nep-cba New Economics Papers
on Central Banking
Issue of 2017‒06‒25
fifteen papers chosen by
Maria Semenova
Higher School of Economics

  1. Unpleasant monetarist arithmetic: Macroprudential edition By Jan Libich
  2. Understanding Monetary Policy Stance By Rasa Stasiukynaitë
  3. The macroeconomic impact of the ECB's expanded asset purchase programme (APP) By Gambetti, Luca; Musso, Alberto
  4. Unconventional Monetary Policy: Interest Rates and Low Inflation. A Review of Literature and Methods By Mariarosaria Comunale; Jonas Striaukas
  5. U.K. Monetary Policy under Inflation Targeting By Anh Dinh Minh Nguyen
  6. Monetary Policy under Behavioral Expectations: Theory and Experiment By Cars Hommes; Domenico Massaro; Matthias Weber
  7. A trendy approach to UK inflation dynamics By Forbes, Kristin; Kirkham, Lewis; Theodoridis, Konstantinos
  8. Uncertainty and the Real Effects of Monetary Policy Shocks in the Euro Area By Giovanni Pellegrino
  9. Fiscal- Monetary Interdependence and Exchange Rate Regimes in Oil Dependent Arab Economies By Ibrahim Elbadawi; Mohamed Goaied; Moez Ben Tahar
  10. Monetary Policy, Financial Frictions and Structural Changes: A Markov-Switching DSGE Approach By Francis Leni Anguyo; Rangan Gupta; Kevin Kotzé
  11. Financial re-regulation since the global crisis?: An index-based assessment By Oliver Denk; Gabriel Gomes
  12. Heterogeneity of Bank Risk Weights in the EU; Evidence by Asset Class and Country of Counterparty Exposure By Rima Turk-Ariss
  13. Finance, farms, and the Fed's early years By Bruce Carlin; William Mann
  14. Disagreement in inflation forecasts and inflation risk premia in Brazil By Doi, Jonas Takayuki; Fernandes, Marcelo; Nunes, Clemens V. de Azevedo
  15. Monetary Aggregates and Monetary Policy in Peru By Lahura, Erick

  1. By: Jan Libich
    Abstract: The 2008 crisis highlighted the linkages between the financial sector and the real economy, as well as between the corresponding stabilization policies: macroprudential and monetary (M&Ms). Our game-theoretic analysis focuses on the increasingly adopted separation setup, in which M&Ms are conducted by two different institutions (e.g. in Australia, Canada, Eurozone, Sweden, Switzerland and the United States). We show that separated policy M&Ms are not as sweet as their chocolate counterparts, in fact they may turn sour. The main reason is that a strategic conflict is likely to arise between the autonomous prudential authority and the central bank in addressing exuberant credit booms, such as those during 1998-2000, 2003-2006 and 2011-2016. In this conflict - that manifests as the Game of Chicken under some parameter values - each institution prefers a different policy regime. In particular, both the prudential authority and the central bank prefer to do nothing about the credit boom and induce the other institution to respond instead; arguably the case of Sweden, Norway and other countries post- 2010. To allow for richer strategic interactions, we postulate the concept of Stochastic leadership, which generalizes Stackelberg leadership and simultaneous move game by allowing for Calvo-type probabilistic revisions of policy actions. We show that the most likely outcomes are Policy Deadlock, Regime Switching and Macroprudential Dominance, but all three are socially undesirable. This is not only because of excessive financial and economic cycles, but also because monetary policy coerced into leaning against the wind loses full control over price inflation. The separation setup of M&Ms is thus subject to a macroprudential version of unpleasant monetarist arithmetic.
    Keywords: Macroprudential policy, monetary policy, strategic interactions, Game of Chicken, financial stability, exuberant credit, leaning against the wind, unpleasant monetarist arithmetic.
    JEL: E61 G28
    Date: 2017–06
  2. By: Rasa Stasiukynaitë (Bank of Lithuania)
    Abstract: The paper discusses monetary policy stance assessment in times of both conventional and unconventional monetary policy. Prior to the financial crisis, many central banks had one primary target and one instrument, the short-term rate. Over the years there was a consensus that the rule-of-thumb characterization known as the Taylor rule could broadly outline the policy and supplement discretionary policy. In the post-crisis period, one instrument was no longer sufficient and unconventional measures, such as large-scale asset purchases and forward guidance, were put in the policy makers' agendas. Therefore, assessing the impact of the implemented unconventional measures and understanding the overall monetary policy stance in traditional ways no longer suffices, while finding new suitable ways is not an easy task. The shadow rate literature is able to circumvent the lower bound constraint and incorporate the monetary policy accommodation provided by the asset purchase programmes. However, application of the shadow rate estimates, in order to assess monetary policy stance, has to be done with caution since the estimates lack robustness.
    Keywords: monetary policy stance, Taylor rule, equilibrium real rate of interest, unconventional monetary policy, shadow rates
    Date: 2017–03–24
  3. By: Gambetti, Luca; Musso, Alberto
    Abstract: This paper provides empirical evidence on the macroeconomic impact of the expanded asset purchase programme APP) announced by the European Central Bank (ECB) in January 2015. The shock associated to the APP is identified with a combination of sign, timing and magnitude restrictions in the context of an estimated time-varying parameter VAR model with stochastic volatility. The evidence suggests that the APP had a significant upward effect on both real GDP and HICP inflation in the euro area during the first two years. The effect on real GDP appears to be stronger in the short term, while that on HICP inflation seems more marked in the medium term. Moreover, several channels of transmission appear to have been activated, including the portfolio rebalancing channel, the exchange rate channel, the inflation re-anchoring channel and the credit channel. JEL Classification: C32, E44, E52, E58
    Keywords: asset purchase programme, euro area, quantitative easing, time-varying VAR
    Date: 2017–06
  4. By: Mariarosaria Comunale (Bank of Lithuania); Jonas Striaukas (Bank of Lithuania)
    Abstract: In this paper we provide an overview of the different approaches identified to capture monetary policy in a period of Zero Lower Bound (ZLB). We focus here on the methods closely linked to interest rates, which include: spreads, synthetic indices from principal component analysis and different shadow rates. In the second section of this review we calculate these measures for the euro area and also draw comparisons among different approaches and look at the effects on main macroeconomic variables, with a special focus on inflation. The impact of unconventional monetary policy shocks on inflation is found to be significantly positive by the majority of the studies and by using different methods. Ultimately, we provide a summary of the literature on the Natural Real Rate of Interest, which may be useful for assessing how long low (real) interest rates in a ZLB may stay in place; also suggesting some possible improvement in the estimations which would lead to more accurate policy recommendations.
    Keywords: Unconventional monetary policy, zero lower bound, shadow rates, natural interest rate, inflation
    JEL: E43 E52 E58 F42
    Date: 2017–02–24
  5. By: Anh Dinh Minh Nguyen (Bank of Lithuania)
    Abstract: This paper considers a variety of reaction functions in the context of real time data to analyse U.K. monetary policy under inflation targeting adopted in 1992. In order to deal with lack of current and future data in real time, we construct the forecasts of expected variables in the first step and use the constructed data for the estimations of contemporaneous- and forward-looking rules. Moreover, we employ the impulse-indicator saturation method to deal with the issue of outliers and therefore obtain robust estimates of policy parameters. Our results show that the robust characteristics of monetary policy during the inflation targeting regime are forward-looking and raising the interest rate by more than one-to-one to movements in inflation, thereby satisfying the Taylor principle.
    Keywords: Real-time data, Taylor rule, Forecasting, Impulse indicator saturation, Autometrics
    JEL: C22 C52 C53 E52 E58
    Date: 2017–03–02
  6. By: Cars Hommes (Amsterdam School of Economics (University of Amsterdam) & Tinbergen Institute); Domenico Massaro (Universit? Cattolica del Sacro Cuore & Complexity Lab in Economics); Matthias Weber (Bank of Lithuania & Faculty of Economics, Vilnius University)
    Abstract: Expectations play a crucial role in modern macroeconomic models. We consider a New Keynesian framework under rational expectations and under a behavioral model of expectation formation. We show how the economy behaves in the alternative scenarios with a focus on inflation volatility. Contrary to the rational model, the behavioral model predicts that inflation volatility can be lowered if the central bank reacts to the output gap in addition to inflation. We test the opposing theoretical predictions in a learning-to-forecast experiment. The results support the behavioral model and the claim that output stabilization can lead to less volatile inflation.
    Keywords: Experimental macroeconomics; Heterogeneous expectations; LtFE; Tradeoff inflation and output gap
    JEL: C90 E03 E52 D84
    Date: 2017–03–30
  7. By: Forbes, Kristin (MIT-Sloan School of Management, Bank of England and NBER); Kirkham, Lewis (Monetary Policy Committee Unit, Bank of England); Theodoridis, Konstantinos (Monetary Policy Committee Unit, Bank of England)
    Abstract: This paper uses a ‘trendy’ approach to understand UK inflation dynamics. It focuses on the time series to isolate a low-frequency and slow-moving component of inflation (the trend) from deviations around this trend. We find that this slow-moving trend explains a substantial share of UK inflation dynamics. International prices are significantly correlated with the short-term cyclical movements in inflation around its trend, and the exchange rate is significantly correlated with movements in the slow-moving, persistent trend. Other variables emphasized in standard inflation models — such as slack and inflation expectations — may also play some role, but their significance varies and the magnitude of their effects is substantially smaller than for commodity prices and the exchange rate. These results highlight the sensitivity of UK inflation dynamics to events in the rest of the world. They also provide guidance on when deviations of inflation from target are more likely to be temporary, and when (and how quickly) a monetary policy response is appropriate.
    Keywords: UK; inflation; UCSV; exchange rate; slack; inflation expectations; monetary policy
    JEL: E31
    Date: 2017–06–16
  8. By: Giovanni Pellegrino (Melbourne Institute of Applied Economic and Social Research, The University of Melbourne)
    Abstract: This paper estimates a nonlinear Interacted-VAR model to investigate whether the effectiveness of monetary policy shocks in the Euro area is influenced by the level of European uncertainty. Generalized Impulse Response Functions à la Koop et al. (1996) suggest that the peak and cumulative effects of monetary policy shocks are lower during uncertain times than during tranquil times, and significantly so once times of very high and very low uncertainty are considered.
    Keywords: Monetary policy shocks, Non-Linear Structural Vector Auto-Regressions, Interacted-VAR, Generalized Impulse Response Functions, uncertainty
    JEL: C32 E32 E52
    Date: 2017–06
  9. By: Ibrahim Elbadawi; Mohamed Goaied (IHEC Carthage); Moez Ben Tahar
    Abstract: This paper contributes to the literature on the interdependence between fiscal and monetary policies in resource-dependent economies. In the context of this general theme we analyze the fiscal foundation of the choice of monetary regimes and the extent of pro-cyclicality of fiscal policy during the post mid-1990s oil boom in the relatively under-research oil-dependent Arab economies. We find preliminary evidence on the existence of a threshold effect for oil rents per capita, below which countries tend to be subject to fiscal dominance and pro-cyclical fiscal policy. This might explain the country experiences of low rents per capita and relatively populous Sudan and Yemen, compared to the GCC member countries of Oman, Saudi Arabia, the UAE as well as Algeria. The latter managed to sustain credible de facto pegged exchange rate regimes and convertible currencies (for the GCC) or graduate to flexible regime (for Algeria). Instead, the former had to abandon their pegged regimes as a result of their unsuccessful exchange rate-based stabilization programs. However, the contrast with resource-dependent Chile and Norway suggests that for the Arab oil economies to accommodate future oil busts they need to establish explicit fiscal rules and high technical capabilities for conducting monetary policy.
    Date: 2017–06–07
  10. By: Francis Leni Anguyo (School of Economics, University of Cape Town, Rondebosch, South Africa); Rangan Gupta (Department of Economics, University of Pretoria, Pretoria, South Africa and IPAG Business School, Paris, France); Kevin Kotzé (School of Economics, University of Cape Town, Rondebosch, South Africa)
    Abstract: This paper considers the use of regime-switching dynamic stochastic general equilibrium models for monetary policy analysis and forecasting purposes. The model incorporates financial frictions that are introduced through the activities of heterogeneous agents in the household and several other features that are incorporated in most small open-economy models. Two variants of regime-switching models are considered: one includes switching in the monetary policy rule (only) and the other employs switching in both the monetary policy rule and the volatility of the shocks. The models are applied to the quarterly macroeconomic data for Uganda and most of the parameters are estimated with the aid of Bayesian techniques. The results of the extensive in- and out-of-sample evaluation suggest that the model parameters do not remain constant over the two regimes. In addition, the transition probabilities suggest that the nature of the regime-switching is consistent with the existence of isolated pulse effects that relate to significant shocks which affected the Ugandan economy, rather than level shifts in the central bank policy rule. It is also noted that the forecasting performance of the regime-switching models is possibly superior to the model that excludes these features.
    Keywords: Monetary policy, inflation-targeting, financial frictions, small open-economy, low income country, dynamic stochastic general equilibrium model, Bayesian estimation.
    JEL: E32 E52 F41
    Date: 2017–06
  11. By: Oliver Denk; Gabriel Gomes
    Abstract: Domestic and international capital markets had been liberalised for decades until the mid-2000s. Then the global financial crisis struck. How has policy responded since the crisis: with re-regulation or continued liberalisation? This paper assembles a new dataset on financial policy from 2006 to 2015, by extending the International Monetary Fund’s index compiled by Abiad, Detragiache and Tressel (2010), the most widely used measure of financial reforms in cross-country empirical research. The data show that ownership and supervision are the two areas of financial policy which have changed most visibly. Bank recapitalisations have increased government ownership of banks, and reforms have strengthened prudential regulation and bank supervision. Finance continues to be substantially less liberalised in emerging market economies than in advanced countries. The new dataset is available for use by other empirical researchers.
    Keywords: bank supervision, Financial liberalisation, financial regulation
    JEL: G18 G28 N20
    Date: 2017–06–23
  12. By: Rima Turk-Ariss
    Abstract: Concerns about excessive variability in bank risk weights have prompted their review by regulators. This paper provides prima facie evidence on the extent of risk weight heterogeneity across broad asset classes and by country of counterparty for major banks in the European Union using internal models. It also finds that corporate risk weights are sensitive to the riskiness of an average representative firm, but not to a market indicator of a firm’s probablity of default. Under plausible yet severe hypothetical scenarios for harmonized risk weights, counterfactual capital ratios would decline significantly for some banks, but they would not experience a shortfall relative to Basel III’s minimum requirements. This, however, does not preclude falling short of meeting additional national supervisory capital requirements.
    Date: 2017–06–09
  13. By: Bruce Carlin; William Mann
    Abstract: We provide causal evidence that discount rate changes by the Federal Reserve affected economic output in the 1920s. Our identification strategy exploits county-level variation in access to the Fed's discount window, and we implement this strategy with hand-collected data on banking and agriculture in Illinois in the early 20th century. The mechanism for the Fed's effect on agriculture was a bank credit channel, operating independently of any deflationary effect on money supply. Our findings suggest that the Fed deliberately managed transitory shocks during 1920-1921, mitigating debt burdens with which farms would struggle in the years leading to the Great Depression.
    JEL: B26 G21 G28
    Date: 2017–06
  14. By: Doi, Jonas Takayuki; Fernandes, Marcelo; Nunes, Clemens V. de Azevedo
    Abstract: The aim of this study is to investigate the link between the inflation risk premia implied by the term structures of nominal and real interest rates in Brazil and disagreements in inflation forecasts. We gauge the former by the difference between the breakeven inflation rate and agents’ inflation median expectations in the Focus Survey published by the Central Bank of Brazil. To proxy for disagreement, we employ the standard deviation of the 12-month inflation expectations in the Focus Survey. We first estimate the impact of disagreement on inflation risk premia across different horizons using a VAR approach. We find that shocks in inflation forecast disagreement significantly affect the 9-, 12-, 24- and 36-month inflation risk premia. The impact is positive, increasing with maturity at least up to 12 months. We then estimate an alternative VAR specification that summarizes the term structure of inflarion risk premia by means of level, slope and curvature factors. It turns out that shocks in disagreement do not affect the slope and curvature factors, resulting only in parallel shifts in the inflation premium term structure. This is in line with the fact that the higher the dispersion in inflation expectations, the higher is the compensation that investors will require to hold fixed rate bonds.
    Date: 2017–06–13
  15. By: Lahura, Erick (Banco Central de Reserva del Perú)
    Abstract: This paper investigates empirically the usefulness of monetary aggregates as information variables in the conduct of monetary policy. For this purpose, some recent advances on the topic were used, which include the analysis of both real-time and revised final data, and the application of Bayesian model averaging to allow for model uncertainty regarding the lag length and number of cointegrating relationships. In this paper, money is considered as an information variable for Wt (e.g. output or prices) if the following two criteria are satisfied: (i) Mt is strongly exogenous, and (ii) Mt Granger-causes Wt. Strong exogeneity is relevant because it validates conditional forecasting of Wt using monetary aggregates as conditioning variables. The results show no strong evidence supporting the usefulness of monetary aggregates as information variables for prices or output. However, this does not preclude their potential use as information variables for other macroeconomic targets such as financial stability. It is worth mentioning that the results do not imply that monetary policy in Peru is not useful.
    Keywords: Bayesian Model Averaging, cointegration, Granger causality, monetary aggregates, monetary policy, real-time data, strong exogeneity
    JEL: C32 E52 E58
    Date: 2017–06

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