nep-cba New Economics Papers
on Central Banking
Issue of 2013‒09‒28
twenty papers chosen by
Maria Semenova
Higher School of Economics

  1. Central Bank Design By Reis, Ricardo
  2. Leaning Against the Wind and the Timing of Monetary Policy By Itai Agur; Maria Demertzis
  3. Heterogeneous Bank Lending Responses to Monetary Policy: New Evidence from a Real-time Identification By John C Bluedorn; Christopher Bowdler; Christoffer Koch
  4. Implicit Asymmetric Exchange Rate Peg under Inflation Targeting Regimes: The Case of Turkey By Ahmet Benlialper; Hasan Cömert
  5. Supranational Supervision - How Much and for Whom? By Beck, Thorsten; Wagner, Wolf
  6. Reputational Contagion and Optimal Regulatory Forbearance By Morrison, Alan; White, Lucy
  7. Estimating Monetary Policy Rules When Nominal Interest Rates Are Stuck at Zero By Jinill Kim; Seth Pruitt
  8. Evaluating the Net Benefits of Macroprudential Policy: A Cookbook By Nicolas Arregui; Jaromir Benes; Ivo Krznar; Srobona Mitra; Andre Santos
  9. Monetary Policy and Balance Sheets By Deniz Igan; Alain N. Kabundi; Francisco Nadal-De Simone; Natalia T. Tamirisa
  10. Monetary Transaction Costs and the Term Premium By Raphael A. Espinoza; Dimitrios P. Tsomocos
  11. Basel III, BIS and Global Financial Governance By Khan, Haider
  12. Rounding the Corners of the Policy Trilemma: Sources of Monetary Policy Autonomy By Michael W. Klein; Jay C. Shambaugh
  13. International Evidence on Government Support and Risk Taking in the Banking Sector By Luís Brandão Marques; Ricardo Correa; Horacio Sapriza
  14. Technology Persistence and Monetary Policy By Pancrazi, Roberto; Vukotic, Marija
  15. The Impact of the Federal Reserve's Large-Scale Asset Purchase Programs on Corporate Credit Risk By Simon Gilchrist; Egon Zakrajsek
  16. Asset Allocation and Monetary Policy: Evidence from the Eurozone By Hau, Harald; Lai, Sandy
  17. Measuring the effects of financial sector supervision By Paul Hilbers; Karina Raaijmakers; David Rijsbergen; Femke de Vries
  18. Crunch Time: Fiscal Crises and the Role of Monetary Policy By David Greenlaw; James D. Hamilton; Peter Hooper; Frederic S. Mishkin
  19. The Federal Reserve and Financial Regulation: The First Hundred Years By Gary B. Gorton; Andrew Metrick
  20. Financial Sector Reform After the Crisis: Has Anything Happened? By Schäfer, Alexander; Schnabel, Isabel; Weder di Mauro, Beatrice

  1. By: Reis, Ricardo
    Abstract: What set of institutions can support the activity of a central bank? Designing a central bank requires specifying its objective function, including the bank's mandate at different horizons and the choice of banker(s), specifying the resource constraint that limits the resources that the central bank generates, the assets it holds, or the payments on its liabilities, and finally specifying how the central bank will communicate with private agents to affect the way they respond to policy choices. This paper summarizes the relevant economic literature that bears on these choices, leading to twelve principles on central bank design.
    Keywords: Mechanism Design; Monetary Policy
    JEL: E50 E58
    Date: 2013–07
  2. By: Itai Agur; Maria Demertzis
    Abstract: If monetary policy is to aim also at financial stability, how would it change? To analyze this question, this paper develops a general-form framework. Financial stability objectives are shown to make monetary policy more aggressive: in reaction to negative shocks, cuts are deeper but shorter-lived than otherwise. By keeping cuts brief, monetary policy tightens as soon as bank risk appetite heats up. Within this shorter time span, cuts must then be deeper than otherwise to also achieve standard objectives. Finally, we analyze how robust this result is to the presence of a bank regulatory tool, and provide a parameterized example.
    Keywords: Monetary policy;Banking sector;Bank regulations;Financial stability;Economic models;Monetary policy, financial stability, bank risk, regulation
    Date: 2013–04–03
  3. By: John C Bluedorn; Christopher Bowdler; Christoffer Koch
    Abstract: We present new evidence on how heterogeneity in banks interacts with monetary policy changes to impact bank lending. Using an exogenous policy measure identified from narratives on FOMC intentions and real-time economic forecasts, we find much greater heterogeneity in U.S. bank lending responses than that found in previous research based on realized federal funds rate changes. Our findings suggest that studies using realized monetary policy changes confound the monetary policy’s effects with those of changes in expected macrofundamentals. We also extend Romer and Romer (2004)’s identification scheme, and expand the time and balance sheet coverage of the U.S. banking sample.
    Keywords: Monetary policy;Banking sector;Loans;Economic models;Monetary Transmission; Lending Channel; Monetary Policy Identification; Banking
    Date: 2013–05–22
  4. By: Ahmet Benlialper; Hasan Cömert
    Abstract: Especially, after the 2000s, many developing countries let exchange rates float and began implementing inflation targeting regimes based on mainly manipulation of expectations and aggregate demand. However, most developing countries implementing inflation targeting regimes experienced considerable appreciation trends in their currencies. Might have exchange rates been utilized as implicit tools even under inflation targeting regimes in developing countries? To answer this question and investigate the determinants of inflation under an inflation targeting regime, as a case study, this paper analyzes the Turkish experience with the inflation targeting regime between 2002 and 2008. There are two main findings of this paper. First, the evidence from a Vector Autoregressive (VAR) model suggests that the main determinants of inflation in Turkey during this period are supply side factors such as international commodity prices and the variation in exchange rate rather than demand side factors. �Since the Turkish lira (TL) was considerably over-appreciated during this period, it is apparent that the Turkish Central Bank benefited from the appreciation of the TL in its fight against inflation during this period. Second, our findings suggest that the appreciation of the TL is related to the deliberate asymmetric policy stance of the Bank with respect to the exchange rate. �Both the econometric analysis from a VAR model and descriptive statistics indicate that appreciation of the Turkish lira was tolerated during the period under investigation whereas depreciation was responded aggressively by the Bank. We call this policy stance under the inflation targeting regimes as “implicit asymmetric exchange rate peg”. �The Turkish experience indicates that, as opposed to rhetoric of central banks in developing countries, inflation targeting developing countries may have an asymeyric stance toward exchange rates and favour appreciation of their currencies to hit their inflation targets. In this sense, IT seems to contribute to the ignorance of dangers regarding to over-appreciation of currencies in developing countries. � �
    Keywords: Inflation Targeting, Central Banking, Developing Countries, Exchange Rates
    JEL: E52 E58 E31 F31
    Date: 2013
  5. By: Beck, Thorsten; Wagner, Wolf
    Abstract: We argue that the extent to which supervision of banks takes place on the supranational level should be guided by two factors: cross-border externalities from bank failures and heterogeneity in bank failure costs. Based on a simple model we show that supranational supervision is more likely to be welfare enhancing when externalities are high and country heterogeneity is low. This suggests that different sets of countries (or regions) should differ in their supranational orientation. We apply the insights of our model to discuss optimal supervisory arrangements for different regions of the world and contrast them with existing arrangements and current policy initiatives.
    Keywords: Bank regulation; bank resolution; cross-border banking
    JEL: G21 G28
    Date: 2013–07
  6. By: Morrison, Alan; White, Lucy
    Abstract: Existing studies suggest that systemic crises may arise because banks either hold correlated assets, or are connected by interbank lending. This paper shows that common regulation is also a conduit for interbank contagion. One bank’s failure may undermine confidence in the banking regulator’s competence, and, hence, in other banks chartered by the same regulator. As a result, depositors withdraw funds from otherwise unconnected banks. The optimal regulatory response to this behaviour can be privately to exhibit forbearance to a failing bank. We show that regulatory transparency improves confidence ex ante but impedes regulators’ ability to stem panics ex post.
    Keywords: bank regulation; contagion; reputation
    JEL: G21 G28
    Date: 2013–06
  7. By: Jinill Kim; Seth Pruitt
    Abstract: Did the Federal Reserve's response to economic fundamentals change with the onset of the Global Financial Crisis? Estimation of a monetary policy rule to answer this question faces a censoring problem since the interest rate target has been set at the zero lower bound since late 2008. Surveys by forecasters allow us to sidestep the problem and to use a conventional regression. We find that the Fed's inflation response has decreased and that the unemployment response has remained as strong; this suggests that the Federal Reserve's commitment to stable inflation has become weaker in the eyes of the professional forecasters.
    Keywords: monetary policy, policy rule, survey data, market perceptions, censoring, zero lower bound, Blue Chip survey
    JEL: E53 E58
    Date: 2013–09
  8. By: Nicolas Arregui; Jaromir Benes; Ivo Krznar; Srobona Mitra; Andre Santos
    Abstract: The paper proposes a simple, new, analytical framework for assessing the cost and benefits of macroprudential policies. It proposes a measure of net benefits in terms of parameters that can be estimated: the probability of crisis, the loss in output given crisis, policy effectiveness in bringing down both the probability and damage during crisis, and the output-cost of a policy decision. It discusses three types of policy leakages and identifies instruments that could best minimize the leakages. Some rules of thumb for policymakers are provided.
    Keywords: Macroprudential Policy;Financial sector;Financial risk;Financial crisis;Risk management;Macroprudential Policy, Cost and Benefits, Policy Effectiveness
    Date: 2013–07–17
  9. By: Deniz Igan; Alain N. Kabundi; Francisco Nadal-De Simone; Natalia T. Tamirisa
    Abstract: This paper evaluates the strength of the balance sheet channel in the U.S. monetary policy transmission mechanism over the past three decades. Using a Factor-Augmented Vector Autoregression model on an expanded data set, including sectoral balance sheet variables, we show that the balance sheets of various economic agents act as important links in the monetary policy transmission mechanism. Balance sheets of financial intermediaries, such as commercial banks, asset-backed-security issuers and, to a lesser extent, security brokers and dealers, shrink in response to monetary tightening, while money market fund assets grow. The balance sheet effects are comparable in magnitude to the traditional interest rate channel. However, their economic significance in the run-up to the recent financial crisis was small. Large increases in interest rates would have been needed to avert a rapid rise of house prices and an unsustainable expansion of mortgage credit, suggesting an important role for macroprudential policies.
    Keywords: Monetary transmission mechanism;United States;Monetary policy;Interest rates;Economic models;monetary policy transmission; balance sheets; FAVAR; generalized dynamic factor models
    Date: 2013–07–03
  10. By: Raphael A. Espinoza; Dimitrios P. Tsomocos
    Abstract: We show that, in a monetary equilibrium, trade and asset prices depend on both the supply of the liquidity by the Central Bank and the liquidity of assets and commodities. As a result, monetary aggregates are informative for the conduct of monetary policy. We also show asset prices are higher in liquidity-constrained states of nature. This generates a term premium even in absence of aggregate uncertainty. These results hold in any monetary economy with heterogeneous agents and short-term liquidity effects, where monetary costs act as transaction costs and the quantity theory of money is verified.
    Keywords: Monetary policy;Central banks;Liquidity;Asset prices;Interest rate structures;Economic models;Liquidity ; Cash-in-advance constraints ; Term structure of interest rates
    Date: 2013–04–03
  11. By: Khan, Haider
    Abstract: This paper analyzes the following aspects of global financial governance: • Proposed BASEL III reforms for more stringent capital requirements and their implications for the developing world in particular. • BIS proposals for better regulation of financial derivatives, including commodities futures, by moving away from OTC transactions towards organized exchanges. The Basel reforms and the BIS proposals for regulating the derivatives markets have many positive features. However, they have not been designed with the needs of DCs and LDCs in mind. The consequences of Basel I and II and proposed Basel III are analyzed from the perspective of the developing countries. It turns out that specific concerns of developing countries have not received adequate attention within the Basel Reform Initiatives and more can be and needs to be done.
    Keywords: dynamic complex adaptive economic systems; finance for development; financial architectures; financial crises; regional cooperation; BASEL III reforms; the BIS proposals
    JEL: F3 O1 P1
    Date: 2013–08
  12. By: Michael W. Klein; Jay C. Shambaugh
    Abstract: A central result in international macroeconomics is that a government cannot simultaneously opt for open financial markets, fixed exchange rates, and monetary autonomy; rather, it is constrained to choosing no more than two of these three. In the wake of the Great Recession, however, there has been an effort to address macroeconomic challenges through intermediate measures, such as narrowly targeted capital controls or limited exchange rate flexibility. This paper addresses the question of whether these intermediate policies, which round the corners of the triangle representing the policy trilemma, afford a full measure of monetary policy autonomy. Our results confirm that extensive capital controls or floating exchange rates enable a country to have monetary autonomy, as suggested by the trilemma. Partial capital controls, however, do not generally enable a country to have greater monetary control than is the case with open capital accounts unless they are quite extensive. In contrast, a moderate amount of exchange rate flexibility does allow for some degree of monetary autonomy, especially in emerging and developing economies.
    JEL: E52 F3 F33 F41
    Date: 2013–09
  13. By: Luís Brandão Marques; Ricardo Correa; Horacio Sapriza
    Abstract: Government support to banks through the provision of explicit or implicit guarantees affects the willingness of banks to take on risk by reducing market discipline or by increasing charter value. We use an international sample of bank data and government support to banks for the periods 2003-2004 and 2009-2010. We find that more government support is associated with more risk taking by banks, especially during the financial crisis (2009-10). We also find that restricting banks' range of activities ameliorates the moral hazard problem. We conclude that strengthening market discipline in the banking sector is needed to address this moral hazard problem.
    Keywords: Banking sector;Bank supervision;Bank regulations;Risk management;Bank risk, Market Discipline, Government Support, Bank Regulation.
    Date: 2013–05–02
  14. By: Pancrazi, Roberto (Department of Economics, University of Warwick); Vukotic, Marija (Department of Economics, University of Warwick)
    Abstract: In this paper, by using several statistical tools, we provide evidence of increased persistence of the U.S. total factor productivity. In a forward-looking model, agents’ optimal behavior depends on the autocorrelation structure of the exogenous shocks. Since many monetary models are driven by exogenous technology shocks, we study the implications of a change in technology persistence on monetary policy using a New Keynesian framework. First, we analytically derive the interaction between the TFP persistence, monetary policy parameters, and output gap and inflation. Second, we show that change in the TFP persistence a¤ects the optimal behavior of monetary policy. JEL classification: JEL codes:
    Date: 2013
  15. By: Simon Gilchrist; Egon Zakrajsek
    Abstract: Estimating the effect of Federal Reserve’s announcements of Large-Scale Asset Purchase (LSAP) programs on corporate credit risk is complicated by the simultaneity of policy decisions and movements in prices of risky financial assets, as well as by the fact that both interest rates of assets targeted by the programs and indicators of credit risk reacted to other common shocks during the recent financial crisis. This paper employs a heteroskedasticity-based approach to estimate the structural coefficient measuring the sensitivity of market-based indicators of corporate credit risk to declines in the benchmark market interest rates prompted by the LSAP announcements. The results indicate that the LSAP announcements led to a significant reduction in the cost of insuring against default risk—as measured by the CDX indexes—for both investment- and speculative-grade corporate credits. While the unconventional policy measures employed by the Federal Reserve to stimulate the economy have substantially lowered the overall level of credit risk in the economy, the LSAP announcements appear to have had no measurable effect on credit risk in the financial intermediary sector.
    JEL: E44 E58 G2
    Date: 2013–08
  16. By: Hau, Harald; Lai, Sandy
    Abstract: The eurozone has a single short-term nominal interest rate, but monetary policy conditions measured by either real short-term interest rates or Taylor rule residuals varied substantially across countries in the period from 2003-2010. We use this cross-country variation in the (local) tightness of monetary policy to examine its influence on equity and money market flows. In line with a powerful risk-shifting channel, we find that fund investors in countries with decreased real interest rates shift their portfolio investment out of the money market and into the riskier equity market. A ten-basis-point lower real short-term interest rate is associated with a 0.8% incremental money market outflow and a 1% incremental equity market inflow by local investors relative to asset under management. The latter produces the strongest equity price increase in countries where domestic institutional investors represent a large share of the countries' stock market capitalization.
    Keywords: asset price inflation; monetary policy; risk seeking; Taylor rule residuals
    JEL: G11 G14 G23
    Date: 2013–08
  17. By: Paul Hilbers; Karina Raaijmakers; David Rijsbergen; Femke de Vries
    Abstract: Financial supervisors are increasingly expected to be able to demonstrate the effectiveness of their actions. In practice, however, this proves challenging as it is difficult to prove the causality between supervisory actions and observed effects. In this paper we describe four lessons that help financial supervisors measure the effects of their actions. We also provide suggestions for the development of specific performance indicators to measure the effectiveness of financial supervision.
    Keywords: financial supervision; effectiveness; performance indicators
    Date: 2013–08
  18. By: David Greenlaw; James D. Hamilton; Peter Hooper; Frederic S. Mishkin
    Abstract: Countries with high debt loads are vulnerable to an adverse feedback loop in which doubts by lenders lead to higher sovereign interest rates which in turn make the debt problems more severe. We analyze the recent experience of advanced economies using both econometric methods and case studies and conclude that countries with debt above 80% of GDP and persistent current-account deficits are vulnerable to a rapid fiscal deterioration as a result of these tipping-point dynamics. Such feedback is left out of current long-term U.S. budget projections and could make it much more difficult for the U.S. to maintain a sustainable budget course. A potential fiscal crunch also puts fundamental limits on what monetary policy is able to achieve. In simulations of the Federal Reserve’s balance sheet, we find that under our baseline assumptions, in 2017-18 the Fed will be running sizable income losses on its portfolio net of operating and other expenses and therefore for a time will be unable to make remittances to the U.S. Treasury. Under alternative scenarios that allow for an emergence of fiscal concerns, the Fed’s net losses would be more substantial.
    JEL: E63 H63
    Date: 2013–08
  19. By: Gary B. Gorton; Andrew Metrick
    Abstract: This paper surveys the role of the Federal Reserve within the financial regulatory system, with particular attention to the interaction of the Fed’s role as both a supervisor and a lender-of-last-resort (LOLR). The institutional design of the Federal Reserve System was aimed at preventing banking panics, primarily due to the permanent presence of the discount window. This new system was successful at preventing a panic in the early 1920s, after which the Fed began to discourage the use of the discount window and intentionally create “stigma” for window borrowing – policies that contributed to the panics of the Great Depression. The legislation of the New Deal era centralized Fed power in the Board of Governors, and over the next 75 years the Fed expanded its role as a supervisor of the largest banks. Nevertheless, prior to the recent crisis the Fed had large gaps in its authority as a supervisor and as LOLR, with the latter role weakened further by stigma. The Fed was unable to prevent the recent crisis, during which its LOLR function expanded significantly. As the Fed begins its second century, there are still great challenges to fulfilling its original intention of panic prevention.
    JEL: E5 E6 G21 N0
    Date: 2013–08
  20. By: Schäfer, Alexander; Schnabel, Isabel; Weder di Mauro, Beatrice
    Abstract: We analyze the reactions of stock returns and CDS spreads of banks from Europe and the United States to four major regulatory reforms in the aftermath of the subprime crisis, employing an event study analysis. In contrast to the public perception that nothing has happened, we find that financial markets indeed reacted to the structural reforms enacted at the national level. All reforms succeeded in reducing bail-out expectations, especially for systemic banks. However, banks' profitability was also affected, showing up in lower equity returns. The strongest effects were found for the Dodd-Frank Act (especially the Volcker rule), whereas market reactions to the German restructuring law were small.
    Keywords: Dodd-Frank Act; event study; Financial sector reform; financial stability; German restructuring law; Swiss too-big-to-fail regulation; Vickers reform; Volcker rule
    JEL: G21 G28
    Date: 2013–06

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