nep-cba New Economics Papers
on Central Banking
Issue of 2014‒12‒13
fifteen papers chosen by
Maria Semenova
Higher School of Economics

  1. Monetary Policy in Open Economies: Practical Perspectives for Pragmatic Central Bankers By Richard Clarida
  2. Does the clarity of inflation reports affect volatility in financial markets? By Aleš Bulíř; Martin Číhak; David-Jan Jansen
  3. Unconventional Monetary Policy and Long-Term Interest Rates By Tao Wu
  4. Lending standards, credit booms and monetary policy By Afanasyeva, Elena; Güntner, Jochen
  5. Dealing with financial crises: How much help from research? By Pagano, Marco
  6. Stability and Identification with Optimal Macroprudential Policy Rules By Jean-Bernard Chatelain; Kirsten Ralf
  7. The leverage ratio over the cycle By Michael Brei; Leonardo Gambacorta
  8. Food Inflation in India: The Role for Monetary Policy By Rahul Anand; Ding Ding; Volodymyr Tulin
  9. Does Money Matter in the Euro area? Evidence from a new Divisia Index By Zsolt Darvas
  10. Reconsidering Bank Capital Regulation: A New Combination of Rules, Regulators, and Market Discipline By Connel Fullenkamp; Céline Rochon
  11. Towards deeper financial integration in Europe: What the Banking Union can contribute By Buch, Claudia M.; Körner, Tobias; Weigert, Benjamin
  12. Mutual assistance between Federal Reserve Banks, 1913-1960 as prolegomena to the TARGET2 debate By Eichengreen, Barry; Mehl, Arnaud; Chiţu, Livia; Richardson, Gary
  13. The Federal Reserve's Abandonment of its 1923 Principles By Julio J. Rotemberg
  14. The Impact of Yuan Internationalization on the Euro-Dollar Exchange Rate By Agnès Bénassy-Quéré; Yeganeh Forouheshfar
  15. Dependence Analysis between Foreign Exchange Rates: A Semi-Parametric Copula Approach By Azam, Kazim

  1. By: Richard Clarida
    Abstract: This paper reviews and interprets some of the key policy implications that flow from a class of DSGE models for optimal monetary policy in the open economy. The framework suggests that good macroeconomic outcomes in open economies are possible by focusing inflation targeting that is implemented by a Taylor type rule, a rule that in equilibrium is reflected in the exchange rate as an asset price. Optimal monetary policy will not be able deliver a stationary ('stable') nominal exchange rate - let alone a fixed exchange rate or one that remains inside a target zone ‐ because, absent a commitment device, optimal monetary can't deliver a stationary domestic price level. Another feature in the data for inflation targeting countries that is consistent with monetary policy via Taylor type rule is that it will tend push the nominal exchange rate in the opposite direction from PPP in response to an 'inflation' shock - the 'bad news god news' result of Clarida -Waldman (2008;2014). This is so even though in the long run of these models the nominal exchange rate must in expectation obey PPP.
    JEL: E52 E58 F3
    Date: 2014–10
  2. By: Aleš Bulíř; Martin Číhak; David-Jan Jansen
    Abstract: We study whether clarity of central bank inflation reports affects return volatility in financial markets. We measure clarity of reports by the Czech National Bank, the European Central Bank, the Bank of England, and Sveriges Riksbank using the Flesch-Kincaid grade level, a standard readability measure. We find some evidence, mainly for the euro area, of a negative relationship between clarity and market volatility prior to and during the early stage of the global financial crisis. As the crisis unfolded, there is no longer robust evidence of a negative connection. We conclude that reducing noise using clear reports is possible but not without challenges, especially in times of crisis.
    Keywords: central bank communication; clarity; financial markets; inflation reports; volatility
    JEL: E44 E52 E58
    Date: 2014–09
  3. By: Tao Wu
    Abstract: This paper examines the transmission mechanism through which unconventional monetary policy affects long-term interest rates. I construct a real-time measure summarizing market projections of the magnitude and duration of the Federal Reserve's Large Scale Asset Purchases (LSAP) program, and analyze the determination of term premiums and expectations of future short-term interest rates in a sample spanning more than two decades. Empirical findings suggest that the LSAP has effectively lowered the long-term Treasury bond yields, through both "signaling" and "portfolio balance" channels. On the other hand, the Fed's "forward guidance" also leads to gradual extension of market projections for the duration of the LSAP program, thereby enhancing the LSAP's effect to keep term premiums low. Estimation results also reveal a diminished effectiveness of the LSAP during QE III. Finally, model simulations underscore the importance of policy transparency in minimizing unnecessary market turbulence and ensuring a timely and smooth exit of the unconventional monetary policy stimulus.
    Keywords: Monetary policy;Interest rates;Central bank policy;United States;Monetary transmission mechanism;Econometric models;Unconventional monetary policy, Quantitative easing, Large-scale asset purchases, Long-term interest rates, Signaling effect, Portfolio balance, Tapering, Exit strategy
    Date: 2014–10–22
  4. By: Afanasyeva, Elena; Güntner, Jochen
    Abstract: This paper investigates the risk channel of monetary policy on the asset side of banks' balance sheets. We use a factoraugmented vector autoregression (FAVAR) model to show that aggregate lending standards of U.S. banks, such as their collateral requirements for firms, are significantly loosened in response to an unexpected decrease in the Federal Funds rate. Based on this evidence, we reformulate the costly state verification (CSV) contract to allow for an active financial intermediary, embed it in a New Keynesian dynamic stochastic general equilibrium (DSGE) model, and show that - consistent with our empirical findings - an expansionary monetary policy shock implies a temporary increase in bank lending relative to borrower collateral. In the model, this is accompanied by a higher default rate of borrowers.
    Keywords: Bank lending standards,Credit supply,Monetary policy,Risk channel
    JEL: E44 E52
    Date: 2014
  5. By: Pagano, Marco
    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
  6. By: Jean-Bernard Chatelain (CES - Centre d'économie de la Sorbonne - CNRS : UMR8174 - Université Paris I - Panthéon-Sorbonne, EEP-PSE - Ecole d'Économie de Paris - Paris School of Economics - Ecole d'Économie de Paris); Kirsten Ralf (Ecole Supérieure du Commerce Extérieur - ESCE - International business school)
    Abstract: This paper investigates the identification, the determinacy and the stability of ad hoc, "quasi-optimal" and optimal policy rules augmented with financial stability indicators (such as asset prices deviations from their fundamental values) and minimizing the volatility of the policy interest rates, when the central bank precommits to financial stability. Firstly, ad hoc and quasi-optimal rules parameters of financial stability indicators cannot be identified. For those rules, non zero policy rule parameters of financial stability indicators are observationally equivalent to rule parameters set to zero in another rule, so that they are unable to inform monetary policy. Secondly, under controllability conditions, optimal policy rules parameters of financial stability indicators can all be identified, along with a bounded solution stabilizing an unstable economy as in Woodford (2003), with determinacy of the initial conditions of non-predetermined variables.
    Keywords: Identification; financial stability; monetary policy; optimal policy under Commitment; augmented Taylor rule
    Date: 2014–04
  7. By: Michael Brei; Leonardo Gambacorta
    Abstract: This paper analyses how the Basel III leverage ratio (Tier 1 capital/exposure) behaves over the cycle. The analysis proposes a setup to test for the cyclical properties of bank capital ratios, taking into account structural shifts in banks' behaviour during the global financial crisis and its aftermath. Using a large data set covering international banks headquartered in 14 advanced economies for the period 1995-2012, we find that the Basel III leverage ratio is significantly more countercyclical than the riskweighted regulatory capital ratio: it is a tighter constraint for banks in booms and a looser constraint in recessions.
    Keywords: leverage, capital ratios, procyclicality, global financial crisis
    Date: 2014–10
  8. By: Rahul Anand; Ding Ding; Volodymyr Tulin
    Abstract: Indian food and fuel inflation has remained high for several years, and second-round effects on core inflation are estimated to be large. This paper estimates the size of second-round effects using an estimated reduced-form general equilibrium model of the Indian economy, which incorporates pass-through from headline inflation to core inflation. The results indicate that India's inflation is highly inertial and persistent. Due to second-round effects, the gap between headline inflation and core inflation decreases by about three fourths within one year as core inflation catches up with headline inflation. Large second-round effects stem from several factors, such as the high share of food in household expenditure and the role of food inflation in informing inflation expectations and wage setting. Analysis suggests that in order to durably reduce the current high inflation, the monetary policy stance needs to remain tight for a considerable length of time. In addition, progress on structural reforms to raise potential growth is critical to reduce the burden on monetary policy.
    Keywords: Food prices;India;Inflation;Monetary policy;Econometric models;Monetary policy, forecasting, food inflation, India.
    Date: 2014–09–24
  9. By: Zsolt Darvas
    Abstract: The purpose of this paper is to examine the possible role of money shocks on output and prices in the euro area. Since no Divisia monetary aggregates are available for the euro area, we first create and make available a database on euro-area Divisia monetary aggregates. We plan to update the dataset in the future and keep it publicly available. Using different SVAR models, we find sensible and statistically significant responses to Divisia money shocks, while the responses to simple-sum measures of money and interest rates are not statistically significant, and sometimes even the point estimates are not sensible.
    Date: 2014–11
  10. By: Connel Fullenkamp; Céline Rochon
    Abstract: Despite revisions to bank capital standards, fundamental shortcomings remain: the rules for setting capital requirements need to be simpler, and resolution should be an essential part of the capital requirement framework.We propose a new system of capital regulation that addresses these needs by making changes to all three pillars of bank regulation: only common equity should be recognized as capital for regulatory purposes, and risk weighting of assets should be abandoned; capital requirements should be assigned on an institution-by-institution basis according to a regulatory (s,S) approach developed in the paper; a standard for prompt, corrective action is incorporated into the (s,S) approach.
    Keywords: Bank capital;Capital regulation;Capital requirements;Bank regulations;Bank supervision;Banking systems;Regulation, Bank Capital.
    Date: 2014–09–15
  11. By: Buch, Claudia M.; Körner, Tobias; Weigert, Benjamin
    Abstract: The European Banking Union is a major step forward in fixing major deficiencies in the institutional framework of the Euro area. The absence of effective banking supervision and resolution powers at the European level promoted excessive private risk-taking in the up-run to the Euro crisis. Effective private risk sharing once risks materialized has been hampered. A properly designed Banking Union facilitates and improves private risk sharing, and it is thus a necessary institutional complement to a monetary union. Yet, the institutional framework of the Banking Union needs further strengthening in three regards. First, the supervisory framework needs to ensure uniform supervisory standards for all banks, including those located in non-Euro area countries. Also, conflicts of interest between monetary policy and banking supervision need to be mitigated. Second, bank resolution suffers from a highly complex governance structure. Restructuring and bail-in rules allow for a high degree of discretion at the level of the resolution authority. We propose to introduce a statutory systemic risk exception, by which the exercise of discretion would be reduced, thereby strengthening the credibility of the bail-in. Third, in order to enhance the credibility of creditor involvement, fiscal backstops and ex-ante specified cross-border burden-sharing agreements are needed.
    Keywords: European Banking Union,Single Supervisory Mechanism,Single Resolution Mechanism,Risk Sharing
    JEL: E02 E42 G18
    Date: 2014
  12. By: Eichengreen, Barry; Mehl, Arnaud; Chiţu, Livia; Richardson, Gary
    Abstract: This paper reconstructs the forgotten history of mutual assistance among Reserve Banks in the early years of the Federal Reserve System. We use data on accommodation operations by the 12 Reserve Banks between 1913 and 1960 which enabled them to mutualise their gold reserves in emergency situations. Gold reserve sharing was especially important in response to liquidity crises and bank runs. Cooperation among reserve banks was essential for the cohesion and stability of the US monetary union. But fortunes could change quickly, with emergency recipients of gold turning into providers. Because regional imbalances did not grow endlessly, instead narrowing when region-specific liquidity shocks subsided, mutual assistance created only limited tensions. These findings speak to the current debate over TARGET2 balances in Europe. JEL Classification: F30, N20
    Keywords: Federal Reserve System, gold standard, liquidity and financial crises, monetary policy, risk sharing, TARGET2 balances
    Date: 2014–07
  13. By: Julio J. Rotemberg
    Abstract: This paper studies the persistence and some of the consequences of the eventual abandonment by the FOMC of the principles embedded in the Federal Reserve's Tenth Annual Report of 1923. The three principles I focus on are 1) the discouraging of speculative lending by commercial banks, 2) the desire to meet the credit needs of business and 3) the preference of a focus on credit over a focus on monetary aggregates. I show that the first two principles remained important in FOMC deliberations until the mid-1960's. After this, the FOMC also spent less time discussing the composition of bank loans.
    JEL: E42 E58 N1
    Date: 2014–09
  14. By: Agnès Bénassy-Quéré (CES - Centre d'économie de la Sorbonne - CNRS : UMR8174 - Université Paris I - Panthéon-Sorbonne, EEP-PSE - Ecole d'Économie de Paris - Paris School of Economics - Ecole d'Économie de Paris); Yeganeh Forouheshfar (Université Paris-Dauphine - Université Paris-Dauphine)
    Abstract: We study the implication of a multipolarization of the international monetary system on crosscurrency volatility. More specifically, we analyze whether the internationalization of the yuan could modify the impact of asset supply and trade shocks on the euro-dollar exchange rate, within a threecountry, three-currency portfolio model. Our static model shows that the internationalization of the yuan (defined as a rise in the yuan in international portfolios) would be either neutral or stabilizing for the euro-dollar rate, whatever the exchange-rate regime of China. Moving to a dynamic, stockflow framework, we show that the internationalization of the yuan would make exchange-rate variations more efficient to stabilize net foreign asset positions after a trade shock.
    Keywords: China ; Yuan ; Exchange-rate regime ; Euro ; Dollar
    Date: 2013–02
  15. By: Azam, Kazim (Vrije Universiteit, Amsterdam)
    Abstract: Not only currencies are assets in investor's portfolio, central banks use them for implementing economic policies. This implies existence of some type of dependence pattern among the currencies. We investigate such patterns among daily Deutsche Mark (DM) (Euro later), UK Sterling (GBP) and the Japanese Yen (JPY) exchange rate, all considered against the US Dollar during various economic conditions. To overcome the short-comings of misspecification, normality and linear dependence for such time series, a exible semi-parametric copula methodology is adopted where the marginals are non-parametric but the copula is parametrically specified. Dependence is estimated both as a constant and time-varying measure. During the Pre-Euro period, we nd slightly more dependence when both DM (Euro)/USD and GBP/USD jointly appreciate as compared to joint depreciation, especially in the late 90s. Such results are reversed for GBP/USD and JPY/USD in the early 90s. Post-Euro, DM (Euro)/USD and GBP/USD exhibit stronger dependence when they jointly appreciate, which could indicate preference for price-stability in EU zone. Whereas the dependence of JPY/USD with both DM (Euro)/USD and GBP/USD is stronger when they jointly depreciate, this could imply preference for export competitiveness among the countries. In the beginning of Recent-Crisis period, DM (EURO)/USD and GBP/USD show more dependence when they jointly depreciate, but later we see the similar tendency for these currencies to be related more when they jointly appreciate. Such measures of asymmetric dependence among the currencies provide vital insight into Central banks preferences and investors portfolio balancing. Key words: Copula ; exchange rates ; semi-parametric ; time series JEL classification: C14 ; C58 ; F31
    Date: 2014

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