nep-cba New Economics Papers
on Central Banking
Issue of 2014‒05‒09
twelve papers chosen by
Maria Semenova
Higher School of Economics

  1. Dealing with Financial Crises: How Much Help from Research? By Marco Pagano
  2. Dealing with the ECB's triple mandate ? By Christophe Blot; Jérôme Creel; Paul Hubert; Fabien Labondance
  3. Banking Union : a solution to the euro zone crisis By Maylis Avaro; Henri Sterdyniak
  4. Capital account liberalization and exchange rate flexibility: Scenarios for the Moroccan case By Ezzahid, Elhadj; Maouhoub, Brahim
  5. A Stochastic Dominance Approach to Financial Risk Management Strategies By Chia-Lin Chang; Juan-Ángel Jiménez-Martín; Esfandiar Maasoumi; Teodosio Pérez Amaral
  6. Measurement and Internalization of Systemic Risk in a Global Banking Network By Xiaobing Feng; Haibo Hu
  7. A Colonial Bank under Spanish and American Sovereignty: The Banco Español de Puerto Rico, 1888-1913 By Pablo Martín-Aceña; Inés Roldán de Montaud
  8. The Price of Euro: Evidence from Sovereign Debt Markets By Erik Makela
  9. Globalization and Monetary Policy Comovement: Evidence from G-7 Countries By Arpita Chatterjee
  10. Dynamic Transition of the Exchange Rate Regime in the People’s Republic of China By Yoshino, Naoyuki; Kaji, Sahoko; Tamon, Asonuma
  11. Lessons from the implementation of the Volcker Rule for banking structural reform in the European Union By Elliott, Douglas J.; Rauch, Christian
  12. Granger causality in risk and detection of extreme risk spillover between financial markets By Yongmiao Hong; Yanhui Liu; Shouyang Wang

  1. By: Marco Pagano (Università di Napoli Federico II, CSEF, EIEF and CEPR.; Università di Napoli "Federico II" and CSEF)
    Abstract: Has economic research been helpful in dealing with the financial crises of the early 2000s? On the whole, the answer is negative, although there are bright spots. Economists have largely failed to predict both crises, largely because most of them were not analytically equipped to understand them, in spite of their recurrence in the last 25 years. In the pre-crisis period, however, there have been important exceptions – theoretical and empirical strands of research that largely laid out the basis for our current thinking about financial crises. Since 2008, a flurry of new studies offered several different interpretations of the US crisis: to some extent, they point to potentially complementary factors, but disagree on their relative importance, and therefore on policy recommendations. Research on the euro debt crisis has so far been much more limited: even Europe-based researchers – including CEPR ones – have often directed their attention more to the US crisis than to that occurring on their doorstep. In terms of impact on policy and regulatory reform, the record is uneven. On the one hand, the swift and massive liquidity provision by central banks in the wake of both crises is, at least partly, to be credited to previous research on the role of central banks as lenders of last resort in crises and on the real effects of bank lending and monetary policy. On the other hand, economists have had limited impact on the reform of prudential and security market regulation. In part, this is due to their neglect of important regulatory choices, which policy-makers are therefore left to take without the guidance of academic research-based analysis.
    Keywords: financial crisis, risk taking, systemic risk, financial regulation, monetary policy, politics
    JEL: G01 G18 G21 G28 H81 O16
    Date: 2014–05–03
  2. By: Christophe Blot (OFCE); Jérôme Creel (OFCE); Paul Hubert; Fabien Labondance (Atelier de recherche sur la politique économique et la gestion des entreprises (ARPEGE))
    Abstract: The prevailing consensus on the role of central banks has eroded. The pursuit of the goal of price stability only is now insufficient to ensure macroeconomic and financial stability. A new paradigm emerges in which central banks should ensure price stability, growth and financial stability. Recent institutional developments of the ECB go in this direction since it will be in charge of the micro-prudential supervision. In addition, the conduct of monetary policy in the euro area shows that the ECB also remained attentive to the evolution of economic growth. But if the ECB implements its triple mandate, the question of the proper relationship between these missions still arises. Coordination between the different actors in charge of monetary policy, financial regulation and fiscal policy is paramount and is lacking in the current architecture. Besides, certain practices should be clarified. The ECB has played a role as lender of last resort (towards banks and, to a lesser extent, towards governements) although this mission was not allocated to the ECB. Finally, in this new framework, the ECB suffers from a democratic illegitimacy, reinforced by the increasing role it plays in determining the macroeconomic and financial balance of the euro area. It seems important that the ECB is more explicit with regard to its different objectives and that it fulfils the conditions for close cooperation with the budgetary authorities and financial regulators. Finally, we call for the ex nihilo creation of a supervisory body of the ECB, which responsibility would be to discuss and analyze the relevance of the ECB monetary policy.
    Date: 2014–05
  3. By: Maylis Avaro (École normale supérieure de Cachan); Henri Sterdyniak (OFCE)
    Abstract: In June 2012 European Council launched the banking union as a new project expected to contribute to solve the euro area crisis. Is banking union a necessary supplement to monetary union or a new rush forward? A banking union would break the link between the sovereign debt crisis and the banking crisis, by asking the ECB to supervise banks, by establishing common mechanisms to solve banking crises, and by encouraging banks to diversify their activities. The banking union project is based on three pillars: a Single Supervisory Mechanism (SSM), a Single Resolution Mechanism (SRM), a European Deposit Guarantee Scheme (EDGS). Each of these pillars raises specific problems. Some are related to the current crisis (can deposits in euro area countries facing difficulties be guaranteed?); some other issues are related to the EU complexity (should the banking union include all EU member states? Who will decide on banking regulations?), some other issues are related to the EU specificity (is the banking union a step towards more federalism?); the more stringent are related to structural choices regarding the European banking system. Banks'solvency and ability to lend, would depend primarily on their capital ratios, and thus on financial markets' sentiment. The links between the government, firms, households and domestic banks would be cut, which is questionable. Will governments be able tomorrow to intervene to influence bank lending policies, or to settle specific public banks? An opposite strategy could be promoted: restructuring the banking sector, and isolating retail banking from risky activities. Retail banks would focus on lending to domestic agents, and their solvency would be guaranteed by the interdiction to run risky activities on financial markets. Can European peoples leave such strategic choices in the hands of the ECB?
    Keywords: Banking union; European Construction
    Date: 2014–04
  4. By: Ezzahid, Elhadj; Maouhoub, Brahim
    Abstract: This paper explores the links between gradual capital account liberalization and the exchange rate regime in Morocco where the process of economic and financial openness is relatively advanced. Using a game theory model with two economic agents, that are monetary authorities and domestic firms, we explore the best choice concerning the exchange rate regime for Morocco in a context characterised by increasing openness especially of capital account. The results show that welfare under a flexible exchange rate regime is higher compared to welfare under a fixed exchange rate regime. The analysis also shows that the flexible exchange rate will improve competitiveness. However, flexibility will undermine price stability. --
    Keywords: capital account liberalization,exchange rate regime,competitiveness,inflation,Morocco
    JEL: F31 F32
    Date: 2014
  5. By: Chia-Lin Chang (Department of Applied Economics, Department of Finance, National Chung Hsing University, Taiwan); Juan-Ángel Jiménez-Martín (Departamento de Economía Cuantitativa (Department of Quantitative Economics), Facultad de Ciencias Económicas y Empresariales (Faculty of Economics and Business), Universidad Complutense de Madrid); Esfandiar Maasoumi (Department of Economics, Emory University); Teodosio Pérez Amaral (Departamento de Economía Cuantitativa (Department of Quantitative Economics), Facultad de Ciencias Económicas y Empresariales (Faculty of Economics and Business), Universidad Complutense de Madrid)
    Abstract: The Basel III Accord requires that banks and other Authorized Deposit-taking Institutions (ADIs) communicate their daily risk forecasts to the appropriate monetary authorities at the beginning of each trading day, using one of a range of alternative risk models to forecast Value-at-Risk (VaR). The risk estimates from these models are used to determine the daily capital charges (DCC) and associated capital costs of ADIs, depending in part on the number of previous violations, whereby realized losses exceed the estimated VaR. In this paper we define risk management in terms of choosing sensibly from a variety of risk models and discuss the optimal selection of financial risk models. A previous approach to model selection for predicting VaR proposed combining alternative risk models and ranking such models on the basis of average DCC. This method is based only on the first moment of the DCC distribution, supported by a restrictive evaluation function. In this paper, we consider uniform rankings of models over large classes of evaluation functions that may reflect different weights and concerns over different intervals of the distribution of losses and DCC. The uniform rankings are based on recently developed statistical tests of stochastic dominance (SD). The SD tests are illustrated using the prices and returns of VIX futures. The empirical findings show that the tests of SD can rank different pairs of models to a statistical degree of confidence, and that the alternative (recentered) SD tests are in general agreement.
    Keywords: Stochastic dominance; Value-at-Risk; daily capital charges; violation penalties; optimizing strategy; Basel III Accord; VIX futures; global financial crisis.
    JEL: G32 G11 G17 C53 C22
    Date: 2014
  6. By: Xiaobing Feng; Haibo Hu
    Abstract: The negative externalities from an individual bank failure to the whole system can be huge. One of the key purposes of bank regulation is to internalize the social costs of potential bank failures via capital charges. This study proposes a method to evaluate and allocate the systemic risk to different countries/regions using a SIR type of epidemic spreading model and the Shapley value in game theory. The paper also explores features of a constructed bank network using real globe-wide banking data.
    Date: 2014–04
  7. By: Pablo Martín-Aceña (Universidad de Alcalá,Madrid,Spain); Inés Roldán de Montaud (Consejo Superior de Investigaciones Científicas,Madrid,Spain)
    Abstract: This paper offers the history of the Banco Español de Puerto Rico from its creation in 1888 to its liquidation in 1913. The Banco Español was the sole note-issuing institution of the island until 1898, when Puerto Rico was transferred to the United States. The establishment of the Bank was plagued with difficulties and during its first decade of existence it met with diverse obstacles that hindered its financial development. However, it contributed to diversifying the underdeveloped banking structure of the colony, to bringing down the cost of credit, and to modernizing the island’s monetary system. The transfer of sovereignty was traumatic since the Bank lost its issue monopoly and had to adjust to US banking legislation. In 1905, its name was changed to Banco de Puerto Rico and its by-laws were reformed. The last years of the Bank’s life were prosperous and it once again made an important contribution to the island’s economy. All in all, the history of the institution is a mixture of errors and achievements, a history of setbacks and successes.
    Keywords: Puerto Rico, banks, financial system, economic development, Spain, United States of America.
    JEL: G2 N16 N26
    Date: 2014–04
  8. By: Erik Makela (Department of Economics, University of Turku)
    Abstract: The objective of this paper is to figure out how the Economic and Monetary Union in Europe (EMU) has affected on its member’s sovereign risk-premiums and long-term government bond yields. In order to estimate the effect, this paper utilizes synthetic control method. Contrary to the popular belief, this paper finds that the majority of member countries did not receive economic gains from EMU in sovereign debt markets. Synthetic counterfactual analysis finds strong evidence that Austria, Belgium, France, Germany and Netherlands have paid positive and substantial euro-premium in their 10-year government bonds since the adoption of single currency. After the latest financial crisis, government bond yields have been higher in all member countries compared to the situation that would have been without monetary unification. This paper concludes that from the sovereign borrowing viewpoint, it would be beneficial for a country to maintain its own currency and monetary policy.
    Keywords: Synthetic Control Method, Monetary Union, Sovereign Risk, Government Bond Yield
    JEL: F34 E42 G15
    Date: 2014–04
  9. By: Arpita Chatterjee (School of Economics, Australian School of Business, the University of New South Wales)
    Abstract: This paper empirically characterizes comovement in monetary policy of G-7 countries during 1980-2009. I estimate a Taylor rule for each country and use residual from the Taylor rules to estimate a dynamic latent factor model with common and Europe speci…c factors. I quantify importance of the G-7 factor in explaining comovement in residual variation of monetary policy and show that the G-7 factor is particularly important during a period of globalization (1988-2003). I estimate dynamics of importance of the G-7 factor using rolling sub-samples and show that trade-openness increases comovement in monetary policy in Europe.
    Keywords: Symmetry-breaking, Endogenous comparative advantage, Gains from trade, Education policy
    JEL: F11 E62
    Date: 2014–04
  10. By: Yoshino, Naoyuki (Asian Development Bank Institute); Kaji, Sahoko (Asian Development Bank Institute); Tamon, Asonuma (Asian Development Bank Institute)
    Abstract: This paper analyzes the optimal transition of the exchange rate regime in the People’s Republic of China (PRC). How the PRC can successfully reach the desired regime—whether a basket peg or floating regime—from the current dollar-peg regime remains a major question. To answer it, we develop a dynamic small open-economy general equilibrium model. We construct four transition policies toward the basket-peg or floating regime and compare the welfare gains of these policies to those of maintaining the dollar-peg regime. Quantitative analysis using PRC data from Q1 1999 to Q4 2010 leads to two conclusions. First, a gradual adjustment toward a basket-peg regime seems the most appropriate option for the PRC, and would minimize the welfare losses associated with a shift in the exchange rate regime. Second, a sudden shift to a basket peg is the second-best solution. This is preferable to a sudden shift to a floating regime, since it would enable the authorities to implement optimal weights efficiently in order to achieve policy goals once a decision has been made to adopt a basket-peg regime.
    Keywords: exchange rate regime; exchange rate adjustment; Chinese exchange rate regime; dynamic adjustment; transition path
    JEL: E42 F33 F41 F42
    Date: 2014–04–29
  11. By: Elliott, Douglas J.; Rauch, Christian
    Abstract: In the United States, on April 1, 2014, the set of rules commonly known as the Volcker Rule, prohibiting proprietary trading activities in banks, became effective. The implementation of this rule took more than three years, as proprietary trading is an inherently vague concept, overlapping strongly with genuinely economically useful activities such as market-making. As a result, the final Rule is a complex and lengthy combination of prohibitions and exemptions. In January 2014, the European Commission put forward its proposal on banking structural reform. The proposal includes a Volcker-like provision, prohibiting large, systemically relevant financial institutions from engaging in proprietary trading or hedge fund-related business. This paper offers lessons to be learned from the implementation process for the Volcker rule in the US for the European regulatory process. --
    Keywords: banking separation proposals,proprietary trading ban,Dodd-Frank Act
    Date: 2014
  12. By: Yongmiao Hong; Yanhui Liu; Shouyang Wang
    Abstract: Controlling and monitoring extreme downside market risk are important for financial risk management and portfolio/investment diversification. In this paper, we introduce a new concept of Granger causality in risk and propose a class of kernel-based tests to detect extreme downside risk spillover between financial markets, where risk is measured by the left tail of the distribution or equivalently by the Value at Risk (VaR). The proposed tests have a convenient asymptotic standard normal distribution under the null hypothesis of no Granger causality in risk. They check a large number of lags and thus can detect risk spillover that occurs with a time lag or that has weak spillover at each lag but carries over a very long distributional lag. Usually, tests using a large number of lags may have low power against alternatives of practical importance, due to the loss of a large number of degrees of freedom. Such power loss is fortunately alleviated for our tests because our kernel approach naturally discounts higher order lags, which is consistent with the stylized fact that today’s financial markets are often more influenced by the recent events than the remote past events. A simulation study shows that the proposed tests have reasonable size and power against a variety of empirically plausible alternatives in finite samples, including the spillover from the dynamics in mean, variance, skewness and kurtosis respectively. In particular, nonuniform weighting delivers better power than uniform weighting and a Granger-type regression procedure. The proposed tests are useful in investigating large comovements between financial markets such as financial contagions. An application to the Eurodollar and Japanese Yen highlights the merits of our approach.
    Keywords: Cross-spectrum; Extreme downside risk; Financial contagion; Granger causality in risk; Nonlinear time series; Risk management; Value at Risk
    Date: 2013–10–14

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