could exceed those absorbed by high-productivity ones so that capital flows to emerging economies might actually decrease following successful reforms. This result provides a new perspective on some recent patterns of capital flows in industrial and emerging economies.
    Keywords: capital flows, financial reforms, productivity, economic growth, financial globalization
    JEL: F34 F36 G15 O19 O43
    Date: 2012–09
  19. By: Düwel, Cornelia; Frey, Rainer
    Abstract: We investigate how the lending activities of a multinational bank's affiliates located abroad are affected by funding difficulties in view of the financial crisis. For this, we consider transaction-induced changes in long-term lending to the private sector of 40 countries by the affiliates of the 68 largest German banks. We find that affiliates' local deposits and profitability have been stabilizing loan supply. By contrast, relying on short-term wholesale funding has increasingly proven to be a disadvantage in the crisis, as inter-bank and capital markets froze. Besides, the more an affiliate abroad takes recourse to intra-bank funding in the crisis, the more it becomes dependent on a stable deposit and long-term wholesale funding position of its parent bank. We furthermore detect competition for intra-bank funding across the affiliates abroad as well as an increasing focus on the parent bank's home market activities. --
    Keywords: funding structure,multinational banks,internal capital market,intra-bank lending,wholesale funding,financial crisis
    JEL: G21 F23 F34 E44
    Date: 2012
  20. By: Eduardo A. Cavallo; Eduardo Fernández-Arias
    Abstract: Europe faces challenges reminiscent of Latin American financial crises. The failure of recent liquidity support to normalize the situation in Europe suggests the need to refocus the policy debate on fundamentals: structural reform for growth and, where needed, restructuring to resolve banking crises and the debt overhang. Latin America’s experience yields relevant policy lessons for Europe on those fronts except concerning the use of sharp real devaluations to spearhead recovery: euro-zone countries following suit by reintroducing devalued national currencies would invite catastrophe. Despite this constraint, Europe stands a better chance of navigating the path out of the crisis because it has cooperative mechanisms unavailable in Latin America. European cooperation can provide support for orderly crisis resolution as well as growth and competitiveness within the currency union fold, to the benefit of all members. However, the path is uncharted, and successful regional cooperation will require innovation and political will.
    JEL: E61 F33 F34 F36 F53 G01
    Date: 2012–10
  21. By: Leonardo Becchetti (Faculty of Economics, University of Rome "Tor Vergata"); Stefano Castriota (Faculty of Economics, University of Rome "Tor Vergata"); Pierluigi Conzo (University of Naples "Federico II" & CSEF)
    Abstract: The poor in developing countries are the most exposed to natural catastrophes and microfinance organizations may potentially ease their economic recovery. Yet, no evidence on MFIs strategies after natural disasters exists. We aim to fill this gap with a database which merges bank records of loans, issued before and after the 2004 Tsunami by a Sri Lankan MFI recapitalized by Western donors, with detailed survey data on the corresponding borrowers. Evidence of effective post-calamity intervention is supported since the defaults in the post-Tsunami years (2004-2006) do not imply smaller loans in the period following the recovery (2007-2011) while Tsunami damages increase their size. Furthermore, a cross-subsidization mechanism is in place: clients with a long successful credit history (and also those not damaged by the calamity) pay higher interest rates. All these features helped damaged people to recover and repay both new and previous loans. However, we also document an abnormal and significant increase in default rates of non victims suggesting the existence of contagion and/or strategic default problems. For this reason we suggest reconversion of donor aid into financial support to compulsory microinsurance schemes for borrowers.
    Keywords: Tsunami, disaster recovery, microfinance, strategic default, contagion, microinsurance
    JEL: G21 G32 G33
    Date: 2012–10–08

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