nep-cba New Economics Papers
on Central Banking
Issue of 2017‒07‒23
fourteen papers chosen by
Maria Semenova
Higher School of Economics

  1. Shocks versus structure: explaining differences in exchange rate pass-through across countries and time By Forbes, Kristin; Hjortsoe, Ida; Nenova, Tsvetelina
  2. The Exchange Rate as an Instrument of Monetary Policy By Heipertz, Jonas; Mihov, Ilian; Santacreu, Ana Maria
  3. Risk Taking Channel of Monetary Policy: A Review of the Evidence and Some Preliminary Results for India By Sarkar Sanjukta; Sensarma Rudra
  4. Macroprudential policy and bank risk By Altunbas, Yener; Binici, Mahir; Gambacorta, Leonardo
  5. Interest-rate pegs, central bank asset purchases and the reversal puzzle By Gerke, Rafael; Giesen, Sebastian; Kienzler, Daniel; Tenhofen, Jörn
  6. The effects of central bank’s verbal guidance: evidence from the ECB By Maddalena Galardo; Cinzia Guerrieri
  7. How Does Monetary Policy Affect Economic Vulnerability to Oil Price Shock as against US Economy Shock? By Razmi, Fatemeh; M., Azali; Chin, Lee; Habibullah, Muzafar Shah
  8. Euro area sovereign yields and the power of QE By António Afonso; Mina Kazemi
  9. In Lands of Foreign Currency Credit, Bank Lending Channels Run Through? By Steven Ongena; Ibolya Schindele; Dzsamila Vonnák
  10. Quantitative Easing and Portfolio Rebalancing: Micro Evidence from Irish Resident Banks By Bergant, Katharina
  11. When the Fed sneezes - Spillovers from U.S. Monetary Policy to Emerging Markets By Annette Meinusch
  12. Updating the Ultimate Forward Rate over Time: A Possible Approach By Diana Zigraiova; Petr Jakubik
  13. Towards Macroprudential Stress Testing; Incorporating Macro-Feedback Effects By Ivo Krznar; Troy D Matheson
  14. Monetary Policy Implementation in a Negative Rate Environment By Michael Boutros; Jonathan Witmer

  1. By: Forbes, Kristin (Bank of England); Hjortsoe, Ida (Bank of England); Nenova, Tsvetelina (Bank of England)
    Abstract: We show that exchange rate pass-through to consumer prices varies not only across countries, but also over time. Previous literature has highlighted the role of an economy’s ‘structure’ — such as its inflation volatility, inflation rate, use of foreign currency invoicing, and openness — in explaining these variations in pass-through. We use a sample of 26 advanced and emerging economies to show which of these structural variables are significant in explaining not only differences in pass-through across countries, but also over time. The ‘shocks’ leading to exchange rate movements can also explain variations in pass‑through over time. For example, exchange rate movements caused by monetary policy shocks consistently correspond to significantly higher estimates of pass-through than those caused by demand shocks. The role of ‘shocks’ in driving pass-through over time can be as large as that of structural variables, and even larger for some countries. As a result, forecasts predicting how a given exchange rate movement will impact inflation at a specific point in time should take into account not just an economy’s ‘structure’, but also the ‘shocks’.
    Keywords: Pass-through; exchange rate; price level; inflation; monetary policy
    JEL: E31 E37 E52 F47
    Date: 2017–07–10
  2. By: Heipertz, Jonas; Mihov, Ilian; Santacreu, Ana Maria
    Abstract: Most of the theoretical research in small open economies has typically focused on corner solutions regarding the exchange rate: either the currency rate is fixed by the central bank or it is left to be freely determined by market forces. We build an open-economy model with external habits in consumption to study the properties of a new class of monetary policy rules, in which the exchange rate serves as the instrument for stabilizing business cycle fluctuations. Instead of using a short-term interest rate, the monetary authority announces a path for currency appreciation or depreciation as a reaction to fluctuations in inflation and the output gap. We find that, under a wide range of modeling assumptions, the exchange rate rule outperforms a standard Taylor rule in terms of stabilizing both output and inflation. The reduction in volatility is more pronounced for more open economies and for economies with lower sensitivity to movements in the interest rate. We show that differences between the two rules are driven by two key factors: (i) paths of the nominal exchange rate and the interest rate under each rule, and (ii) the time variation in the risk premium, which leads to deviations from uncovered interest parity.
    Keywords: Exchange rate management; External habit; monetary policy rules; Risk premium
    JEL: E52 F31 F41
    Date: 2017–07
  3. By: Sarkar Sanjukta (Indian Institute of Management Kozhikode); Sensarma Rudra (Indian Institute of Management Kozhikode)
    Abstract: Some recent papers have studied the link between the stance of monetary policy and the risktaking behavior of banks. Loose monetary policy can encourage banks to reach for yield, which will increase their share of risky assets and also induces banks to take more risks on account of a rise in asset values. On the funding side, loose monetary policy increases incentives to use more short term funding. This paper provides a comprehensive review of the evidence on the risk taking channel of monetary transmission and empirically examines the existence of the risk taking channel in Indian banking. The paper’s novelty also lies in the fact that it incorporates the role of ownership and empirically tests the response of banks in terms of a wide array of risks,i.e., asset, default and market risks in the face of easy and tight monetary stances adopted by the central bank.
    Keywords: Banks, Risk, Monetary Policy
    Date: 2017–05
  4. By: Altunbas, Yener; Binici, Mahir; Gambacorta, Leonardo
    Abstract: This paper investigates the effects of macroprudential policies on bank risk through a large panel of banks operating in 61 advanced and emerging market economies. There are three main findings. First, there is evidence suggesting that macroprudential tools have a significant impact on bank risk. Second, the responses to changes in macroprudential tools differ among banks, depending on their specific balance sheet characteristics. In particular, banks that are small, weakly capitalised and with a higher share of wholesale funding react more strongly to changes in macroprudential tools. Third, controlling for bank-specific characteristics, macroprudential policies are more effective in a tightening than in an easing episode.
    Keywords: bank risk; effectiveness; macroprudential policies
    JEL: E43 E58 G18 G28
    Date: 2017–07
  5. By: Gerke, Rafael; Giesen, Sebastian; Kienzler, Daniel; Tenhofen, Jörn
    Abstract: We analyze the macroeconomic implications of a transient interest-rate peg in combination with a QE program in a non-linear medium-scale DSGE model. In this context, we re-examine what has become known as the reversal puzzle (Carlstrom, Fuerst and Paustian, 2015) and provide an analytical explanation for its appearance. We show that the puzzle is intimately related with agents' expectations. If, for instance, agents do not anticipate the peg, the reversal does not appear. The same is true if agents' inflation expectations are influenced by a monetary authority which follows a price-level-targeting rule instead of a standard Taylor rule. In this case, sign reversals do not occur even for very long durations of pegged nominal interest rates.
    Keywords: Unconventional Monetary Policy,Interest-Rate Peg,Perfect Foresight,Reversal Puzzle,Price-Level Targeting
    JEL: E32 E44 E52 E61
    Date: 2017
  6. By: Maddalena Galardo (Bank of Italy); Cinzia Guerrieri (LUISS Guido Carli)
    Abstract: In this paper we propose a new indicator of central bank’s verbal guidance, which measures communications about the future based on the frequency of future verbs in monetary policy statements. We consider the press conferences of the European Central Bank as a test case. First, we analyze the main determinants of our index and estimate the unexpected component. Second, we investigate the effects of the identified change in verbal guidance on daily movements in forward money market rates between September 2007 and December 2015. Our results show that financial markets’ expectations on future short-term interest rates react to a communication shock about the future: after controlling for the standard policy rate shock and the announcement of unconventional monetary policies, the effect turns out to be negative and larger for longer horizons. This suggests that verbal guidance has proven to be an effective policy instrument for signalling an accommodative monetary policy stance.
    Keywords: central bank communication, textual analysis, European Central Bank, signalling channel, unconventional monetary policy, event-study analysis
    JEL: E43 E44 E52 E58 E61 G14
    Date: 2017–07
  7. By: Razmi, Fatemeh; M., Azali; Chin, Lee; Habibullah, Muzafar Shah
    Abstract: This paper investigates the role of the monetary policy in protecting the economy against the external shocks of US output and oil price during the 2007-2009 fnancial crisis. It also considers economic vulnerability caused by these external shocks after the crisis abated. The application of the structural vector auto regression model using monthly data from 2002:M1 to 2013:M4 for Indonesia, Malaysia, and Thailand shows that poor influence of monetary policies on monetary policy transmission channels (namely, interest rate, exchange rate, domestic credit, and stock price) in the pre-crisis period could not shield these economies from shocks of oil price and US output. The results of post-crisis period indicate a signifcant increase in the positive impact of monetary policy on channels of monetary transmission channels compared to the pre-crisis period. However, these economies continue to remain vulnerable to oil price shocks.
    Keywords: Monetary Transmission, Global Financial Crisis, Monetary Policy, Domestic Credit, Stock Price, Exchange Rate, Interest Rate, Oil Price Shock, US Economy
    JEL: E00 E4 E44 E49 Z0
    Date: 2017
  8. By: António Afonso; Mina Kazemi
    Abstract: We assess the determinants of long-term sovereign yield spreads using a panel of 10 Euro area countries over the period 1999.01–2016.07 notably regarding the ECB (standard and non-standard) quantitative easing measures. Our findings indicate that the international risk, the bid-ask spread and real effective exchange rate increased the 10-year sovereign bond yield spreads. Moreover, quantitative easing, notably Longer-term Refinancing Operations (LTROs), Targeted LTROs and the Securities Market Program decreased the yield spreads. Key Words: sovereign bonds, non-conventional monetary policy, panel data
    JEL: C23 E52 G10
    Date: 2017–06
  9. By: Steven Ongena (University of Lousanne); Ibolya Schindele (Magyar Nemzeti Bank (Central Bank of Hungary)); Dzsamila Vonnák (Magyar Nemzeti Bank (Central Bank of Hungary))
    Abstract: We study the impact of monetary policy on the supply of bank credit when bank lending is also denominated in foreign currencies. Accessing a comprehensive supervisory dataset from Hungary, we find that the supply of bank credit in a foreign currency is less sensitive to changes in domestic monetary conditions than the equivalent supply in the domestic currency. Changes in foreign monetary conditions similarly affect bank lending more in the foreign than in the domestic currency. Hence when banks lend in multiple currencies the domestic bank lending channel is weakened and international bank lending channels become operational.
    Keywords: Bank balance-sheet channel, monetary policy, foreign currency lending
    JEL: E51 F3 G21
    Date: 2017
  10. By: Bergant, Katharina (Central Bank of Ireland)
    Abstract: This Economic Letter examines whether the portfolio rebalancing channel has been effective for Irish resident banks after the introduction of the ongoing Extended Asset Purchasing Programme (EAPP) initiated by the European Central Bank (ECB) in March 2015. Using a unique security level dataset on the programme’s purchases and banks’ holdings, I find that banks did not change purchasing trends regarding securities eligible to be bought under the EAPP. This is consistent with the hypothesis about exogenous constraints that might limit the pass-through of asset purchases to the real economy through the banking system.
    Date: 2017–06
  11. By: Annette Meinusch (Justus-Liebig-University Giessen)
    Abstract: This paper aims to shed light on the role mean and volatility spillovers of U.S. monetary policy played for asset markets of several emerging market economies in a period from January 2000 to October 2014. We employ multivariate GARCH models in which we distinguish between a conventional and an unconventional monetary policy phase to account for possible heterogeneity in spillover e ects. Our results suggest that the anticipation of loose U.S. monetary policy has diverse effects across monetary policy regimes. While spillovers have little impact on equity returns, they put pressure on local currencies. However, they increase conditional volatilities of both stock and exchange rate returns considerably in most emerging economies within the conventional monetary policy period. These effects can be stronger during unconventional monetary policy times. In accordance with these findings, we observe a tighter link between U.S. monetary policy and foreign asset markets during the unconventional monetary policy phase. Volatility impulse responses show that conditional volatilities of foreign asset markets mainly decrease in response to historical shocks. Particularly during unconventional monetary policy times, U.S. shocks gain importance in explaining the change in conditional volatilities especially fr countries with less geographical distance to the United States.
    Keywords: emerging markets, monetary policy spillovers, multivariate GARCH, unconventional monetary policy, quantitative easing
    JEL: E43 E44 E52
    Date: 2017
  12. By: Diana Zigraiova; Petr Jakubik
    Abstract: This study proposes a potential methodological approach to be used by regulators when updating the Ultimate Forward Rate (UFR) for the evaluation of insurers' liabilities beyond the last liquid point observable in the market. Our approach is based on the optimisation of two contradictory aspects - stability and accuracy implied by economic fundamentals. We use U.S. Treasury term structure data over the period 1985-2015 to calibrate an algorithm that dynamically revises the UFR based on the distance between the value implied by the long-term growth of economic fundamentals in a given year and the regulatory value of the UFR valid in the prior year. We employ both the Nelson-Siegel and Svensson models to extrapolate yields over maturities of 21-30 years employing the selected value of the UFR and compare them with the observed yields using the mean square error statistic. Furthermore, we optimise the parameters of the proposed UFR formula by minimising the defined loss function capturing both mentioned factors.
    Keywords: Extrapolation, Nelson-Siegel, Svensson, term structure of interest rates, Ultimate Forward Rate
    JEL: E43 G22 L51 M2
    Date: 2017–06
  13. By: Ivo Krznar; Troy D Matheson
    Abstract: Macro-feedback effects have been identified as a key missing element for more effective macro-prudential stress testing. To fill this gap, this paper develops a framework that facilitates the analysis of both the direct effects of macroeconomic shocks on the solvency of individual banks and feedback effects that allow for the amplification and propagation of shocks that can result from bank deleveraging and credit crunches. The framework ensures consistency in the key relationships between macroeconomic and financial variables, and banks’ balance sheets. This is accomplished by embedding a standard stress-testing framework based on individual banks’ data in a semi-structural macroeconomic model. The framework has numerous applications that can strengthen stress testing and macro financial analysis. Moreover, it provides an avenue for many extensions that address the challenges of incorporating other second-round effects important for comprehensive systemic risk analysis, such as interactions between solvency, liquidity and contagion risks. To this end, the paper presents some preliminary simulations of feedback effects arising from the link between the liquidity and solvency risk.
    Date: 2017–06–30
  14. By: Michael Boutros; Jonathan Witmer
    Abstract: Monetary policy implementation could, in theory, be constrained by deeply negative rates since overnight market participants may have an incentive to invest in cash rather than lend to other participants. To understand the functioning of overnight markets in such an environment, we add the option to exchange central bank reserves for cash to the standard workhorse model of monetary policy implementation (Poole 1968). Importantly, we show that monetary policy is not constrained when just the deposit rate is below the yield on cash. However, it could be constrained when the target overnight rate is below the yield on cash. At this point, the overnight rate equals the yield on cash instead of the target rate. Modifications to the implementation framework, such as a tiered remuneration of central bank deposits contingent on cash withdrawals, can work to restore the implementation of monetary policy such that the overnight rate equals the target rate.
    Keywords: Interest rates, Monetary policy framework, Monetary policy implementation
    JEL: E4 E40 E42 E43 G G0
    Date: 2017

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