nep-cba New Economics Papers
on Central Banking
Issue of 2017‒09‒24
eleven papers chosen by
Maria Semenova
Higher School of Economics

  1. A Central Bank's Optimal Balance Sheet Size? By Goodhart, Charles A
  2. Has inflation targeting anchored inflation expectations? Evidence from Peru By Miguel Saldarriaga; Pablo del Aguila; Kevin Gershy-Damet
  3. Macroprudential policies in a low interest-rate environment. By Fang Yao; Margarita Rubio
  4. Monetary Policy and Digital Currencies: Much Ado about Nothing? By C. Pfister
  5. Transmission of monetary policy and exchange rate shocks under foreign currency lending By Malgorzata Skibinska
  6. Liquidity, Monetary Policy and Unemployment: A New Monetarist Approach By Mei Dong; Sylvia Xiaolin Xiao
  7. The macroprudential policy framework in Colombia By Hernando Vargas; Pamela Cardozo; Andrés Murcia
  8. Optimal Inflation Target: Insights from an Agent-Based Model By Jean-Philippe Bouchaud; Stanislao Gualdi; Marco Tarzia; Francesco Zamponi
  9. How was the Quantitative Easing Program of the 1930s Unwound? By Matthew Jaremski; Gabriel Mathy
  10. How to normalize monetary policy in the Euro area By Beck, Guenter W.; Wieland, Volker
  11. Potential Impact of Financial Innovation on Financial Services and Monetary Policy By Marek Dabrowski

  1. By: Goodhart, Charles A
    Abstract: Unlike other facets of monetary policy renormalisation, there has been little discussion yet of what principles should determine the optimum size of a Central Bank's balance sheet, the end-point to which on-going portfolio reductions should approach. In this note I start by addressing the arguments of those who would leave this balance sheet very large, much as now; and then continue with the counter-arguments, also stressing the nature of the relationships between monetary and fiscal policies, and between the Central Bank and the Treasury's Debt Management Office.
    Keywords: auction risk; Central Bank Balance Sheet; Debt Management; interest rate risk; liquidity; Monetary Policy Renormalisation; QE
    JEL: E50 E52 E63 H63
    Date: 2017–09
  2. By: Miguel Saldarriaga (Central Reserve Bank of Peru); Pablo del Aguila (Central Reserve Bank of Peru); Kevin Gershy-Damet (Central Reserve Bank of Peru)
    Abstract: Inflation expectations play a key role in inflation dynamics and monetary policy effectiveness. Thus, anchoring inflation expectations have become paramount for Central Banks across the world, mainly for inflation-targeting Central Banks. Yet, the evidence that inflation targeting has anchored inflation expectations in all inflation targeting economies is mixed. Although inflation volatility declined after the inflation-targeting regime came into force in most countries, inflation expectations may still be not anchored, and might just exhibit lower dispersion. The Central Bank of Peru conducts a monthly survey among 350 representative firms from the non-financial sector and 45 professional forecasters since 2002. Following Kumar et al. (2015) we evaluate how anchored inflation expectations in Peru are using four measures: (i) closeness to the Central Bank inflation target, (ii) dispersion across agents, (iii) forecast revisions, and (iv) co-movement between long-run inflation expectations and short-run inflation expectations. Although inflation expectations seem to be somehow anchored to the upper limit of the target band, they do not achieve some of the basic properties required under weaker definitions of anchored expectations. This ‘imperfect anchoring’ may seem precarious as any shock can move away inflation expectations from the Central Bank target and can limit monetary policy success.
    Date: 2017–09
  3. By: Fang Yao; Margarita Rubio (Reserve Bank of New Zealand)
    Abstract: In the aftermath of the global financial crisis, a new set of challenges has emerged for macroeconomic policy makers. One of the major changes in the post-crisis environment is a significant and permanent decline in interest rates. In many economies, the short-term nominal interest rate has been close to zero. Monetary policymakers have encountered difficulties in stimulating the economy because the interest rate cannot be lowered any further. Moreover, when interest rates are persistently low, agents tend to engage in speculative investment in assets, such as real estate. Therefore, low interest rates may also contribute to asset price bubbles and excessive leverage, which pose risks to financial stability. One of the policies that has become important after the crisis is the so-called macroprudential policy, aimed at ensuring a more stable financial system. In this paper, we focus on the use of macroprudential policies in an economic environment in which interest rates are low. We argue that, in a low interest-rate environment, the case for using macroprudential policies becomes even stronger. On the one hand, greater financial volatility due to low interest rates calls for macroprudential policies to contain excessive bank lending. On the other hand, macroprudential policy may also complement monetary policy when the interest rate is close to zero and cannot be used to stabilise the economy anymore. We build an economic model for policy evaluation that can take into account that nominal interest rates are subject to a zero lower bound and cannot become negative. We calibrate the model to characteristics of the US economy where the Federal funds rate has been close to zero for 7 years. Within this setting, we find that when the interest rate is persistently low, activity in the financial markets and the wider economy, becomes more volatile. Therefore, we propose macroprudential policy as a candidate to stabilise the economy in this context. On the one hand, we find that in a low interest-rate environment, tighter macroprudential policies can stabilise financial markets. We also find, on the other hand, that macroprudential policies could help monetary policy stimulate the economy when interest rates are close to zero.
    Date: 2017–09
  4. By: C. Pfister
    Abstract: In spite of a still very low volume at the global level, in comparison with the main reserve currencies, digital currencies attract a lot of attention. The paper reminds that it is above all the exchange mechanism incorporated in digital currencies (the distributed ledger technology) which should contribute to their success. It is shown that a widespread use of these currencies is likely to materialize only under conditions that would essentially leave unchanged the capacity of the central bank to pursue the same inflation target using the same instruments as today, by setting an interest rate level. However, some adjustments may have to be made to the definition of monetary aggregates and possibly also to the base and/or the ratios of reserve requirements. Even in the most extreme and unlikely scenario, where the central bank would issue CBDC the public would have access to and massively adopt, banks’ role in distributing credit would likely not be seriously impaired. Banks might rather have less direct information on their clients. They would possibly also become more dependent on central bank refinancing, which would call for a clear and pre-announced lending of last resort policy in order to limit moral hazard considerations.
    Keywords: Digital currencies, Money, Monetary policy.
    JEL: E52 E58
    Date: 2017
  5. By: Malgorzata Skibinska
    Abstract: This paper analyses the di erences in reaction of domestic and foreign currency lending to monetary and exchange rate shocks, using a panel VAR model estimated for three biggest Central and Eastern European countries (Poland, the Czech Republic and Hungary). Our results point toward a drop in domestic currency loans and an increase of foreign currency credit in reaction to monetary policy tightening in Poland and Hungary, suggesting that the presence of foreign currency debt weakens the transmission of monetary policy. A currency depreciation shock leads to an initial decline in foreign currency lending, but also in loans denominated in domestic currency as central banks react to a weaker exchange rate by increasing the interest rates. However, after several quarters, credit in foreign currency accelerates, indicating that borrowers start using it to substitute for depressed domestic currency lending.
    Keywords: foreign currency loans, lending currency structure, monetary policy and exchange rate shocks, CEE countries
    JEL: E44 E52 E58
    Date: 2017–08
  6. By: Mei Dong (Department of Economics, University of Melbourne); Sylvia Xiaolin Xiao (School of Economics, Auckland University of Technology)
    Abstract: We discover a consumption channel of monetary policy in a model with money and government bonds. When the central bank withdraws government bonds (short-term or long-term) through open market operations, it lowers re- turns on bonds. The lower return has a direct negative impact on consumption by households that hold bonds, and an indirect negative impact on consumption by households that hold money. As a result, fi rms earn less pro fits from production, which leads to higher unemployment. The existence of such a consumption channel can help us understand the e¤ects of unconventional monetary policy.
    Keywords: interest rate, monetary policy, consumption, unemployment
    Date: 2017–07
  7. By: Hernando Vargas (Banco de la República de Colombia); Pamela Cardozo (Banco de la República de Colombia); Andrés Murcia (Banco de la República de Colombia)
    Abstract: Macroprudential policy in Colombia is described along with a discussion of the main challenges faced by the authorities in implementing it and a review of episodes in which macroprudential measures were taken. An overview and some estimates of their effectiveness in preventing the buildup of imbalances, increasing buffers and cushioning downswings are presented. Classification JEL: E51, E58, F32, F38, G18, G28.
    Keywords: macroprudential policy, financial stability, financial regulation, financial safety net, central banking, Colombia
    Date: 2017–09
  8. By: Jean-Philippe Bouchaud; Stanislao Gualdi; Marco Tarzia; Francesco Zamponi
    Abstract: Which level of inflation should Central Banks be targeting? We investigate this issue in the context of a simplified Agent Based Model of the economy. Depending on the value of the parameters that describe the micro-behaviour of agents (in particular inflation anticipations), we find a surprisingly rich variety of behaviour at the macro-level. Without any monetary policy, our ABM economy can be in a high inflation/high output state, or in a low inflation/low output state. Hyper-inflation, stagflation, deflation and business cycles are also possible. We then introduce a Central Bank with a Taylor-rule-based inflation target, and study the resulting aggregate variables. Our main result is that too low inflation targets are in general detrimental to a CB-controlled economy. One symptom is a persistent under-realisation of inflation, perhaps similar to the current macroeconomic situation. This predicament is alleviated by higher inflation targets that are found to improve both unemployment and negative interest rate episodes, up to the point where erosion of savings becomes unacceptable. Our results are contrasted with the predictions of the standard DSGE model.
    Date: 2017–09
  9. By: Matthew Jaremski; Gabriel Mathy
    Abstract: Outside of the recent past, excess reserves have only concerned policymakers in one other period: the Great Depression. The data show that excess reserves in the 1930s were never actively unwound through a reduction in the monetary base. Nominal economic growth swelled required reserves while an exogenous reduction in monetary gold inflows due to war embargoes in Europe allowed excess reserves to naturally decline towards zero. Excess reserves fell rapidly in early 1941 and would have unwound fully even without the entry of the United States into World War II. As such, policy tightening was at no point necessary and could have contributed to the 1937-1938 Recession.
    JEL: E32 E58 N12
    Date: 2017–09
  10. By: Beck, Guenter W.; Wieland, Volker
    Abstract: Since 2014 the ECB has implemented a massive expansion of monetary policy including large-scale asset purchases and negative policy rates. As the euro area economy has improved and inflation has risen, questions concerning the future normalization of monetary policy are starting to dominate the public debate. The study argues that the ECB should develop a strategy for policy normalization and communicate it very soon to prepare the ground for subsequent steps towards tightening. It provides analysis and makes proposals concerning key aspects of this strategy. The aim is to facilitate the emergence of expectations among market participants that are consistent with a smooth process of policy normalization.
    Date: 2017
  11. By: Marek Dabrowski
    Abstract: The recent wave of financial innovation, particularly innovation related to the application of information and communication technologies, poses a serious challenge to the financial industry’s business model in both its banking and non-banking components. It has already revolutionised financial services and, most likely, will continue to do so in the future. If not responded to adequately and timely by regulators, it may create new risks to financial stability, as occurred before the global financial crisis of 2007-2009. However, financial innovation will not seriously affect the process of monetary policymaking and is unlikely to undermine the ability of central banks to perform their price stability mission. The recent wave of financial innovation, particularly innovation related to the application of information and communication technologies, poses a serious challenge to the financial industry’s business model in both its banking and non-banking components. It has already revolutionised financial services and, most likely, will continue to do so in the future. If not responded to adequately and timely by regulators, it may create new risks to financial stability, as occurred before the global financial crisis of 2007-2009. However, financial innovation will not seriously affect the process of monetary policymaking and is unlikely to undermine the ability of central banks to perform their price stability mission.
    Keywords: monetary policy, financial innovation, electronic money
    JEL: E41 E44 E51 E52 E58 G21
    Date: 2017–07

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