nep-cba New Economics Papers
on Central Banking
Issue of 2013‒06‒30
thirteen papers chosen by
Maria Semenova
Higher School of Economics

  1. Monetary policy regime switches and macroeconomic dynamic By Andrew T. Foerster
  2. Fear of Sovereign Default, Banks, and Expectations-driven Business Cycles By Christopher M. Gunn; Alok Johri
  3. International transmission of financial stress: evidence from a GVAR By Jonas Dovern; Björn van Roye
  4. Sticky Price Inflation Index: An Alternative Core Inflation Measure By Ádám Reiff; Judit Várhegyi
  5. Policy in adaptive financial markets—the use of systemic risk early warning tools By Dieter Gramlich; Mikhail V. Oet; Stephen J. Ong
  6. Using Financial Markets To Estimate the Macro Effects of Monetary Policy: By Pitschner, Stefan
  7. Stress tests and information disclosure By Itay Goldstein; Yaron Leitner
  8. Moving Average Stochastic Volatility Models with Application to Inflation Forecast By Joshua C.C. Chan
  9. Conditional euro area sovereign default risk By Lucas, André; Schwaab, Bernd; Zhang, Xin
  10. Optimal fiscal and monetary policy with occasionally binding zero bound constraints By Taisuke Nakata
  11. Macro-Financial Linkages in Egypt: A Panel Analysis of Economic Shocks and Loan Portfolio Quality By Inessa Love; Rima Turk Ariss
  12. Japanese Money Demand from the Regional Data: An Update and Some Additional Results By Hiroshi Fujiki
  13. Essays on banking and regulation. By Todorov, R.I.

  1. By: Andrew T. Foerster
    Abstract: This paper investigates how different monetary policy regime switching types impact macroeconomic dynamics. Policy switches that either affect the inflation target or the response to inflation deviations from target lead to different determinacy regions and different output, inflation, and interest rate distributions. With regime switching, the standard Taylor Principle breaks down in multiple ways; satisfying the Principle period-by-period is neither necessary nor sufficient for determinacy. Switching inflation targets primarily affects the economy's level, whereas switching inflation responses affects the variance. Even in periods with a fixed monetary policy rule, expectations of future policy switches produce different outcomes depending upon the switching type. Monetary authorities with given inflation objectives need to adjust their policy parameters to counteract expectations of future policy switches.
    Date: 2013
  2. By: Christopher M. Gunn; Alok Johri
    Abstract: What is the effect of the fear of future sovereign default on the economy of the defaulting country? The typical sovereign default model does not address this question. In this paper we wish to explore the possibility that changing expectations about future default themselves can lead to financial stress (as measured by credit spreads) and recessionary outcomes. We exploit the "news-shock" framework to consider an environment in which sovereign debt-holders receive imperfect signals about the portion of debt that a sovereign may default on in the future. We then investigate how domestic banks can play a role in transmitting the expectation of default into a realized recession through the interaction of the domestic banks' holdings of government debt and their risk-weighted capital requirements. Our results suggest that, consistent with the data, even in the absence of actual realized government default, an increase in pessimism regarding the prospect of future default results in a rise in yields on government debt and an increase in interest rates on private domestic loans, as well as a recession in the economy.
    Keywords: expectations-driven business cycles, sovereign defaults; financial inter-mediation, news shocks, business cycles, interest rate spreads, capital adequacy requirements
    JEL: E3 E44 F36 F37 F4 G21
    Date: 2013–06
  3. By: Jonas Dovern; Björn van Roye
    Abstract: We analyze the international transmission of financial stress and its effects on economic activity. We construct country specific monthly financial stress indexes (FSI) using dynamic factor models from 1970 until 2012 for 20 countries. We show that there is a strong co-movement of the FSI during financial crises and that the FSI of financially open countries are relatively more correlated to FSI in other countries. Subsequently, we investigate the international transmission of financial stress and its impact on economic activity in a Global VAR (GVAR) model. We show that i) financial stress is quickly transmitted internationally, ii) financial stress has a lagged but persistent negative effect on economic activity, and iii) that economic slowdowns induce only limited financial stress
    Keywords: Financial stress, Financial crises, Business Cycles, Dynamic Factor Model, Global VAR
    JEL: E32 E52 F36 F37 F41
    Date: 2013–06
  4. By: Ádám Reiff (Magyar Nemzeti Bank (central bank of Hungary)); Judit Várhegyi (Magyar Nemzeti Bank (central bank of Hungary))
    Abstract: We show that in both time-dependent and state-dependent sticky price models, prices of sticky price products (i.e. whose price changes rarely) contain more information about medium term inflation developments than those of flexible price products (i.e. whose price changes frequently). We do this by establishing a novel measure for the extent of forwardlookingness of newly set prices, and showing that it is at least 60% when the monthly price change frequency is less than 15%. This result is robust across various sticky price models. On the empirical front, we show that the Hungarian sticky price inflation index indeed has a forward-looking component, as it has favorable inflation forecasting properties on the policy horizon of 1-2 years to alternative inflation indicators (including core inflation). Both theoretical and empirical results suggest that the sticky price inflation index is a useful indicator for inflation targeting central banks.
    Keywords: sticky prices, core inflation, inflation measurement
    JEL: E31 E37 E58
    Date: 2013
  5. By: Dieter Gramlich; Mikhail V. Oet; Stephen J. Ong
    Abstract: How can a systemic risk early warning system (EWS) facilitate the financial stability work of policymakers? In the context of evolving financial market dynamics and limitations of microprudential policy, this study examines new directions for financial macroprudential policy. A flexible macroprudential approach is anchored in strategic capacities of systemic risk EWSs. Tactically, macroprudential applications are founded on information about the level, structure, and institutional drivers of systemic financial stress and aim to manage the financial system risk and imbalances in two dimensions: across time and institutions. Time-related EWS policy applications are analyzed in pursuit of prevention and mitigation. EWS applications across institutions are considered via common exposures and interconnectedness. Care must be taken in the calibration of macroprudential applications, given their reliance on quality of the underlying systemic risk-modeling framework.
    Keywords: Business cycles ; Regulation ; Financial stability
    Date: 2013
  6. By: Pitschner, Stefan (Universitat Pompeu Fabra)
    Abstract: In this paper, I use high-frequency financial market estimates to identify the monetary policy shock in a non-recursive 133 variable FAVAR. All restrictions are imposed exclusively on impact, and only on financial market variables. Using the economy's underlying factor structure as the link between its real and financial sides, I find that high-frequency responses contain valuable information about the behavior of lower-frequency macro variables. Even though the proposed identification scheme does not fall back on any of the standard (FA) VAR identifying assumptions, it confirms the classical finding that monetary policy has strong and significant delayed effects on real activity. I also obtain stock market responses that are compatible with the efficient market hypothesis and find that consumer prices react very little to monetary policy.
    Keywords: Monetary Policy; Impact Identication; FAVAR; Financial Markets; Efficient Market Hypothesis
    JEL: E44 E52 E58
    Date: 2013–05–01
  7. By: Itay Goldstein; Yaron Leitner
    Abstract: We study an optimal disclosure policy of a regulator who has information about banks’ ability to overcome future liquidity shocks. We focus on the following trade-off: Disclosing some information may be necessary to prevent a market breakdown, but disclosing too much information destroys risk-sharing opportunities (Hirshleifer effect). We find that during normal times, no disclosure is optimal, but during bad times, partial disclosure is optimal. We characterize the optimal form of this partial disclosure. We also relate our results to the debate on the disclosure of stress test results.
    Keywords: Financial crises ; Financial stability
    Date: 2013
  8. By: Joshua C.C. Chan
    Abstract: We introduce a new class of models that has both stochastic volatility and moving average errors, where the conditional mean has a state space representation. Having a moving average component, however, means that the errors in the measurement equation are no longer serially independent, and estimation becomes more difficult. We develop a posterior simulator that builds upon recent advances in precision-based algorithms for estimating these new models. In an empirical application involving U.S. inflation we find that these moving average stochastic volatility models provide better insample fitness and out-of-sample forecast performance than the standard variants with only stochastic volatility.
    Keywords: state space, unobserved components model, precision, sparse, density forecast.
    JEL: C11 C51 C53
    Date: 2013–05
  9. By: Lucas, André (VU University Amsterdam and Tinbergen Institute); Schwaab, Bernd (European Central Bank); Zhang, Xin (Research Department, Central Bank of Sweden)
    Abstract: We propose an empirical framework to assess the likelihood of joint and conditional sovereign default from observed CDS prices. Our model is based on a dynamic skewed-t distribution that captures all salient features of the data, including skewed and heavytailed changes in the price of CDS protection against sovereign default, as well as dynamic volatilities and correlations that ensure that uncertainty and risk dependence can increase in times of stress. We apply the framework to euro area sovereign CDS spreads during the euro area debt crisis. Our results reveal significant time-variation in distress dependence and spill-over effects for sovereign default risk. We investigate market perceptions of joint and conditional sovereign risk around announcements of Eurosystem asset purchases programs, and document a strong impact on joint risk.
    Keywords: sovereign credit risk; higher order moments; time-varying parameters; financial stability
    JEL: C32 G32
    Date: 2013–05–01
  10. By: Taisuke Nakata
    Abstract: This paper studies optimal government spending and monetary policy when the nominal interest rate is subject to the zero lower bound constraint in a stochastic New Keynesian economy. I find that the government chooses to increase its spending when at the zero lower bound by a substantially larger amount in the stochastic environment than it would in the deterministic environment. The presence of uncertainty creates a unique time-consistency problem if the steady-state is inefficient. Although access to government spending policy increases welfare in the face of a large deflationary shock, it decreases welfare during normal times as the government reduces the nominal interest rate less aggressively before reaching the zero lower bound
    Date: 2013
  11. By: Inessa Love (University of Hawaii at Manoa Economic Research Organization); Rima Turk Ariss (Lebanese American University)
    Abstract: This paper investigates macro-financial linkages in Egypt using two complementary methods, assessing the interaction between different macroeconomic aggregates and loan portfolio quality in a multivariate framework as well as through a panel vector autoregressive method that controls for bank-level characteristics. Using a panel of banks over 1993-2010, the authors find that a positive shock to capital inflows and growth in gross domestic product improves banks’ loan portfolio quality, and that the effect is fairly similar in magnitude using the multivariate and panel vector autoregressive frameworks. In contrast, higher lending rates may lead to adverse selection problems and hence to a drop in portfolio quality. The paper also reports that a larger market share of foreign banks in the industry improves loan quality.
    Keywords: Macroeconomic Shocks; Banks; Loan Quality; Panel Vector Autoregression
    JEL: C63 E44 G21 G28
    Date: 2013–06
  12. By: Hiroshi Fujiki (Director and Senior Economist, Institute for Monetary and Economic Studies (currently, Financial System and Bank Examination Department), Bank of Japan (E-mail:
    Abstract: We cross-sectionally estimate the income elasticity of money demand using Japanese prefectural deposit statistics and Japanese prefectural accounts statistics from fiscal 1955 to 2009 based on the structural model of Fujiki and Mulligan (1996a). In doing so, we update the results of Fujiki and Mulligan (1996a) using a similar data set from fiscal 1955 to 1990. Our analyses using the sample period of the 1980s confirm the finding of Fujiki and Mulligan (1996b) that the cross- sectional income elasticities of the sum of demand deposits and interest- bearing deposits, similar to the M2 statistics, range from 1.2 to 1.4. Our analysis using the sample period after 1990 shows that the cross- sectional income elasticities decrease gradually over time, and reach the value of 0.93 in 2003. Our analysis using data from 2004 to 2009 shows that the cross-sectional income elasticities take a value from 0.6 to 0.7. These results, taken at face value, suggest that households and firms save the monetary inputs for their production activities over time: the additional demand for money for an additional unit of production activity increased by more than one unit by the 1990s, while it increased by less than one unit after 2000.
    Keywords: Demand for money, Income elasticity of money demand
    JEL: F12 F23 F32
    Date: 2013–06
  13. By: Todorov, R.I. (Tilburg University)
    Abstract: This thesis consists of three chapters that explore issues related to bank capital, multinational bank supervision, and bank lending in a developing country. The first chapter explores the impact of peer banks on bank capital adjustments. The second chapter evaluates the extent to which distortions in banks’ cross-border activities, such as foreign assets, deposits and equity, can introduce into regulatory interventions. The third chapter explores the impact of monetary policy and foreign credit market conditions on bank lending activities and asset portfolios in Uganda.
    Date: 2013

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