nep-cba New Economics Papers
on Central Banking
Issue of 2018‒10‒01
seventeen papers chosen by
Sergey E. Pekarski
Higher School of Economics

  1. The Costs of Macroprudential Policy By Björn Richter; Moritz Schularick; Ilhyock Shim
  2. Monetary Policy and Long-Run Systemic Risk-Taking By Gilbert Colletaz; Grégory Levieuge; Alexandra Popescu
  3. Interest rate rules under financial dominance By Lewis, Vivien; Roth, Markus
  4. Preferential treatment of government bonds in liquidity regulation: Implications for bank behaviour and financial stability By Neyer, Ulrike; Sterzel, André
  5. The boundaries of central bank independence: Lessons from unconventional times By Orphanides, Athanasios
  6. The role of central bank knowledge and trust for the public's inflation expectations By Mellina, Sathya; Schmidt, Tobias
  7. Estimation of effects of recent macroprudential policies in a sample of advanced open economies By Nymoen, Ragnar; Pedersen, Kari; Sjåberg, Jon Ivar
  8. Did the Basel process of capital regulation enhance the resiliency of European Banks? By Gehrig, Thomas; Iannino, Maria Chiara
  9. Estimating the Effective Lower Bound for the Czech National Bank’s Policy Rate By Dominika Kolcunova; Tomas Havranek
  10. Measuring the Signaling Effect of the ECB’s Asset Purchase Programme at the Effective Lower Bound By Zhou, Siwen
  11. The political economy of reforms in central bank design: evidence from a new dataset By Davide Romelli
  12. Political Stabilization by an independent Central Bank By Francesco Salsano
  13. The Indeterminacy of Determinacy with Fiscal, Macro-prudential or Taylor Rules By Jean-Bernard Chatelain; Kirsten Ralf
  14. Prudential Liquidity Regulation in Banking—A Literature Review By Adi Mordel
  15. Should Bank Capital Regulation Be Risk Sensitive? By Toni Ahnert; James Chapman; Carolyn Wilkins
  16. Discouraging Deviant Behavior in Monetary Economics By Lawrence Christiano; Yuta Takahashi
  17. A Neoclassical Theory of Liquidity Traps By Sebastian Di Tella

  1. By: Björn Richter; Moritz Schularick; Ilhyock Shim
    Abstract: Central banks increasingly rely on macroprudential measures to manage the financial cycle. However, the effects of such policies on the core objectives of monetary policy to stabilise output and inflation are largely unknown. In this paper, we quantify the effects of changes in maximum loan-to-value (LTV) ratios on output and inflation. We rely on a narrative identification approach based on detailed reading of policy-makers’ objectives when implementing the measures. We find that over a four year horizon, a 10 percentage point decrease in the maximum LTV ratio leads to a 1.1% reduction in output. As a rule of thumb, the impact of a 10 percentage point LTV tightening can be viewed as roughly comparable to that of a 25 basis point increase in the policy rate. However, the effects are imprecisely estimated and the effect is only present in emerging market economies. We also find that tightening LTV limits has larger economic effects than loosening them. At the same time, we show that changes in maximum LTV ratios have substantial effects on credit and house price growth. Using inverse propensity weights to rerandomise LTV actions, we show that these effects are likely causal.
    JEL: E58 G28
    Date: 2018–09
  2. By: Gilbert Colletaz; Grégory Levieuge; Alexandra Popescu
    Abstract: As an extension to the literature on the risk-taking channel of monetary policy, this paper studies the existence of a systemic risk-taking channel (SRTC) in the Eurozone, through an original macroeconomic perspective based on causality measures. Because the SRTC is effective after an “incubation period”, we make a distinction between short and long-term causality, following the methodology proposed by Dufour and Taamouti (2010). We find that causality from monetary policy to systemic risk, while not significant in the very short term, robustly represents 75 to 100% of the total dependence between the two variables in the long run. Reverse causality is rejected: systemic risk did not influence the policy of the European Central Bank before the global financial crisis. However, central banks must be aware that a too loose monetary policy stance may be conducive to a build-up of systemic risk.
    Keywords: Monetary Policy, Systemic Risk-Taking, Long Run Causality, SRisk.
    JEL: E52 E58 G21
    Date: 2018
  3. By: Lewis, Vivien; Roth, Markus
    Abstract: We study the equilibrium properties of a business cycle model with financial frictions and price adjustment costs. Capital-constrained entrepreneurs finance risky projects by borrowing from banks. Banks, in turn, make loans using equity and deposits. Because financial contracts are not contingent on aggregate risk, bank balance sheets are hit when entrepreneurial defaults are higher than expected. Macroprudential policy imposes a positive response of the bank capital ratio to lending. Our main result is that the Taylor Principle is violated when this response is too weak. Then macroprudential policy is ineffective in stabilizing debt and monetary policy is subject to 'financial dominance'. A too aggressive response of the interest rate to inflation can lead to debt disinflation dynamics that destabilize the financial sector.
    Keywords: bank capital,financial dominance,interest rate rule,macroprudential policy,Taylor Principle
    JEL: E32 E44 E52 E58 E61
    Date: 2018
  4. By: Neyer, Ulrike; Sterzel, André
    Abstract: This paper analyses the impact of different treatments of government bonds in bank liquidity regulation on financial stability. Using a theoretical model, we show that a sudden increase in sovereign default risk may lead to liquidity issues in the banking sector, implying the insolvency of a significant number of banks. Liquidity requirements do not contribute to a more resilient banking sector in the case of sovereign distress. However, the central bank acting as a lender of last resort can prevent illiquid banks from going bankrupt. Then, introducing liquidity requirements in general and repealing the preferential treatment of government bonds in liquidity regulation in particular actually undermines financial stability. The driving force is a regulation-induced change in bank investment behaviour.
    Keywords: bank liquidity regulation,government bonds,sovereign risk,financial contagion,lender of last resort
    JEL: G28 G21 G01
    Date: 2018
  5. By: Orphanides, Athanasios
    Abstract: What institutional arrangements for an independent central bank with a price stability mandate promote good policy outcomes when unconventional policies become necessary? Unconventional monetary policy poses challenges. The large scale asset purchases needed to counteract the zero lower bound on nominal interest rates have uncomfortable fiscal and distributional consequences and require central banks to assume greater risks on their balance sheets. Lack of clarity on the precise definition of price stability, coupled with concerns about the legitimacy of large balance sheet expansions, hinders policy: It encourages the central bank to eschew the decisive quantitative easing needed to reflate the economy and instead to accommodate too-low inflation. The experience of the Bank of Japan's encounter with the zero lower bound suggests important benefits from a clear definition of price stability as a symmetric 2% goal for inflation, which the Bank adopted in 2013.
    Keywords: Bank of Japan,Federal Reserve,ECB,zero lower bound,quantitative easing,central bank independence,price stability,inflation target,balance sheet risk
    JEL: E52 E58 E61 N15
    Date: 2018
  6. By: Mellina, Sathya; Schmidt, Tobias
    Abstract: Since the financial crisis, central banks have stressed the role of trust and communication in connection with their objectives and strategies for aligning the public's inflation expectations with their own and, consequently, improving the effectiveness of monetary policy. Assessing how much the general public knows about and trust in central banks and how these factors influence inflation expectations is thus important. We shed light on these issues by relying on a representative survey conducted among individuals living in Germany. Although most respondents assume that they have a good or very good knowledge of the ECB and the Bundesbank, only about 20 percent cite "price stability" when asked directly about the two central banks' objectives. Knowledge of the ECB's and the Bundesbank's goals act as significant drivers of trust in these institutions, however. And greater trust in the ECB and Bundesbank, in turn, lowers individuals' inflation expectations. More specifically, having greater trust increases the probability of expecting unchanged prices and decreases the likelihood of expecting either slightly or sharply rising prices over the medium term. Interestingly, awareness of price stability as the primary objective of the ECB's monetary policy does not seem to affect inflation expectations directly once we control for trust, individuals' socio-demographic characteristics and their interest in economic topics. Our study indicates that central banks can influence households' inflation expectations through building trust and educating the public about their targets.
    Keywords: Inflation Expectations,Trust,Economic Knowledge,Central Bank Communications,European Central Bank,Deutsche Bundesbank
    JEL: D12 D84 E52 E58
    Date: 2018
  7. By: Nymoen, Ragnar (Dept. of Economics, University of Oslo); Pedersen, Kari (The Financial Supervisory Authority of Norway); Sjåberg, Jon Ivar (The Financial Supervisory Authority of Norway)
    Abstract: We analyse a quarterly panel data set consisting of ten advanced open economies that have introduced macroprudential policy measures: caps on loan to value and income (LTV and LTI), and debt service to income (DSTI) requirements in particular, but also risk weights (RW), amortization (Amort) and, less used, countercyclical buffer (CCyB). Estimation of dynamic panel data models, that also include the central bank rate, and controls for common nominal and real trends, gives support to the view that several of the measures may have reduced credit growth when they were introduced.The estimated impact effects are most significant for LTV, LTI and RW. For Amort, the long-run effect on credit growth is significant, and the same is found for RW. The estimation results when house price growth is the dependent variable are in the main consistent with the results for credit growth. The results do not support that CCyB has reduced lending (as a consequence of higher financing costs), and we suggest that the variable is mainly a control in our data set. In that interpretation, it is interesting that the estimated coefficients of the other five instruments are robust with respect to exclusion of CCyB from the empirical models. The results are also robust to controls in the form of impulse indicator saturation (IIS).
    Keywords: Macroprudential policy measures; house prices; credit growth; open economics; macro panel; impulse indicator saturation; robust estimation
    JEL: C23 C44 C58 G28 G38
    Date: 2018–09–14
  8. By: Gehrig, Thomas; Iannino, Maria Chiara
    Abstract: This paper analyses the evolution of the safety and soundness of the European banking sector during the various stages of the Basel process of capital regulation. In the first part we document the evolution of various measures of systemic risk as the Basel process unfolds. Most strikingly, we find that the exposure to systemic risk as measured by SRISK has been steeply rising for the highest quintile, moderately rising for the second quintile and remaining roughly stationary for the remaining three quintiles of listed European banks. This observation suggests that the Basel process has succeeded in containing systemic risk for the majority of European banks but not for the largest and most risky institutions. In the second part we analyze the drivers of systemic risk. We find compelling evidence that the increase in exposure to systemic risk (SRISK) is intimately tied to the implementation of internal models for determining credit risk as well as market risk. Based on this evidence, the sub-prime crisis found especially the largest and more systemic banks ill-prepared and lacking resiliency. This condition has even aggravated during the European sovereign crisis. Banking Union has not restored aggregate resiliency to pre-crises levels. Finally, low interest rates considerably a ect the contribution to systemic risk for the safer banks.
    JEL: B26 E58 G21 G28 H12 N24
    Date: 2018–09–27
  9. By: Dominika Kolcunova (Institute of Economic Studies, Faculty of Social Sciences, Charles University in Prague, Smetanovo nabrezi 6, 111 01 Prague 1, Czech Republic; Czech National Bank, Na prikope 28, 115 03 Prague 1, Czech Republic); Tomas Havranek (Institute of Economic Studies, Faculty of Social Sciences, Charles University in Prague, Smetanovo nabrezi 6, 111 01 Prague 1, Czech Republic; Czech National Bank, Na prikope 28, 115 03 Prague 1, Czech Republic)
    Abstract: The paper focuses on the estimation of the effective lower bound for the Czech National Bank’s policy rate. The effective lower bound is determined by the value below which holding and using cash would be preferable to deposits with negative yields. This bound is approximated based on storage, insurance and transportation costs of cash and the loss of convenience associated with cashless payments and complemented with the estimate based on interest charges which present direct costs to the bank profitability. Overall we get a mean value slightly below -1%, approxi- mately in the interval (-2.0%, -0.4%). In addition, by means of a vector autoregression we show that the potential of negative rates would not be sufficient to deliver monetary policy easing similar in its effects to the impact of the Czech National Bank’s exchange rate commitment during the years 2013–2017.
    Keywords: effective lower bound, zero lower bound, negative interest rates, costs of cash, transmission of monetary policy
    JEL: E58 E43 E44
    Date: 2018–09
  10. By: Zhou, Siwen
    Abstract: This paper analyses the signaling effect of the European Central Bank’s (ECB) statements related to its asset purchase programme (APP) on market expectations for the future path of short-term interest rates in the euro area. Considering a broad set of event days and daily changes in euro area stock indices as surprise reactions to the statements, an event-study analysis is employed to capture the changes in country-specific short-term interest rate expectations, as extracted from an effective lower bound (ELB) consistent shadow-rate term structure model. The empirical results generally support the presence of signaling effects in the euro area, but the estimated effectiveness of the channel has a considerable degree of uncertainty. Regarding country-specific differences, the reaction of interest rate expectations in the periphery countries tends to be stronger for dovish APP statement surprises, and thus these countries may benefit more from the signaling channel. Lastly, the responses of interest rate expectations to APP statement surprises are found to vary considerably depending on the identification strategy of the APP statements, which ultimately shows that these conclusions based on the empirical results are likely to be fragile.
    Keywords: Quantitative Easing, Asset Purchase Programme, European Central Bank, Shadow-Rate Term Structure Model, Signaling Channel
    JEL: C54 E43 E52 G15
    Date: 2018
  11. By: Davide Romelli (Trinity College Dublin)
    Abstract: What accounts for the worldwide changes in central bank design over the past four decades? Using a new dataset on central bank institutional design, this paper investigates the timing, pace and magnitude of reforms in a sample of 154 countries over the period 1972-2017. I construct a new dynamic index of central bank independence and show that initial reforms that increase the level of independence, as well as a regional convergence, represent important drivers of changes in central bank design. Similarly, an external pressure to reform, such as an IMF loan program, also increases the likelihood of reforms, while political factors or crises episodes have little impact. These results are robust to controlling for the direction and size of reforms, alternative indices of central bank independence and estimation strategies.
    Keywords: central banks, central bank independence, central bank governance, legislative reforms.
    JEL: E58 G28 N20 P16
    Date: 2018–09
  12. By: Francesco Salsano (Birkbeck, University of London; Università di Milano)
    Abstract: The paper is an extension of the Gabillon and Martimort model (2004), which studies how the independence of the institution in charge of monetary policy may stabilize inflationary fluctuations due to political uncertainty when the economy is characterized by lobbies that seek to promote their own interests to the detriment of the general interests of society.
    Keywords: Monetary Policy, Central Bank, Partisan politics
    JEL: E58 L51
    Date: 2018–07
  13. By: Jean-Bernard Chatelain (PSE - Paris School of Economics, PJSE - Paris Jourdan Sciences Economiques - UP1 - Université Panthéon-Sorbonne - ENS Paris - École normale supérieure - Paris - INRA - Institut National de la Recherche Agronomique - EHESS - École des hautes études en sciences sociales - ENPC - École des Ponts ParisTech - CNRS - Centre National de la Recherche Scientifique); Kirsten Ralf (ESCE – International Business School)
    Abstract: The determinacy of dynamic stochastic general equilibrium models including fiscal, macro-prudential or Taylor rules relies on the assumption that policy instruments are forward-looking when policy targets are also forward-looking. Blanchard and Kahn (1980) determinacy condition does not forbid to assume that policy instruments are backward-looking when policy targets are forward-looking, as it is the case for Ramsey optimal policy under quasi-commitment. There is indeterminacy of determinacy unless six criteria are considered which are in favor of assuming that policy instruments are backward-looking when policy targets are forward-looking.
    Keywords: Determinacy,Proportional Feedback rules,Dynamic Stochastic General Equilibrium,Taylor rule,Fiscal rule,Macro-prudential rule,optimal control,Ramsey optimal policy under quasi-commitment
    Date: 2018–09
  14. By: Adi Mordel
    Abstract: Prudential liquidity requirements are a relatively recent regulatory tool on the international front, introduced as part of the Basel III accord in the form of a liquidity coverage ratio (LCR) and a net stable funding ratio (NSFR). I first discuss the rationale for regulating bank liquidity by highlighting the market failures that it addresses while reviewing key theoretical contributions to the literature on the motivation for prudential liquidity regulation. I then introduce some of the empirical literature on the firm-specific and systemwide effects of that regulation. These findings suggest that while banks respond to binding requirements by increasing long-term funding and reducing maturity mismatch, there is also evidence that risk in the financial system has gone up. In an environment where both bank liquidity and capital are regulated, it is natural to consider the interactions between them. The main conclusions from this growing literature indicate that while liquidity requirements tend to make capital constraints less binding, capital requirements appear to be more costly to comply with, and that both regulations have a non-trivial effect on financial stability. I conclude with a discussion of potential avenues to explore as the Basel III liquidity standards are being implemented in Canada.
    Keywords: Financial Institutions, Financial system regulation and policies
    JEL: G G2 G21 G28
    Date: 2018
  15. By: Toni Ahnert; James Chapman; Carolyn Wilkins
    Abstract: We present a simple model to study the risk sensitivity of capital regulation. A banker funds investment with uninsured deposits and costly capital, where capital resolves a moral hazard problem in the banker’s choice of risk. Investors are uninformed about investment quality, but a regulator receives a signal about it and imposes minimum capital requirements. With a perfect signal, capital requirements are risk sensitive and achieve the first-best levels of risk and intermediation: safer banks attract cheaper deposit funding and require less capital. With a noisy signal, risk-sensitive capital regulation can implement a separating equilibrium in which low-quality banks do not participate. We show that the degree of risk sensitivity is non-monotone in the precision of the signal and in investment characteristics. Without a signal, a leverage ratio still induces the efficient risk choice but leads to excessive or insufficient intermediation.
    Keywords: Financial institutions; Financial system regulation and policies
    JEL: G21 G28
    Date: 2018
  16. By: Lawrence Christiano; Yuta Takahashi
    Abstract: We consider a model in which monetary policy is governed by a Taylor rule. The model has a unique equilibrium near the steady state, but also has other equilibria. The introduction of a particular escape clause into monetary policy works like the Taylor principle to exclude the other equilibria. We reconcile our finding about the escape clause with the sharply different conclusion reached in Cochrane (2011). Atkeson et al. (2010) study a different version of the escape clause policy, but that version is fragile in that it lacks a crucial robustness property.
    JEL: E5
    Date: 2018–08
  17. By: Sebastian Di Tella (Stanford GSB)
    Abstract: This paper provides an equilibrium theory of liquidity traps and the real effects of money. Money provides a safe store of value that prevents interest rates from falling enough during downturns, and the economy enters a persistent slump with depressed investment. This is an equilibrium outcome—prices are flexible, markets clear, and inflation is on target—but it’s not efficient. Investment is too high during booms and too low during liquidity traps. Although money has large real effects, monetary policy is ineffective—the zero lower bound is not binding, money is superneutral, and Ricardian equivalence holds. The optimal allocation requires the Friedman rule and a tax/subsidy on capital.
    Date: 2018

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