nep-cba New Economics Papers
on Central Banking
Issue of 2013‒10‒05
eighteen papers chosen by
Maria Semenova
Higher School of Economics

  1. Monetary Policy Frameworks in Asia: Experience, Lessons, and Issues By Morgan, Peter J.
  2. Is bank debt special for the transmission of monetary policy? Evidence from the stock market By Filippo Ippolito; Ali K. Ozdagli; Ander Pérez Orive
  3. The Monetary Transmission Mechanism in the Tropics: A Narrative Approach By Andrew Berg; Luisa Charry; Rafael A Portillo; Jan Vlcek
  4. The federal funds market, excess reserves, and unconventional monetary policy By Jochen Güntner
  5. Expectations and Monetary Policy: Experimental Evidence By Oleksiy Kryvtsov; Luba Petersen
  6. Multi-layered Interbank Model for Assessing Systemic Risk By Christoffer Kok; Mattia Montagna
  7. Nominal Stability and Financial Globalization By Michael B Devereux; Ozge Senay; Alan Sutherland
  8. Extreme Spillover Between Shadow Banking and Regular Banking By Paraschiv, Florentina; Qin, Minzi
  9. Reassessing the Tehsis of the Monetary History By David Laidler
  10. The Euro Area Crisis: Need for a Supranational Fiscal Risk Sharing Mechanism? By Davide Furceri; Aleksandra Zdzienicka
  11. Bank Bailouts and Market Discipline: How Bailout Expectations Changed During the Financial Crisis By Florian Hett; Alexander Schmidt
  12. The Role of the Exchange Rate Regime in the Process of Real and Nominal Convergence By D'Adamo, Gaetano; Rovelli, Riccardo
  13. Financial liberalization, market structure and credit penetration By Felipe Balmaceda; Ronald Fischer; Felipe Ramirez
  14. Global Imbalances: Should We Use Fundamental Equilibrium Exchange Rates. By Jamel Saadaoui
  15. Efficient Sovereign Default By Alessandro Dovis
  16. Global Imbalances and Capital Account Openness: an Empirical Analysis. By Jamel Saadaoui
  17. Making Emerging Asia-Pacific Less Vulnerable to Global Financial Panics By Vatcharin Sirimaneetham
  18. Understanding FX Liquidity By Karnaukh, Nina; Ranaldo, Angelo; Söderlind, Paul

  1. By: Morgan, Peter J. (Asian Development Bank Institute)
    Abstract: This paper reviews the history of East Asian monetary policy frameworks since 1990; describes current monetary policy frameworks, including issue of price versus financial stability for a central bank and the policies a central bank can use to manage financial stability; the monetary policy transmission mechanism based on financial linkages and financial deepening; assesses policy outcomes including inflation targeting and responses to the “Impossible Trinity”; and makes overall conclusions. The paper finds that East Asian central banks have managed inflation and growth well over the past decade, but the difficulties faced by central banks of advanced countries in the aftermath of the GFC suggests that not all problems have been solved.
    Keywords: monetary policy; macroprudential policy; inflation targeting; financial stability; currency regime; capital flows; emerging economies
    JEL: E52 E58 F31 F32 G18
    Date: 2013–09–27
  2. By: Filippo Ippolito; Ali K. Ozdagli; Ander Pérez Orive
    Abstract: We combine existing balance sheet and stock market data with two new datasets to study whether, how much, and why bank lending to firms matters for the transmission of monetary policy. The first new dataset enables us to quantify the bank dependence of firms precisely, as the ratio of bank debt to total assets. We show that a two standard deviation increase in the bank dependence of a firm makes its stock price about 25% more responsive to monetary policy shocks. We explore the channels through which this effect occurs, and find that the stock prices of bank-dependent firms that borrow from financially weaker banks display a stronger sensitivity to monetary policy shocks. This finding is consistent with the bank lending channel, a theory according to which the strength of bank balance sheets matters for monetary policy transmission. We construct a new database of hedging activities and show that the stock prices of bank-dependent firms that hedge against interest rate risk display a lower sensitivity to monetary policy shocks. This finding is consistent with an interest rate pass-through channel that operates via the direct transmission of policy rates to lending rates associated with the widespread use of floating-rates in bank loans and credit line agreements.
    Keywords: bank lending channel, monetary policy transmission, firm financial constraints, bank financial health, floating interest rates
    JEL: G21 G32 E52
    Date: 2013–09
  3. By: Andrew Berg; Luisa Charry; Rafael A Portillo; Jan Vlcek
    Abstract: Many central banks in low-income countries in Sub-Saharan Africa are modernising their monetary policy frameworks. Standard statistical procedures have had limited success in identifying the channels of monetary transmission in such countries. Here we take a narrative approach, following Romer and Romer (1989), and center on a significant tightening of monetary policy that took place in 2011 in four members of the East African Community: Kenya, Uganda, Tanzania and Rwanda. We find clear evidence of the transmission mechanism in most of the countries, and argue that deviations can be explained by differences in the policy regime in place.
    Date: 2013–09–20
  4. By: Jochen Güntner
    Abstract: Following the bankruptcy of Lehman Brothers, interbank borrowing and lending dropped, whereas reserve holdings of depository institutions skyrocketed, as the Fed injected liquidity into the U.S. banking sector. This paper introduces bank liquidity risk and limited market participation into a real business cycle model with ex ante identical financial intermediaries and shows, in an analytically tractable way, how interbank trade and excess reserves emerge in general equilibrium. Investigating the role of the federal funds market and unconventional monetary policy for the propagation of aggregate real and financial shocks, I find that federal funds market participation is irrelevant in response to standard supply and demand shocks, whereas it matters for “uncertainty shocks”, i.e. mean-preserving spreads in the cross-section of liquidity risk. Liquidity injections by the central bank can absorb the effects of financial shocks on the real economy, although excess reserves might increase and federal funds might be crowded out, as a side effect.
    Keywords: Excess reserves, Federal funds market, Financial frictions, Liquidity risk, Unconventional monetary policy
    JEL: C61 E32 E51 E52
    Date: 2013–09
  5. By: Oleksiy Kryvtsov (Bank of Canada); Luba Petersen (Simon Fraser University)
    Abstract: The effectiveness of monetary policy depends, to a large extent, on market expectations of its future actions. In a standard New Keynesian business cycle model with rational expectations, systematic monetary policy reduces the variance of inflation and output gap by at least two-thirds. These stabilization benefits can be substantially smaller if expectations are non-rational. We design an economic experiment that identifies the contribution of expectations to macroeconomic stabilization achieved by systematic monetary policy. We find that, despite some non-rational component in expectations formed by experiment participants, monetary policy is quite potent in providing stabilization, reducing roughly a half of macroeconomic variance.te potent in providing stabilization, reducing roughly a half of macroeconomic variance.
    Keywords: Expectations, Monetary Policy, Inflation, Laboratory Experiment, Experimental Macroeconomics
    JEL: C9 D84 E3 E52
    Date: 2013–09
  6. By: Christoffer Kok; Mattia Montagna
    Abstract: In this paper, we develop an agent-based multi-layered interbank network model based on a sample of large EU banks. The model allows for taking a more holistic approach to interbank contagion than is standard in the literature. A key finding of the paper is that there are non-negligible non-linearities in the propagation of shocks to individual banks when taking into account that banks are related to each other in various market segments. In a nutshell, the contagion effects when considering the shock propagation simultaneously across multiple layers of interbank networks can be substantially larger than the sum of the contagion-induced losses when considering the network layers individually. In addition, a bank “systemic importance” measure based on the multi-layered network model is developed and is shown to outperform standard network centrality indicators
    Keywords: Financial Contagion, interbank market, Network theory
    JEL: C45 C63 D85 G21
    Date: 2013–09
  7. By: Michael B Devereux (University of British Columbia, CEPR and NBER); Ozge Senay (University of St Andrews); Alan Sutherland (University of St Andrews and CEPR)
    Abstract: Over the past four decades, advanced economies experienced a large growth in gross external portfolio positions. This phenomenon has been described as Financial Globalization. Over roughly the same time frame, most of these countries also saw a substantial fall in the level and variability of inflation. Many economists have conjectured that financial globalization contributed to the improved performance in the level and predictability of inflation. In this paper, we explore the causal link running in the opposite direction. We show that a monetary policy rule which reduces inflation variability leads to an increase in the size of gross external positions, both in equity and bond portfolios. This appears to be a robust prediction of open economy macro models with endogenous portfolio choice. It holds across different modeling specifications and parameterizations. We also present preliminary empirical evidence which shows a negative relationship between inflation volatility and the size of gross external positions.
    Keywords: Nominal stability, Financial Globalization, Country Portfolios
    JEL: E52 E58 F41
    Date: 2013–09–30
  8. By: Paraschiv, Florentina; Qin, Minzi
    Abstract: The current financial crisis brought light to a large banking sector that existed for decades within the “darkness” of the financial system - the shadow banking sector. Shadow bank assets are widely traded in the financial markets and shadow banking activities are intertwined with the daily business of regular banks. This unregulated banking sector has become systematically important. Its failure affected the entire banking system. We present a model based on multivariate extreme value theory, which allows us to measure crashes and liquidity squeezes. Using the stable tail dependence structure, we measure the interdependency between the tail probabilities of the regular banking sector and the shadow banking sector. This allows us to calculate the conditional spillover likelihood between asset returns and liquidity spreads for selected crash levels. The empirical results indicate a fairly strong contagion probability between shadow bank assets and regular bank assets.
    Date: 2013–07
  9. By: David Laidler (University of Western Ontario)
    Abstract: The economic crisis that began in 2007 and still lingers has invited comparison with the Great Depression of the 1930s. It has also generated renewed interest in Milton Friedman and Anna Schwartz’s explanation of the latter as mainly the consequence of the Fed’s failure as a lender of last resort at its onset, and the ineptitude of its policies thereafter. This explanation is reassessed in the light of events since 2007, and it is argued that its plausibility emerges enhanced, even though policy debates in recent years have paid more attention to interest rates and credit markets than to Friedman and Schwartz’s key variable, the quantity of money.
    Keywords: Great Depression; Great Contraction; Great Recession; Keynesianism; Monetarism; Lender of Last Resort; Money; High-powered money; Monetary base; Currency; Bank reserves; Quantitative easing; Open-market operations
    JEL: B22 E32 E51 E58 N2
    Date: 2013
  10. By: Davide Furceri; Aleksandra Zdzienicka
    Abstract: The aim of this paper is to assess the effectiveness of risk sharing mechanisms in the euro area and whether a supranational fiscal risk sharing mechanism could insure countries against very severe downturns. Using an unbalanced panel of 15 euro area countries over the period 1979-2010, the results of the paper show that: (i) the effectiveness of risk sharing mechanisms in the euro area is significantly lower than in existing federations (such as the U.S. and Germany) and (ii) it falls sharply in severe downturns just when it is needed most; (iii) a supranational fiscal stabilization mechanism, financed by a relatively small contribution, would be able to fully insure euro area countries against very severe, persistent and unanticipated downturns.
    Date: 2013–09–25
  11. By: Florian Hett (Department of Economics, Johannes Gutenberg-Universitaet Mainz, Germany); Alexander Schmidt (Goethe University Frankfurt and GSEFM, Germany)
    Abstract: We show that market discipline, defined as the extent to which frm specific risk characteristics are reflected in market prices, eroded during the recent financial crisis in 2008. We design a novel test of changes in market discipline based on the relation between firm specific risk characteristics and debt-to-equity hedge ratios. We find that market discipline already weakened after the rescue of Bear Stearns before disappear- ing almost entirely after the failure of Lehman Brothers. The effect is stronger for investment banks and large financial institutions, while there is no comparable effect for non-financial firms.
    Keywords: Bailout, Implicit Guarantees, Too-Big-To-Fail, Market Discipline
    JEL: G14 G21 G28 H81
    Date: 2013–08–01
  12. By: D'Adamo, Gaetano (Universidad de Valencia); Rovelli, Riccardo (University of Bologna)
    Abstract: During the last decade, economists have intensively searched for evidence on the importance of the Balassa-Samuelson (B-S) hypothesis in explaining nominal convergence. One general result is that B-S can at best explain only part of the excess inflation observed in the European catching-up countries, which suggests that other factors may be at play. In these and related studies, however, the potential role of the exchange rate regime in affecting price convergence in Europe has been overlooked. In this respect, we claim that the choice of the exchange rate regime has decisively affected the path of nominal convergence. To show this, we first model the (endogenous) choice of the exchange rate regime and, in a second stage, estimate a B-S type of regression for each regime. Our results show that, for countries which pegged to or adopted the euro, the effect of the same increase in the dual productivity growth (that is, the difference in productivity growth between the traded and non-traded sectors) on the dual inflation differential is more than twice as large as that in the "flexible" countries. We conclude that, in a catching-up country, premature euro adoption may foster excess inflation, beyond that which is to be expected as a consequence of productivity convergence on the basis of the B-S effect.
    Keywords: exchange rate regimes, Balassa-Samuelson effect, inflation, euro adoption
    JEL: C34 E52 F31
    Date: 2013–09
  13. By: Felipe Balmaceda (Facultad de Economía y Empresa, Universidad Diego Portales); Ronald Fischer (Departamento de Ingenieria Industrial, Universidad de Chile); Felipe Ramirez (Departamento de Ingenieria Industrial, Universidad de Chile)
    Abstract: This paper shows that the eects of financial liberalization on the credit market of a small and capital constrained economy depend on the market structure of domestic banks prior to liberalization. Specifically, under perfect competition in the domestic credit market prior to liberalization, liberalization leads to lower domestic interest rates, in turn leading to increased credit penetration. However, when the initial market structure is one of imperfect competition, liberalization can lead to the exclusion of less wealthy entrepreneurs from the credit market. This provides a rationale for the mixed empirical evidence concerning the eects of liberalization on access to credit in developing markets. Moreover, the analysis provides new insights into the consequences of foreign lenders’ entry into developing economies.
    Date: 2013–07
  14. By: Jamel Saadaoui
    Abstract: The reduction of global imbalances observed during the climax of crisis is incomplete. In this context, currencies realignments are still proposed to ensure global macroeconomic stability. These realignments are based on equilibrium rates derived from equilibrium exchange rate models. Among these models, we have the fundamental equilibrium exchange rate model introduced by Williamson (1994). This approach is often labelled as normative mainly because the equilibrium is not uniquely determined. If the FEER is not related either in the short or in the long to the real exchange rates, we see no clear justification to intervene in foreign exchange markets based on these equilibrium rates. In this case, the FEER does not include any element of long run predictive value and should not be used to reduce global imbalances. This paper provides panel empirical evidences that the FEER is related to real exchange rate in the long run and thus could be a useful tool to prevent the resurgence of large global imbalances and associated risks.
    Keywords: Global Imbalances, Equilibrium Exchange Rate, International Monetary Cooperation.
    JEL: C23 F31 F32 F33 F41
    Date: 2013
  15. By: Alessandro Dovis (University of Minnesota)
    Abstract: Sovereign debt crises are associated with severe output and consumption losses for the debtor country and with reductions in payments for the creditors. Moreover, such crises are accompanied by trade disruptions that lead to a sharp fall in the imports of intermediate inputs. Here I study the efficient risk-sharing arrangement between a sovereign borrower and foreign lenders in a production economy where the sovereign government cannot commit and has some private information. I show that the ex-ante efficient arrangement involves outcomes that resemble sovereign default episodes in the data. These outcomes are ex-post inefficient, in the sense that if the borrower and the lenders could renegotiate the terms of their agreement, committing not to do it again in the future, then both could be made better off. The resulting efficient allocations can be implemented with non-contingent defaultable bonds and active maturity management. Defaults and periods of temporary exclusion from international credit markets happen along the equilibrium path and are essential to supporting the efficient allocation. Furthermore, as in the data, interest rate spreads increase and the maturity composition of debt shifts toward short-term debt as the indebtedness of the sovereign borrower increases.
    Date: 2013
  16. By: Jamel Saadaoui
    Abstract: We investigate if capital account openness has played a major role in the evolution of global imbalances on the period 1980-2003. We estimate, with panel regression techniques, the impact of capital account openness on mediumterm current account imbalances for industrialized and emerging countries by using a de jure measure of capital account openness (the ChinnIto index of capital account openness, 2002, 2006) and a de facto measure of capital account openness (the gross foreign assets measured as the sum of foreign assets and foreign liabilities). By increasing the opportunities of overseas investments, the relative capital account openness has had positive impact on mediumterm current account balances of industrialized countries (because of downward pressures on domestic investment rates). Conversely, the relative capital account openness has had negative impact on mediumterm current account balances of emerging countries (because of upward pressures on domestic investment rates). Nowadays, current account imbalances are larger in reason of higher capital mobility. Nevertheless, a large part of imbalances may be considered as unrelated with the evolution of macroeconomic fundamentals.
    Keywords: Global Imbalances, Capital Account Openness, Panel Data.
    JEL: C23 F31 F41
    Date: 2013
  17. By: Vatcharin Sirimaneetham (Macroeconomic Policy and Development Division, United Nations Economic and Social Commission for Asia and the Pacific)
  18. By: Karnaukh, Nina; Ranaldo, Angelo; Söderlind, Paul
    Abstract: Previous studies of liquidity in the foreign exchange (FX) market span short time periods or focus on specific measures of liquidity. In contrast, we provide a comprehensive study of FX liquidity and commonality over more than two decades and a cross-section of forty exchange rates. After identifying the most accurate liquidity proxies based on low-frequency and readily available data, we show that commonality in FX liquidities is stronger for developed currencies and in highly volatile markets. We also show that FX liquidity deteriorates with risk in stock, bond and FX markets, and that riskier currencies are more exposed to liquidity drops.
    Keywords: exchange rates, liquidity, transaction costs, commonality, low-frequency data
    JEL: C15 F31 G12 G15
    Date: 2013–09

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