nep-cba New Economics Papers
on Central Banking
Issue of 2014‒11‒12
twenty papers chosen by
Maria Semenova
Higher School of Economics

  1. Monetary policy under inflation targeting: lessons from industrial and emerging countries By Aliqoriev, Olimkhon; Khamidov, Khalilillo
  2. The Perils of Nominal Targets By Roc Armenter
  3. Financial shocks, loan loss provisions and macroeconomic stability By Roy Zilberman; William Tayler
  4. Money, Banking and Interest Rates: Monetary Policy Regimes with Markov-Switching VECM Evidence By Giulia Ghiani; Max Gillman; Michal Kejak
  5. The effects of unconventional monetary policy: what do central banks not include in their models? / Skutki niekonwencjonalnej polityki pieniê¿nej: czego banki centralne nie uwzglêdniaj¹w swoich modelach? By Andrzej Rzoñca; Piotr Ci¿kowicz
  6. Financial shocks and optimal monetary policy rules By Verona, Fabio; Martins, Manuel M. F.; Drumond , Inês
  7. Options Embedded in ECB Targeted Refinancing Operations. By J-P. Renne
  8. The Impact of Liquidity Regulation on Banks By Ryan N. Banerjee; Hitoshi Mio
  9. Sovereignty, exchange rate and the Euro crisis By BRESSER-PEREIRA, Luiz Carlos; ROSSI, Pedro
  10. Inflation in New EU Member States: A Domestically or Externally Driven Phenomenon? By Tomislav Globan; Vladimir Arčabić; Petar Sorić
  11. What Measures Chinese Monetary Policy? By Sun, Rongrong
  12. Death of a Reserve Currency By Quinn, Stephen F.; Roberds, William
  13. One size does not fit all. A non-linear analysis of European monetary transmission By Giulio Cifarelli; Giovanna Paladino
  14. The Chicago Tradition and Commercial Bank Seigniorage By Soldatos, Gerasimos T.; Varelas, Erotokritos
  15. The Pass-Through of Exchange Rate in the Context of the European Sovereign Debt Crisis By Ben Cheikh, Nidhaleddine; Rault, Christophe
  16. Interest Rate, Exchange Rate, and Stock Prices of Islamic Banks: A Panel Data Analysis By Ayub, Aishahton; Masih, Mansur
  17. Financial Crisis in Norway and Japan By Miyagawa, Shigeyoshi; Morita, Yoji
  18. A Measure of Early Warning of Exchange-Rate Crises Based on the Hurst Coefficient and the Αlpha-Stable Parameter By Rodríguez-Aguilar, Román; Cruz-Aké, Salvador; Venegas-Martínez, Francisco
  19. Dependence between Extreme Events in the Real and Financial Sectors By Chollete, Loran; Ismailescu, Iuliana; Lu, Ching-Chih
  20. Forecasting inflation in Poland using dynamic factor model By Pierzak, Agnieszka

  1. By: Aliqoriev, Olimkhon; Khamidov, Khalilillo
    Abstract: This article focuses on inflation targeting (hereafter IT) as a superior monetary policy strategy for attaining price stability, and its theoretical framework, prerequisites to introduce. The article analyses benefits and costs of adoption of inflation targeting and also examines the IT experiences of some industrial and emerging markets. The growing body of empirical researches indicates that the adoption of IT is useful for countries that must enhance their credibility for the management of monetary policy. Personally, the authors suggest that Uzbekistan should also take IT into account seriously and further consider. In the long run, without prejudice to the goal of price stability countries can achieve other objective: high employment, economic growth, financial markets stability, interest rate stability, and stability in foreign exchange markets.
    Keywords: inflation targeting, monetary policy, price stability, central bank.
    JEL: E31 E52 E58
    Date: 2014–05–05
  2. By: Roc Armenter (Federal Reserve Bank of Philadelphia)
    Abstract: A monetary authority can be committed to pursuing an inflation, price-level, or nominal output target yet systematically fail to achieve the specified goal. Constrained by the zero lower bound on the policy rate, the monetary authority is unable to implement its objectives when private-sector expectations stray from the target in the first place. Low-inflation expectations become self-fullling, resulting in an additional Markov equilibrium in which both nominal and real variables are typically below target. Introducing a stabilization goal for long-term nominal rates anchors private-sector expectations on a unique Markov equilibrium without fully compromising the policy responses to shocks.
    Date: 2014
  3. By: Roy Zilberman; William Tayler
    Abstract: This paper studies the interactions between loan loss provisioning rules, business cycle fluctuations and monetary policy in a model with nominal price rigidities, a borrowing cost channel and endogenous risk of default. We show that an empirically relevant backward-looking provisioning rule induces financial accelerator mechanisms and results in financial, price and macroeconomic instability. Forward-looking provisioning systems, set to cover for expected losses over the whole business cycle, reduce significantly procyclicality in prices and output, and in addition moderate the (otherwise optimal) anti-inflationary response in the monetary policy rule. The optimal policy response to financial shocks calls for a combination of forward-looking provisions and a mildly credit augmented monetary policy rule.
    Keywords: Loan loss provisions, procyclicality, borrowing cost channel, Basel III, forward-looking provisions, monetary policy
    JEL: E32 E44 E52 E58 G28
    Date: 2014
  4. By: Giulia Ghiani (Politecnico di Milano); Max Gillman (Department of Economics, University of Missouri-St. Louis); Michal Kejak (CERGE-EI Prague)
    Abstract: The paper sets out theory and evidence for the equilibrium determination of the nominal interest rate. We test the cash-in-advance economy using US postwar data and find cointegration of the interest rate, inflation, unemployment and the money supply, using either M2 or M1 monetary aggregates, and the Federal Funds rate or the three month Treasury bill rate. Results are consistent both with a persistent monetary liquidity effect in the cointegrating vector coefficients and also a long run quantity theoretic relation. We identify three Markov-switching regimes similar to NBER contractions, expansions, and the "unconventional" period. Dropping money indicates model misspecification.
    Keywords: Euler equation, money supply, non-stationarity, cointegration, Markov-Switching VECM.
    JEL: C32 E40 E52
    Date: 2014–10
  5. By: Andrzej Rzoñca; Piotr Ci¿kowicz
    Abstract: In 2009, for the first time since the end of World War II, the world economy shrank. This resulted from the economic downturn in highly developed countries and surprised most economists. According to the IMF forecast published in spring 2008, GDP growth in these countries was expected to accelerate from 1.3% in 2008 to 3.8%. In fact, the growth rate was 0.1% in 2008 and minus 3.7% in 2009 (White, 2012). Another surprise was the subsequent poor performance rates reported by the major economies, i.e. the United States and the Eurozone. Five years after the acute phase of the global financial crisis their growth rates have not returned to pre-crisis levels. In a response to the outbreak of the global crisis, the main central banks, namely the Fed and the European Central Bank (ECB), resolved to take some unconventional actions: (i) reducing interest rates to close to zero, (ii) committing to keep interest rates that low for a long time, (iii) introducing quantitative easing on a large scale. In this paper, the authors attempt to aswer what were the costs of the unconventional monetary policy adopted by Fed and EBC, as well as what effects it had on restructuring process, uncertainty, and the use of credit.
    Keywords: Central Banks and Their Policies, Money Supply, Credit, Money multipliers, Mergers, Acquisitions, Restructuring, Corporate governance
    JEL: E51 E58 G34
    Date: 2014–09
  6. By: Verona, Fabio (Bank of Finland Research); Martins, Manuel M. F. (University of Porto,); Drumond , Inês (Banco de Portugal)
    Abstract: We assess the performance of optimal Taylor-type interest rate rules, with and without reaction to financial variables, in stabilizing the macroeconomy following financial shocks. We use a DSGE model that comprises both a loan and a bond market, which best suits the contemporary structure of the U.S. financial system and allows for a wide set of financial shocks and transmission mechanisms. Overall, we find that targeting financial stability – in particular credit growth, but in some cases also financial spreads and asset prices – improves macroeconomic stabilization. The specific policy implications depend on the policy regime, and on the origin and the persistence of the financial shock.
    Keywords: financial shocks; optimal monetary policy; Taylor rules; DSGE models; bond market; loan market
    JEL: E32 E44 E52
    Date: 2014–07–25
  7. By: J-P. Renne
    Abstract: In June 2014, the European Central Bank (ECB) announced the implementation of new refinancing operations aimed at supporting bank lending to the non-financial private sector. This paper exhibits and prices options embedded in these Targeted Longer-Term Refinancing Operations. In particular, it shows how these options participate to the incentive mechanisms at play in these operations. Quantitative results point to substantial gains –for participating banks– attached to the satisfaction of lending conditions defined by the scheme.
    Keywords: unconventional monetary policy, option pricing, TLTRO.
    JEL: E43 E52 E58
    Date: 2014
  8. By: Ryan N. Banerjee; Hitoshi Mio
    Abstract: To the best of our knowledge, this is the first study to estimate the effect of liquidity regulation on bank balance sheets. It takes advantage of the fact that not all banks were made subject to tighter liquidity regulation by the UK Financial Services Authority (FSA) in 2010. Under this new regulation a subset of banks operating in the UK were required to hold a sufficient stock of high quality liquid assets (HQLA) to withstand two scenarios of stressed funding conditions. We find that banks adjusted both their asset and liability structures to meet tighter liquidity requirements. Banks increased the share of HQLA and funding from more stable UK non-financial deposits while reducing the share of short-term intra-financial loans and short-term wholesale funding. We do not find evidence that the tightening of liquidity regulation had an impact on the overall size of bank balance sheets or a detrimental impact on lending to the non-financial sector either through reduced lending supply or higher interest rates on loans. Overall, in response to tougher liquidity regulation, banks replaced claims on other financial institutions with cash, central bank reserves and government bonds – and so reduced the interconnectedness of the banking sector without affecting lending to the real economy.
    Keywords: Banking, liquidity regulation, average treatment effect
    Date: 2014–10
  9. By: BRESSER-PEREIRA, Luiz Carlos; ROSSI, Pedro
    Abstract: This paper presents an interpretation of the European crisis based on the balance of payments imbalances within the Eurozone and highlighting the role of the “internal†real exchange rates as a primary cause of the crisis. It explores the structural contradictions that turn the Euro into a “foreign currency†for each individual Eurozone country. These contradictions imply the inability of national central banks to monetize the public and private debts, which makes the Euro crisis a sovereign crisis similar to those typical of emerging countries, but whose solution presents additional obstacles.
    Date: 2014–10–29
  10. By: Tomislav Globan (Faculty of Economics and Business, University of Zagreb); Vladimir Arčabić (Faculty of Economics and Business, University of Zagreb); Petar Sorić (Faculty of Economics and Business, University of Zagreb)
    Abstract: This paper analyzes the domestic and external inflation determinants for eight non-eurozone new EU member states (NMS). The empirical literature has been rather silent on the comparison of the relative importance of domestic vs. foreign inflation determinants. This paper aims to fill this gap and add to the literature by several methodological and empirical contributions. Empirical analysis is based on the structural vector autoregression (SVAR) model. It enables the authors to decompose inflation into its domestic and foreign component via historical decomposition analysis. Results indicate that foreign shocks are a major factor in explaining inflation dynamics in the medium run, while the short run inflation dynamics is mainly influenced by domestic shocks. Moreover, the importance of the foreign inflation component has had a rising trend in the pre-crisis period in all NMS, while the start of that trend mostly coincided with their accession to the EU. The global financial crisis seems to have decreased the importance of the foreign inflation component, although the results vary across countries. Since foreign shocks proved to be a very important determinant of inflation in NMS, the main policy implication of this study is the need to augment the classical Taylor rule with foreign factors in case of small open economies.
    Keywords: domestic and external inflation determinants, historical decomposition, inflation, new EU member states, consumer surveys
    JEL: C22 E31 E52 F41
    Date: 2014–10–23
  11. By: Sun, Rongrong
    Abstract: This paper models the People’s Bank of China’s operating procedures in a two-stage vector autoregression model to search for a valid good policy indicator for Chinese monetary policy. The model disentangles endogenous components in changes in monetary policy that are driven either by demand for money or the liquidity management needs arising from foreign exchange purchases. There are four main findings. First, the PBC’s procedures appear to have changed over time, and hence no single indicator represents Chinese monetary policy well for the 2000-2013 time period. Second, its operating procedure is neither pure interest-rate targeting nor pure reserves targeting, but a mixture. Third, a set of indicators all contain information about the policy stance. It is hence preferred to use a composite measure to measure Chinese monetary policy. Finally, we construct a new composite indicator of the overall policy stance, consistent with our model. A comparison with several existing measurement approaches suggests that the composite indices, rather than individual indicators, perform better in measuring Chinese monetary policy.
    Keywords: monetary policy, VAR, operating procedures, exogenous (endogenous) components
    JEL: E52 E58
    Date: 2014–08
  12. By: Quinn, Stephen F. (Texas Christian University); Roberds, William (Federal Reserve Bank of Atlanta)
    Abstract: The Dutch bank florin was the dominant currency in Europe during much of the 17th and 18th centuries. The florin, a fiat money, was managed by an early central bank, the Bank of Amsterdam. Using a new reconstruction of the Bank of Amsterdam's balance sheet, we analyze the florin's loss of reserve currency status during the period 1781–92. The reconstruction shows that by 1784, accommodative policies rendered the Bank of Amsterdam "policy insolvent," meaning that its net worth would have been negative under continuation of its policy objectives. Policy insolvency coincided with the Bank of Amsterdam's loss of control over the value of its money.
    Keywords: central banks; reserve currency; policy insolvency
    JEL: E58 F33 N13
    Date: 2014–09–01
  13. By: Giulio Cifarelli (Dipartimento di Scienze per l'Economia e l'Impresa); Giovanna Paladino
    Abstract: This paper investigates the interest rate pass-through in eight European countries analyzing their short-run and long-run monetary transmission mechanisms. We investigate the relationship between the Euribor and the long-run interest rate on loans to non-financial corporations and allow for a mark-up which can be affected by country specific funding conditions and/or stochastic structural breaks. We detect significant differences across countries. Cointegration between the Euribor and the long-term bank loan interest rates holds for Germany, France, and the Netherlands, where banks seem to apply a constant mark-up. In the remaining countries of the sample the long-run pass-through is directly affected by changes in banks’ cost of funding, due to shifts in the spread between domestic and German long-term government bond interest rates. The selection of the country specific ESTAR/LSTAR parameterization of the short-run dynamics detects a high degree of heterogeneity. The transition variables vary from the government bond spreads, in countries which were involved in the European debt crisis via sovereign bond market contagion, to the VXO index and to the Euribor monthly volatility.
    Keywords: Interest rate pass-through, Cointegration, ESTAR/LSTAR parameterization, EMU.
    JEL: E43 E52 F36 C32
    Date: 2014
  14. By: Soldatos, Gerasimos T.; Varelas, Erotokritos
    Abstract: Chicago rule is shown to be the unique optimal monetary policy rule from the viewpoint of an intergenerational welfare-maximizing social planner. But, in the absence of commercial banking, it really mandates the elimination of the public sector, because it involves the elimination of central bank seigniorage and hence, of the government spending based on this seigniorage, rendering subsequently tax finance incapable of sustaining alone such spending. In the presence of commercial banking, the government does have the option of benefiting from commercial bank seigniorage by borrowing it countercyclically as implied by Chicago rule, which is found to operate like a full-reserve requirement.
    Keywords: Chicago rule, Chicago plan, Seigniorage, Intergenerational modeling
    JEL: D9 E4 E5 H1 H6
    Date: 2014
  15. By: Ben Cheikh, Nidhaleddine; Rault, Christophe
    Abstract: This paper investigates whether the exchange rate pass-through (ERPT) to CPI inflation is a nonlinear phenomenon for five heavily indebted euro area (EA) countries, namely the so-called GIIPS group (Greece, Ireland, Italy, Portugal, and Spain). Using logistic smooth transition models, we explore the existence of nonlinearity with respect to sovereign bond yield spreads (versus German) as an indicator of confidence crisis/macroeconomic instability. Our results provide strong evidence that the extent of ERPT is higher in periods of macroeconomic distress, i.e. when sovereign bond yield spreads exceed some threshold. For all the GIIPS countries, we reveal that the increasing of macroeconomic instability and the loss of confidence during the recent sovereign debt crisis has entailed a higher sensibility of CPI inflation to exchange rate movements.
    Keywords: Exchange Rate Pass-Through, Inflation, Sovereign spreads, Smooth Transition Regression
    JEL: C22 E31 F31
    Date: 2013–05
  16. By: Ayub, Aishahton; Masih, Mansur
    Abstract: Understanding the empirical relationship between the exchange rates, interest rates and stock prices are important and useful to the policy makers, professional investors and academics. Although the scholars and practitioners have studied the subject extensively, few empirical studies are available in the context of the Islamic banking stock prices. In this paper, we make an humble attempt to fill in this gap in the empirical literature of Islamic banking, in particular. We use panel cointegration and panel vector error-correction (VECM) model to examine the existence and direction of the causal relationship between exchange rate, interest rate and Islamic banking sector stock prices using monthly data over the last five years. The VECM is employed to discern the short-run and long-run Granger causality by applying the dynamic Generalized Method of Moments (dynamic GMM). For 40 Islamic banks, the empirical results tend to indicate that the Islamic bank stock prices have negative significant relationship with the exchange rates but no significant relationship with the interest rates. In addition, we found that there exists a bidirectional Granger-causal relationship between the Islamic bank stock prices and exchange rates. This finding tends to suggest that this significant relationship between the exchange rates and Islamic bank stock prices should be borne in mind by the policy makers while formulating their policies.
    Keywords: Exchange rate; Interest rate; Islamic bank stock prices; panel cointegration; panel vector error-correction (VECM); dynamic GMM, Granger-causality
    JEL: C22 C58 E44
    Date: 2013–08–26
  17. By: Miyagawa, Shigeyoshi (Department of Economics, Kyoto Gakuen University); Morita, Yoji (Department of Economics, Kyoto Gakuen University)
    Abstract: Three Nordic countries, Norway, Finland and Sweden, and Japan had experienced the severe financial crisis after the rapid asset price increase in almost the same period. However the recovery was fast in Nordic countries, while Japan experienced a prolonged recession, so called lost two decades. This study explains the difference and similarity of two crises, comparing the factors behind the bubble and bust in Norway and Japan. The paper also focuses on the role of monetary policy in both countries. Miyagawa and Morita (2012, 2013) statistically analyzed the important role of money in the up and down swing of economy in the Japan’s economy. They had taken the role of expectation in the money demand. The same VAR model was performed to the Norwegian crisis, taking into consideration the financial anxieties in the period of financial boom and crisis. The estimation results showed that money played the important role in the bubble and bust in Norway as in Japan.
    Keywords: deregulation; monetary easing; bubble; financial anxieties
    JEL: F30
    Date: 2014–10–20
  18. By: Rodríguez-Aguilar, Román; Cruz-Aké, Salvador; Venegas-Martínez, Francisco
    Abstract: The Hurst coefficient and the alpha-stable parameter are useful indicators in the analysis of time series to detect normality and absence of self-similarity. In particular, when these two features met simultaneously, it is said that the series is driven by white noise. This paper is aimed at developing an index to measure the degree to which a time series departs from white noise. The proposed index is built by using the principal component analysis of the Mahalanobis distances between the Hurst coefficient and the alpha-stable parameter from theoretical values of normality and absence of self-similarity. A zero value of the index corresponds to a pure white noise process, while a 100 value correspond to the maximum distance between the actual series and the theoretical white noise. The proposed index is applied to examine the exchange rate of the Mexican peso against the USA dollar. When examining the exchange rate, one distinctive finding of the Index is that it can be used as an early warning indicator of crises, as it is shown for the Mexican case.
    Keywords: Fractional Brownian motion, Hurst coefficient, self-similarity, alpha-stable distributions, heavy tails, early warning indicator.
    JEL: G0 G01 G1 G15
    Date: 2014–10–02
  19. By: Chollete, Loran (UiS); Ismailescu, Iuliana (Pace University); Lu, Ching-Chih (National Chengchi University)
    Abstract: Extreme events affect both the real economy and financial markets, and it is valuable to understand their interrelationship. We analyze the likelihood of crises in the macroeconomy and in financial markets. We compare rare disaster data from Barro and Jin (2011), crisis data from Reinhart and Rogoff (2009), real time macroeconomic data from Diebold et al (2009), and a unique industry dataset of Turbulence Indices. We examine dependence across the various measures of crises, as well as predictability, using annual and daily data. For annual data, the dependence between crises in the real and financial sectors increases over time for emerging markets, but decreases for OECD countries. We also document persistence at the one year and two year horizons for disasters in the real economy. For daily data, there is, surprisingly, little relation between turbulence in US equity and the real economy. However, there is strong evidence of two-way predictability up to two weeks out for the US economy and global turbulence. A dynamic copula model indicates that the real economy and various turbulence indices alternate between regimes of positive and negative dependence.
    Keywords: Crisis; Dependence Regimes; Extreme Event; Predictability; Rare Disaster; Turbulence
    JEL: A10
    Date: 2014–09–11
  20. By: Pierzak, Agnieszka (Ministry of Finance in Poland)
    Abstract: This paper investigates the use of dynamic factor model for forecasting headline and core inflation as well as food price index in Poland. Method applied in the study extend conventional approaches by using bayesian techniques to dynamic factors' estimation, way of handling "ragged edge" data structure and allowing for the model to change over time. Forecasting results confirm that including current information extracted from data-rich environment improves inflation forecast precision and consequently DFMs perform better than the best autoregressive models. The analysis suggest also that applying dynamic model selection procedure can additionally reduce out-of-sample prediction errors.
    Keywords: dynamic factor model; forecasting; inflation; CPI
    JEL: C35 C38 E31 E37
    Date: 2013–08

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