nep-cba New Economics Papers
on Central Banking
Issue of 2017‒04‒16
eighteen papers chosen by
Maria Semenova
Higher School of Economics

  1. SRISK: a conditional capital shortfall measure of systemic risk By Christian Brownlees; Robert Engle
  2. Bank Capital Redux: Solvency, Liquidity, and Crisis By Jordà, Òscar; Richter, Björn; Schularick, Moritz; Taylor, Alan M.
  3. Flight to liquidity and systemic bank runs By Roberto Robatto
  4. Deposit Insurance and Reinsurance: A General Equilibrium Perspective By Gersbach, Hans; Haller, Hans; Volker, Britz
  5. The Effect of Central Bank Liquidity Injections on Bank Credit Supply By Luisa Carpinelli; Matteo Crosignani
  6. The role of the inflation target adjustment in stabilization policy By Yunjong Eo; Denny Lie
  7. Spillovers from U.S. Monetary Policy Normalization on Brazil and Mexico’s Sovereign Bond Yields By Carlos Góes; Herman Kamil; Phil De Imus; Mercedes Garcia-Escribano; Roberto Perrelli; Shaun K. Roache; Jeremy Zook
  8. Exchange Rate Policies at the Zero Lower Bound By Amador, Manuel; Bianchi, Javier; Bocola, Luigi; Perri, Fabrizio
  9. Non-Sterilized Interventions May Yield Perverse Effects on Spot Foreign Exchange Rates By Saglam, Ismail
  10. Deflating Inflation Expectations: The Implications of Inflation's Simple Dynamics By Cecchetti, Stephen G; Feroli, Michael; Hooper, Peter; Kashyap, Anil K; Schoenholtz, Kermit
  11. Monetary transmission under competing corporate finance regimes = Transmisión monetaria bajo regímenes alternativos de finanzas corporativas By Paul de Grauwe; Eddie Gerba
  12. Central Bank Design in a Non-optimal Currency Union A Lender of Last Resort for Government Debt? By Peter Spahn
  13. Direct and Spillover Effects of Unconventional Monetary and Exchange Rate Policies By Joseph E. Gagnon; Tamim Bayoumi; Juan M. Londono; Christian Saborowski; Horacio Sapriza
  14. Shadow banking out of the shadows: non-bank intermediation and the Italian regulatory framework By Carlo Gola; Marco Burroni; Francesco Columba; Antonio Ilari; Giorgio Nuzzo; Onofrio Panzarino
  15. International inflation spillovers through input linkages By Raphael Auer; Andrei A Levchenko; Philip Sauré
  16. Sectoral Labor Mobility and Optimal Monetary Policy By Alessandro Cantelmo; Giovanni Melina
  17. SVAR Approach for Extracting Inflation Expectations Given Severe Monetary Shocks: Evidence from Belarus By Dzmitry Kruk
  18. How does monetary policy pass-through affect mortgage default? Evidence from the Irish mortgage market By Byrne, David; Kelly, Robert; O'Toole, Conor

  1. By: Christian Brownlees; Robert Engle
    Abstract: We introduce SRISK to measure the systemic risk contribution of a financial firm. SRISK measures the capital shortfall of a firm conditional on a severe market decline, and is a function of its size, leverage and risk. We use the measure to study top US financial institutions in the recent financial crisis. SRISK delivers useful rankings of systemic institutions at various stages of the crisis and identifies Fannie Mae, Freddie Mac, Morgan Stanley, Bear Stearns and Lehman Brothers as top contributors as early as 2005-Q1. Moreover, aggregate SRISK provides early warning signals of distress in indicators of real activity. JEL Classification: C22, C23, C53, G01, G20Keywords: Systemic Risk Measurement, Great Financial Crisis, GARCH, DCC
    Date: 2017–03
  2. By: Jordà, Òscar; Richter, Björn; Schularick, Moritz; Taylor, Alan M.
    Abstract: Higher capital ratios are unlikely to prevent a financial crisis. This is empirically true both for the entire history of advanced economies between 1870 and 2013 and for the post-WW2 period, and holds both within and between countries. We reach this startling conclusion using newly collected data on the liability side of banks' balance sheets in 17 countries. A solvency indicator, the capital ratio has no value as a crisis predictor; but we find that liquidity indicators such as the loan-to-deposit ratio and the share of non-deposit funding do signal financial fragility, although they add little predictive power relative to that of credit growth on the asset side of the balance sheet. However, higher capital buffers have social benefits in terms of macro-stability: recoveries from financial crisis recessions are much quicker with higher bank capital.
    Keywords: bank liabilities; capital ratio; crisis prediction; Financial crises; local projections
    JEL: E44 G01 G21 N20
    Date: 2017–03
  3. By: Roberto Robatto
    Abstract: This paper presents a general equilibrium, monetary model of bank runs to study monetary injections during financial crises. When the probability of runs is positive, depositors increase money demand and reduce deposits; at the economy-wide level, the velocity of money drops and deflation arises. Two quantitative examples show that the model accounts for a large fraction of (i) the drop in deposits in the Great Depression, and (ii) the $400 billion run on money market mutual funds in September 2008. In some circumstances, monetary injections have no effects on prices but reduce money velocity and deposits. Counterfactual policy analyses show that, if the Federal Reserve had not intervened in September 2008, the run on money market mutual funds would have been much smaller. JEL Classification: E44, E51, G20
    Keywords: Monetary Injections, Flight to Liquidity, Bank Runs, Endogenous Money Velocity, Great Depression, Great Recession, Money Market Mutual Funds
    Date: 2017–03
  4. By: Gersbach, Hans; Haller, Hans; Volker, Britz
    Abstract: We study the consequences and optimal design of bank deposit insurance and reinsurance in a general equilibrium setting. The model involves two production sectors. One sector is financed by issuing bonds to risk-averse households. Firms in the other sector are monitored and financed by banks. Households fund banks through deposits and equity. Deposits are explicitly insured by a deposit insurance fund. Any remaining shortfall is implicitly guaranteed by the government. The deposit insurance fund charges banks a premium per unit of deposits whereas the government finances any necessary bail-outs by lump-sum taxation of households. When the deposit insurance premium is actuarially fair or higher than actuarially fair, two types of equilibria emerge: One type of equilibria supports the Pareto optimal allocation, and the other type does not. In the latter case, bank lending is too large relative to equity and the probability that the banking system collapses is positive. Next, we show that a judicious combination of deposit insurance and reinsurance eliminates all non-optimal equilibrium allocations. Our paper provides a benchmark result for policy proposals that advocate deposit insurance cum reinsurance.
    Keywords: Capital Structure; deposit insurance; Financial Intermediation; General Equilibrium; reinsurance
    JEL: D53 E44 G2
    Date: 2017–03
  5. By: Luisa Carpinelli; Matteo Crosignani
    Abstract: We study the effectiveness of central bank liquidity injections in restoring bank credit supply following a wholesale funding dry-up. We combine borrower-level data from the Italian credit registry with bank security-level holdings and analyze the transmission of the European Central Bank three-year Long Term Refinancing Operation. Exploiting a regulatory change that expands eligible collateral, we show that banks more affected by the dry-up use this facility to restore their credit supply, while less affected banks use it to increase their holdings of high-yield government bonds. Unable to switch from affected banks during the dry-up, firms benefit from the intervention.
    Keywords: Bank Credit Supply ; Bank Wholesale Funding ; Lender of Last Resort ; Unconventional Monetary Policy
    JEL: E50 E58 G21 H63
    Date: 2017–03
  6. By: Yunjong Eo; Denny Lie
    Abstract: We study optimal monetary policy in a New Keynesian model in which the monetary authority faces a trade-off between inflation and output-gap stabilization due to cost-push shocks. In particular, we highlight the role of the inflation target adjustment in stabilization policy by showing that it can mitigate this policy trade-off and considerably improve welfare. The main findings can be summarized as follows. First, we find that the welfare cost of a standard Taylor rule is non-trivial, even with optimized policy coefficients. Second, we propose an additional policy tool of a medium-run inflation target (MRIT) rule. When combined with the standard Taylor rule, the optimal MRIT significantly reduces fluctuations in inflation originating from the cost-push shocks and results in a similar level of welfare to that associated with the Ramsey optimal policy. Third, the optimal MRIT needs to be adjusted in a persistent manner and in the opposite direction to the realization of a cost-push shock. Fourth, the welfare implication of the MRIT is more pronounced under a flatter Phillips curve. Finally, the main findings are relevant to the current economic environment of low inflation rates under a flat Phillips curve, implying that the monetary authority should increase the inflation target in such an environment.
    Keywords: Cost-push shocks, Monetary policy, Medium-run inflation targeting, Flat Phillips curve, Welfare analysis
    JEL: E12 E32 E58 E61
    Date: 2017–04
  7. By: Carlos Góes; Herman Kamil; Phil De Imus; Mercedes Garcia-Escribano; Roberto Perrelli; Shaun K. Roache; Jeremy Zook
    Abstract: This paper examines the transmission of changes in the U.S. monetary policy to localcurrency sovereign bond yields of Brazil and Mexico. Using vector error-correction models, we find that the U.S. 10-year bond yield was a key driver of long-term yields in these countries, and that Brazilian yields were more sensitive to U.S. shocks than Mexican yields during 2010–13. Remarkably, the propagation of shocks from U.S. long-term yields was amplified by changes in the policy rate in Brazil, but not in Mexico. Our counterfactual analysis suggests that yields in both countries temporarily overshot the values predicted by the model in the aftermath of the Fed’s “tapering†announcement in May 2013. This study suggests that emerging markets will need to contend with potential spillovers from shifts in monetary policy expectations in the U.S., which often lead to higher government bond interest rates and bouts of volatility.
    Keywords: Western Hemisphere;Brazil;Mexico;QE, tapering, local-currency sovereign bond yields, vector error correction models, General
    Date: 2017–03–10
  8. By: Amador, Manuel; Bianchi, Javier; Bocola, Luigi; Perri, Fabrizio
    Abstract: We study how a monetary authority pursues an exchange rate objective in an environment that features a zero lower bound (ZLB) constraint on nominal interest rates and limits to international arbitrage. If the nominal interest rate that is consistent with interest rate parity is positive, the central bank can achieve it exchange rate objective by choosing that interest rate, a well-known result in international finance. However, if the rate consistent with parity is negative, pursuing an exchange rate objective necessarily results in zero nominal interest rates, deviations from parity, capital inflows, and welfare costs associated with the accumulation of foreign reserves by the central bank. In this latter case, all changes in external conditions that increase inflows of capital toward the country are detrimental, while policies such as negative nominal interest rates or capital controls can reduce the costs associated with an exchange rate policy. We provide a simple way of measuring these costs, and present empirical support for the key implications of our framework: when interest rates are close to zero, violations in covered interest parity are more likely, and those violations are associated with reserve accumulation by central banks.
    Keywords: Capital Flows; CIP Deviations; Currency Pegs; Foreign Exchange Interventions; International Reserves; Negative Interest Rates
    JEL: F31 F32 F41
    Date: 2017–03
  9. By: Saglam, Ismail
    Abstract: We study the effects of non-sterilized intervention on a spot foreign exchange rate using a multi-period game-theoretical model which involves an unspecified number of competitive traders, a finite number of strategic traders (forex dealers), and the central bank of the home country. Simulating the subgame-perfect Nash equilibrium of the two-stage game played by the strategic traders in each period, we show that the non-sterilized intervention of the central bank may lead to a perverse result. This result may arise when the intervention becomes strong enough to unintentionally induce some of the strategic traders -who have previously traded in the direction desired by the monetary authority- to optimally switch to the opposite trade direction.
    Keywords: Exchange rate; central bank intervention; foreign exchange dealers; imperfect competition
    JEL: D43 F31 G20
    Date: 2017–04–13
  10. By: Cecchetti, Stephen G; Feroli, Michael; Hooper, Peter; Kashyap, Anil K; Schoenholtz, Kermit
    Abstract: This report examines the behavior of inflation in the United States since 1984 (updating Cecchetti et al. (2007)). Over this period, the change in inflation is negatively serially correlated, and the change in inflation is best predicted by a statistical model that includes only information from the two most recent quarters. We find that the level of inflation fluctuates around a slowly changing trend that we call the local mean of inflation. Few variables add extra explanatory power for inflation once the local mean is taken into account. This local mean is itself well characterized by a random walk. Labor market slack has a statistically significant, but quantitatively small, effect on the local mean and inflation expectations have no effect. Some financial conditions that are influenced by monetary policy have larger effects on the local mean. Concretely, this means that one-off moves in labor market slack or inflation expectations that are not mirrored in broader indicators of inflation pressures are unlikely to be predictive of changes in trend inflation.
    Keywords: Federal Open Market Committee; FOMC; inflation dynamics; Inflation expectations; inflation target; inflation trend; monetary policy; Philip Curve; price stability; US Monetary Policy Forum
    JEL: E31 E52
    Date: 2017–03
  11. By: Paul de Grauwe; Eddie Gerba
    Abstract: The behavioural agent-based framework of De Grauwe and Gerba (2015) is extended to allow for a counterfactual exercise on the role of banks for monetary transmissions. A bank-based corporate financing friction is introduced and the relative contribution of that friction to the effectiveness of monetary policy is evaluated. We find convincing evidence that the monetary transmission channel is stronger in the bank-based system compared to the market-based. Impulse responses to a monetary expansion are around the double of those in the market-based framework. The (asymmetric) effectiveness of monetary policy in counteracting busts is, on the other hand, relatively higher in the market-based model. The statistical fit of the bank-based behavioural model is also improved compared to the benchmark model. Lastly, we find that a market-based (bankbased) financing friction in a general equilibrium produces highly asymmetric (symmetric) distributions and more (less) pronounced business cycles.
    Keywords: monetary policy in EA; monetary transmissions; banks; financial frictions; market based finance
    JEL: E44 E52 G21 G32
    Date: 2017–04
  12. By: Peter Spahn
    Abstract: We analyze the benefits and costs of a non-euro country opting-in to the banking union. The decision to opt-in depends on the comparison between the assessment of the banking union attractiveness and the robustness of a national safety net. The benefits of opting-in are still only potential and uncertain, while costs are more tangible. Due to treaty constraints, noneuro countries participating in the banking union will not be on equal footing with euro area members. Analysis presented in the paper points out that reducing the weaknesses of the banking union and thus providing incentives for opting-in is not probable in the short term, mainly due to political constraints. Until a fully-fledged banking union with well-capitalized backstops is established it may be optimal for a non-euro country to join the banking union upon the euro adoption. Assessing first experiences with the functioning of the banking union and opt-in countries will be crucial for non-euro countries when deciding whether to opt-in.
    Keywords: currency union, lender of last resort, central bank reserves, central bank budget constraint
    JEL: E5 E6
    Date: 2016–10
  13. By: Joseph E. Gagnon; Tamim Bayoumi; Juan M. Londono; Christian Saborowski; Horacio Sapriza
    Abstract: This paper explores the effects of unconventional monetary and exchange rate policies. We find that official foreign asset purchases have large effects on current accounts that diminish as capital mobility rises and spill over to financially integrated countries. There is an additional effect through the stock of central bank assets. Domestic asset purchases have an effect on current accounts only when capital mobility is low. We also find that rising US bond yields drive foreign yields, stock prices and depreciations, but less so on days of policy announcements. We develop a theoretical model that is broadly consistent with our results.
    Date: 2017–03–13
  14. By: Carlo Gola (Bank of Italy); Marco Burroni (Bank of Italy); Francesco Columba (Bank of Italy); Antonio Ilari (Bank of Italy); Giorgio Nuzzo (Bank of Italy); Onofrio Panzarino (Bank of Italy)
    Abstract: Shadow banking is the creation or transfer – by banks and non-bank intermediaries – of bank-like risks outside the banking system. In Italy the shadow banking system is fully regulated, mostly following the principle of same business-same rules or ‘bank-equivalent regulation’. After an overview of the topic, we describe the Italian shadow banking system and the related regulatory and supervisory framework in place before the financial crisis and the subsequent enhancements. A quantitative representation of Italian shadow banking is also provided. The paper argues that through a wide and consistent regulatory perimeter, based on the principle of ‘bank-equivalent regulation’, it is possible to setup a well-balanced prudential framework, where both bank and non-bank regulation contribute to reducing systemic risks and regulatory arbitrage.
    Keywords: shadow banking system, financial stability, macro-prudential regulation, non-bank financial intermediaries, market-based finance
    JEL: E44 E58 G00 G01 G21 G23 G28
    Date: 2017–02
  15. By: Raphael Auer; Andrei A Levchenko; Philip Sauré
    Abstract: We document that observed international input-output linkages contribute substantially to synchronizing producer price inflation (PPI) across countries. Using a multi-country, industry-level dataset that combines information on PPI and exchange rates with international and domestic input-output linkages, we recover the underlying cost shocks that are propagated internationally via the global input-output network, thus generating the observed dynamics of PPI. We then compare the extent to which common global factors account for the variation in actual PPI and in the underlying cost shocks. Our main finding is that across a range of econometric tests, input-output linkages account for half of the global component of PPI inflation. We report three additional findings: (i) the results are similar when allowing for imperfect cost pass-through and demand complementarities; (ii) PPI synchronization across countries is driven primarily by common sectoral shocks and input-output linkages amplify co-movement primarily by propagating sectoral shocks; and (iii) the observed pattern of international input use preserves fat-tailed idiosyncratic shocks and thus leads to a fat-tailed distribution of inflation rates, i.e., periods of disinflation and high inflation.
    Keywords: international inflation synchronization, globalisation, inflation, input linkages, monetary policy, global value chain, production structure, input-output linkages, supply chain
    Date: 2017–04
  16. By: Alessandro Cantelmo; Giovanni Melina
    Abstract: In an estimated two-sector New-Keynesian model with durable and nondurable goods, an inverse relationship between sectoral labor mobility and the optimal weight the central bank should attach to durables inflation arises. The combination of nominal wage stickiness and limited labor mobility leads to a nonzero optimal weight for durables inflation even if durables prices were fully flexible. These results survive alternative calibrations and interestrate rules and point toward a non-negligible role of sectoral labor mobility for the conduct of monetary policy.
    Keywords: Central banks and their policies;Labor mobility;Optimal monetary policy, durable goods, DSGE, Monetary Policy (Targets, Instruments, and Effects)
    Date: 2017–03–06
  17. By: Dzmitry Kruk
    Abstract: Inflation expectations play a crucial role for macroeconomic dynamics and more specifically for monetary environment. However, inflation expectations is an unobservable variable. So, the quality of the correspondent measure in a great extent predetermines its feasibility for macroeconomic analysis. Today, survey-based measures of inflation expectations prevail in macroeconomic analysis. However, the drawbacks and/or unavailability of such measures give a rise to other identification strategies. Extracting inflation expectations from the actual data (e.g. series of interest rate and actual inflation) basing on SVAR identification approach has become a valuable alternative/supplement for measuring inflation expectations. In this paper I show that the existing strategy of inflation expectations identification through SVAR approach is very sensitive to the state of monetary environment. When a monetary environment is unstable (e.g. high and volatile inflation), the assumptions of the baseline approach are not hold, and it produces biased estimations. I emphasize two sources of this bias in estimations and suggest procedure for obtaining unbiased estimates. My identification strategy includes a number of steps. I suggest applying Markov regimeswitching framework for extracting an unbiased mean for ex ante real interest rate. Further, I use two-stage SVAR identification strategy. First, I identify an unexpected shock to actual inflation, which is crucial for obtaining a proper measure of inflation expectations. Further, I net the series of ex post interest rate from this ?noise?. Second, I run a baseline SVAR procedure, for which I use the data adjusted at the first step. Finally I obtain an unbiased and informatively rich series of inflation expectations.
    Keywords: inflation expectations, monetary shock, SVAR identification, Markov regime-switching model, Belarus
    JEL: C22 C32 C82 E43 E47
    Date: 2016–12
  18. By: Byrne, David (Central Bank of Ireland); Kelly, Robert (Central Bank of Ireland); O'Toole, Conor (Central Bank of Ireland)
    Abstract: One channel through which monetary policy can affect loan default in the mortgage market is by altering the affordability of borrower repayments. Quantifying the exact impact of this relationship is complex as it depends on both the structure and passthrough of a given mortgage market. This paper uses a quasi-natural experiment to identify the impact of changes in interest rates on mortgage default. Using a panel of loan level administrative data for Ireland, we deal with selection bias that is inherent in identifying the impact of interest rates by exploiting the variation between two types of adjustable rate mortgage that were offered to Irish borrowers for a particular period in the mid-2000s. We map changes in interest rates to default by quantifying the direct effect through changes in borrower installments. Using a pass-through approach, we find a strong and highly statistically significant impact of interest rates on mortgage default, with a 1 per cent reduction in installment associated with a 5.8 per cent decrease in the likelihood of default over the following year. We also find evidence that negative equity offsets the some of the gains arising from lower policy rates indicating an interaction between monetary policy and asset price shocks in the mortgage market.
    Keywords: Monetary Policy, Mortgage Default
    JEL: E52 E58 G01 G21
    Date: 2017–03

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