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on Central Banking |
| By: | Anson, Mike (Bank of England); Bholat, David (Bank of England); Kang, Miao (Bank of England); Rieder, Kilian (University of Oxford); Thomas, Ryland (Bank of England) |
| Abstract: | It is well known that quantitative credit restrictions, rather than Bagehot-style ‘free lending’ constituted the standard response to financial crises in the early days of central banking. But why did central banks in the past frequently restrict the supply of loans during financial crises? In this paper, we draw on a large novel, loan-level data set to study the Bank of England’s policy response to the crisis of 1847. We find that credit rationing due to residual imperfect information in the sense of Stiglitz and Weiss (1981) cannot be a convincing explanation for quantitative credit restrictions during the crisis of 1847. We provide preliminary evidence which could suggest that discriminatory credit rationing on the basis of loan applicants’ type and identity characterized the Bank of England’s (BoE’s) response to the crisis of 1847. Our results also show that collateral characteristics played an important role in the BoE’s loan decisions, even after controlling for the identity of loan applicants. This finding confirms the hypothesis in Capie (2002) and Flandreau and Ugolini (2011, 2013, 2014) that the characteristics of bills of exchange submitted to the discount window mattered. Since our results suggest that the Bank also took decisions on the basis of the identity of loan applicants, our preliminary findings would seem to challenge Capie’s ‘frosted glass’ metaphor, but more work is required to confirm these conjectures. |
| Keywords: | Credit rationing; lender of last resort; collateral management |
| JEL: | E44 E52 E58 G21 N12 N20 |
| Date: | 2019–04–26 |
| URL: | http://d.repec.org/n?u=RePEc:boe:boeewp:0794&r=all |
| By: | Dautovic, Ernest |
| Abstract: | The paper evaluates the impact of macroprudential capital regulation on bank capital, risk taking behaviour, and solvency. The identification relies on the policy change in bank-level capital requirements across systemically important banks in Europe. A one percentage point hike in capital requirements leads to an average CET1 capital increase of 13 percent and no evidence of reduction in assets. The increase in capital comes at a cost. The paper documents robust evidence on the existence of substitution effects toward riskier assets. The risk taking behavior is predominantly driven by large and less profitable banks: large wholesale funded banks show less risk taking, and large banks relying on internal ratings based approach successfully disguise their risk taking. In terms of overall impact on solvency, the higher risk taking crowds out the positive effect of increased capital. JEL Classification: E51, G21, O52 |
| Keywords: | capital requirements, macroprudential policy, moral hazard, risk-taking |
| Date: | 2019–05 |
| URL: | http://d.repec.org/n?u=RePEc:srk:srkwps:201991&r=all |
| By: | Coen, Jamie (London School of Economics); Lepore, Caterina (Bank of England); Schaanning, Eric (RiskLab, ETH ZÜrich and Norges Bank) |
| Abstract: | We build a framework for modelling fire sales where banks face both liquidity and solvency constraints and choose which assets to sell in order to minimise liquidation losses. Banks constrained by the leverage ratio prefer to first sell assets that are liquid and held in small amounts, while banks constrained by the risk-weighted capital ratio and the liquidity coverage ratio need to trade off assets’ liquidity with their regulatory weights. We calibrate the model to the UK banking system, and find that banks’ optimal liquidation strategies translate into moderate fire-sale losses even for extremely large solvency shocks. By contrast, severe funding shocks can generate significant losses. Thus models focusing exclusively on solvency risk may significantly underestimate the extent of contagion via fire sales. Moreover, when studying combined funding and solvency shocks, we find complementarities between the two shocks’ effects that cannot be reproduced by focusing on either shock in isolation. |
| Keywords: | Banks; financial regulation; fire sales; stress testing; systemic risk |
| JEL: | G18 G21 |
| Date: | 2019–04–26 |
| URL: | http://d.repec.org/n?u=RePEc:boe:boeewp:0793&r=all |
| By: | Delatte, Anne-Laure; Garg, Pranav; Imbs, Jean |
| Abstract: | Using a bank-firm level credit registry combined with firm-level balance sheet data we establish the presence of heterogeneity in the effects of unconventional monetary policy transmission. We examine the consequences of a loosening in the collateral eligibility requirement for credit refinancing in France. The policy was designed to affect bank lending positively. We expect a linear increase in lending and an additional increase in loans to firms with newly acceptable rating. We find a large heterogeneity of the monetary policy transmission including the unexpected reduction of lending by the banks benefiting the most from the policy. These are small, risk-averse banks whose foremost concern after the recession was to strengthen their balance sheets. Banks least affected by the policy respond with a reduction in credit to low risk borrowers in reaction to the change in the market structure. Last we document heterogenous effects of the policy on firms depending on their size. |
| Keywords: | Corporate Finance; individual data; Real Effects Of Monetary Policy; Transmission Channels; Unconventional Monetary Policy |
| JEL: | C58 E44 E52 E58 G21 G28 G30 G32 |
| Date: | 2019–04 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:13693&r=all |
| By: | Jiang, Zhengyang (Kellogg School of Management, Northwestern University); Krishnamurthy, Arvind (Stanford University, Graduate School of Business, and NBER); Lustig, Hanno (Stanford University, Graduate School of Business, and NBER) |
| Abstract: | US monetary policy has an outsized impact on the world economy, a phenomenon that Rey (2013) dubs the global financial cycle. Changes in the US dollar also have an outsized impact on the world economy, while shocks in foreign countries have smaller impacts on the U.S. We build a model to rationalize these facts stemming from the special demand for dollar safe assets. In the model, dollar safe assets trade at a premium; that is, they offer especially low returns. Banks and firms that have the collateral to issue dollar safe assets can collect this premium. Institutions in the U.S. do so against dollar collateral, while institutions in foreign countries do so against local currency collateral, but in the process take on exchange rate risk. Changes in U.S. monetary policy impact the supply of dollar safe assets, but do not offset shocks to safe asset demand. Shocks to U.S. monetary policy and shocks to the value of the dollar transmit across the globe and are a global risk factor. We present evidence from movements in the Treasury basis that support the mechanism underlying our theory. |
| Date: | 2018–12 |
| URL: | http://d.repec.org/n?u=RePEc:ecl:stabus:3747&r=all |
| By: | Paul Owusu Takyi (National Graduate Institute for Policy Studies, Tokyo, Japan); Roberto Leon-Gonzalez (National Graduate Institute for Policy Studies, Tokyo, Japan) |
| Abstract: | This paper examines the effectiveness of monetary policy and its implications for financially included and excluded households in Sub-Saharan African (SSA) economies, using an estimated New-Keynesian DSGE model. The model has financially included ( eoptimizing f) households coexisting with financially excluded ( ehand-to-mouth f) households. We exploit time series data on four SSA economies, spanning 1985-2016, to estimate the model fs parameters through Bayesian inference methods. Our estimation results show that the share of financially excluded households in these economies is relatively small, usually between 35% and 42%. This finding suggests that previous efforts to enhance financial inclusion in SSA have contributed to a general lowering of the cost of financial market participation. Our results also indicate that the monetary authorities in SSA countries have targeted inflation more aggressively than output growth. Further, the results of our Bayesian impulse response analysis suggests that a positive monetary policy shock does perform its intended role of significantly reducing inflation and output, despite a sizeable fraction of the population is financially excluded. Additionally, we find that a contractionary monetary policy tends to have differentiated impacts; it decreases consumption of financially excluded households more than that of financially included ones. The results reveal that financially included households are able to absorb shocks, and thus can smooth consumption more effectively than financially excluded households. Consequently, given that financially included households are better positioned to address shocks, it is recommended that monetary authorities in developing countries place greater emphasis on output growth relative to inflation. That shifting emphasis could support the stabilization of income, which would enable financially excluded households to smooth consumption. In addition, efforts to ensure full financial inclusion are recommended so that monetary policy can more fully achieve its objectives. |
| Date: | 2019–04 |
| URL: | http://d.repec.org/n?u=RePEc:ngi:dpaper:19-02&r=all |
| By: | Jonathan Kearns (Reserve Bank of Australia); Andreas Schrimpf (Bank for International Settlements); Fan Dora Xia (Bank for International Settlements) |
| Abstract: | Using monetary policy shocks for 7 advanced economy central banks, measured at high frequency, we document the strength and characteristics of interest rate spillovers to 47 advanced and emerging market economies. Our main goal is to assess different channels through which spillovers occur and why some economies' interest rates respond more than others. We find that there is no evidence that spillovers relate to real linkages, such as trade flows. There is some indication that exchange rate regimes influence the extent of spillovers. By far the strongest determinant of interest rate spillovers is financial openness. Economies that have stronger bilateral (and aggregate) financial links with the United States or euro area are susceptible to stronger interest rate spillovers. These effects are much more pronounced at the longer end of the yield curve, indicating that while economies retain policy rate independence, financial conditions are influenced by global yields. |
| Keywords: | monetary policy spillovers; high-frequency data; financial integration |
| JEL: | E44 F36 F42 |
| Date: | 2019–04 |
| URL: | http://d.repec.org/n?u=RePEc:rba:rbardp:rdp2019-03&r=all |
| By: | Richard H. Clarida |
| Abstract: | This paper highlights some of the theoretical and practical implications for monetary policy and exchange rates that derive specifically from the presence of a global general equilibrium factor embedded in neutral real policy rates in open economies. Using a standard two country DSGE model, we derive a structural decomposition in which the nominal exchange rate is a function of the expected present value of future neutral real interest rate differentials plus a business cycle factor and a PPP factor. Country specific “r*” shocks in general require optimal monetary policy to pass these through to the policy rate, but such shocks will also have exchange rate implications, with an expected decline in the path of the real neutral policy rate reflected in a depreciation of the nominal exchange rate. We document a novel empirical regularity between the equilibrium error in the VECM representation of the empirical Holston Laubach Williams (2017) four country r* model and the value of the nominal trade weighted dollar. In fact, the correlation between the dollar and the 12 quarter lag of the HLW equilibrium error is estimated to be 0.7. Global shocks to r* under optimal policy require no exchange rate adjustment because passing though r* shocks to policy rates ‘does all the work’ of maintaining global equilibrium. We also study a richer model with international spill overs so that in theory there can be gains to international policy cooperation. In this richer model we obtain a similar decomposition for the nominal exchange rate, but with the added feature that r* in each country is a function global productivity and business cycle factors even if these factors are themselves independent across countries. We argue that in practice, there could well be significant costs to central bank communication and credibility under a regime of formal policy cooperation, but that gains to policy coordination could be substantial given that r*’s are unobserved but are correlated across countries. |
| Keywords: | Exchange rate ; Monetary policy ; Policy coordination |
| JEL: | E4 F31 F33 |
| Date: | 2019–04–22 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedgif:1244&r=all |
| By: | Funke, Michael; Tsang, Andrew |
| Abstract: | The recent upgrade of the People’s Bank of China’s monetary policy framework establishes a corridor system of interest rates. As the revamped policy arrangement now features a multiple-instrument mix of liquidity tools and pricing signals, we employ a dynamic factor modelling approach to derive an indicator of China’s monetary policy stance. The approach is based on the notion that comovements in several monetary policy instruments have a common element that can be captured by a single underlying, unobserved component. To clarify and interpret the derived index, we employ a baseline DSGE model that can be solved analytically and allows tracing of the expansionary and contractionary on-and-off phases of Chinese monetary policy. |
| JEL: | C54 E52 E58 E61 E32 |
| Date: | 2019–04–24 |
| URL: | http://d.repec.org/n?u=RePEc:bof:bofitp:2019_008&r=all |
| By: | Admati, Anat R. (Graduate School of Business, Stanford University); Hellwig, Martin F. (Max Planck Institute for Research on Collective Goods, Bonn) |
| Abstract: | We take issue with claims that the funding mix of banks, which makes them fragile and crisis-prone, is efficient because it reflects special liquidity benefits of bank debt. Even aside from neglecting the systemic damage to the economy that banks’ distress and default cause, such claims are invalid because banks have multiple small creditors and are unable to commit effectively to their overall funding mix and investment strategy ex ante. The resulting market outcomes under laissez-faire are inefficient and involve excessive borrowing, with default risks that jeopardize the purported liquidity benefits. Contrary to claims in the literature that “equity is expensive†and that regulation requiring more equity in the funding mix entails costs to society, such regulation actually helps create useful commitment for banks to avoid the inefficiently high borrowing that comes under laissez-faire. Effective regulation is beneficial even without considering systemic risk; if such regulation also reduces systemic risk, the benefits are even larger. |
| Date: | 2019–01 |
| URL: | http://d.repec.org/n?u=RePEc:ecl:stabus:3729&r=all |
| By: | Ragnheiður Jónsdóttir |
| Abstract: | This paper aims to answer the question of what kind of liquidity management system would be optimal for Iceland with respect to two important considerations. One is the current environment of surplus reserves and the other is Iceland’s specific character of being a very small, open economy with its own currency. The theory behind monetary policy implementation is discussed as well as the various origins of surplus reserves, their characteristics and implications for the conduct of monetary policy. The reasons for the steep accumulation of surplus reserves in the Icelandic banking system are considered and fluctuations in reserves are found likely to persist in a small, open economy, not least one with a managed float. Four different types of liquidity management systems at central banks are discussed in turn and the examples of Sweden, Norway and Denmark considered in that context. Finally, some conclusions are provided on the optimal system for Iceland. |
| JEL: | E51 E52 E58 |
| Date: | 2019–03 |
| URL: | http://d.repec.org/n?u=RePEc:ice:wpaper:wp79&r=all |
| By: | Antonio Alvarez; Alejandro Fernandez; Joaquin Garcia-Cabo; Diana Posada |
| Abstract: | This study attempts to evaluate the impact of an increase in banks' funding stress and its transmission to the real economy, taking into account different funding sources banks can rely on. Using aggregate data from eight Euro area financial systems, we find that following a liquidity funding shock, both credit and GDP decline in different amounts and lengths. GDP reverts faster than credit. Furthermore, periphery countries experience a more pronounced fall in deposits and credit growth and the negative effects from the shock last longer than in core countries. Banks' funding seems to play a relevant role as periphery countries rely more on wholesale funding during normal times. |
| Keywords: | Liquidity funding shocks ; ECB policy ; Euro Area |
| JEL: | E50 E58 |
| Date: | 2019–04–22 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedgif:1245&r=all |
| By: | Giannone, Domenico (Federal Reserve Bank of New York and CEPR); Lenza, Michele (European Central Bank and ECARES-ULB); Reichlin, Lucrezia (London Business School and CEPR) |
| Abstract: | This paper studies the relationship between the business cycle and financial intermediation in the euro area. We establish stylized facts and study their stability during the global financial crisis and the European sovereign debt crisis. Long-term interest rates have been exceptionally high and long-term loans and deposits exceptionally low since the Lehman collapse. Instead, short-term interest rates and short-term loans and deposits did not show abnormal dynamics in the course of the financial and sovereign debt crisis. |
| Keywords: | money; loans; nonfinancial corporations; monetary policy; euro area |
| JEL: | C32 C51 E32 E51 E52 |
| Date: | 2019–04–01 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fednsr:885&r=all |
| By: | Lukas Boer |
| Abstract: | Central bank intervention in foreign exchange markets is a common tool to influence exchange rates. Although central bankers are convinced of their policy’s effectiveness, econometric estimates of precise effects differ across studies. The difficulties with estimations mostly result from a lack of adequate data. This article highlights different econometric approaches that aim to mitigate estimation problems. Techniques comprise control and matching approaches, event studies, as well as the use and imputation of high-frequency data. Their comparison reveals a trade-off between clear identification of the effect and establishing its validity over a sustained period. |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:diw:diwrup:128en&r=all |
| By: | Patnaik, Ila (National Institute of Public Finance and Policy); Pandey, Radhika (National Institute of Public Finance and Policy) |
| Abstract: | The mechanism to calculate how much reserves the RBI transfers to the Central Government has been at the forefront of debate amongst experts and policy makers. The present legal framework allows the RBI to choose what proportion of reserves it transfers to the Government. As a consequence, it has built up reserves that are higher than most other central banks hold. This paper presents the logic for why central banks might hold reserves. Drawing on cross country practices, it presents a discussion of the possible arrangements for transfer of reserves to the Government. Any institutional arrangement to determine a framework for reserves transfer must consider these options. |
| Date: | 2019–05 |
| URL: | http://d.repec.org/n?u=RePEc:npf:wpaper:19/262&r=all |
| By: | Bennani, Hamza |
| Abstract: | This paper tests whether the People's Bank of China's communication affects expectations of market participants and matters as a monetary policy instrument. For that purpose, we first rely on a computational linguistic tool to measure the tone of PBC speeches and second, we use a high frequency methodology to estimate the effect of tone on stock prices. Our results show that positive changes of the tone affect positively stock prices in the Shanghai and the Shenzhen stocks markets. Additional extensions show that PBC communication does not have a persistent e ect on stock prices and that the tone of PBC communication still has a positive and significant impact on stock prices even when controlling for all the monetary policy instruments implemented by the central bank. Hence, our findings show that PBC communication matters as a monetary policy instrument to shape market expectations and to move asset prices. |
| JEL: | E52 E58 |
| Date: | 2019–04–25 |
| URL: | http://d.repec.org/n?u=RePEc:bof:bofitp:2019_009&r=all |
| By: | Pierre-Olivier Gourinchas; Hélène Rey; Maxime Sauzet |
| Abstract: | International currencies fulfill different roles in the world economy with important synergies across those roles. We explore the implications of currency hegemony for the external balance sheet of the United States, the process of international adjustment, and the predictability of the US dollar exchange rate. We emphasize the importance of international monetary spillovers, of the exorbitant privilege, and analyze the emergence of a new ‘Triffin dilemma’. |
| JEL: | E0 F3 F4 G1 |
| Date: | 2019–04 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:25782&r=all |
| By: | Buera, Francisco J. (Washington University in St. Louis); Nicolini, Juan Pablo (Federal Reserve Bank of Minneapolis) |
| Abstract: | In this chapter, we review the monetary and fiscal history of Argentina for the period 1960–2017, a time during which the country suffered several balance of payments crises, three periods of hyperinflation, two defaults on government debt, and three banking crises. All told, between 1969 and 1991, after several monetary reforms, thirteen zeros had been removed from its currency. We argue that all these events are the symptom of a recurrent problem: Argentina’s unsuccessful attempts to tame the fiscal deficit. An implication of our analysis is that the future economic evolution of Argentina depends greatly on its ability to develop institutions that guarantee that the government does not spend more than its genuine tax revenues over reasonable periods of time. |
| Keywords: | Inflation; Deficits; Fiscal and monetary interactions; Government budget constraint; Macroeconomic history |
| JEL: | E31 E42 E5 E63 N16 |
| Date: | 2019–02–01 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedmsr:580&r=all |
| By: | Lindé, Jesper; Trabandt, Mathias |
| Abstract: | We propose a resolution of the missing deflation puzzle. Our resolution stresses the importance of nonlinearities in price- and wage-setting when the economy is exposed to large shocks. We show that a nonlinear macroeconomic model with real rigidities resolves the missing deflation puzzle, while a linearized version of the same underlying nonlinear model fails to do so. In addition, our nonlinear model reproduces the skewness of inflation and other macroeconomic variables observed in post-war U.S. data. All told, our results caution against the common practice of using linearized models to study inflation and output dynamics. |
| Keywords: | great recession; inflation dynamics; linearized model solution; liquidity trap; nonlinear model solution; Real rigidities; strategic complementarities; zero lower bound |
| JEL: | E30 E31 E32 E37 E44 E52 |
| Date: | 2019–04 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:13690&r=all |
| By: | Harris, Richard (Xfi Centre for Finance and Investment, University of Exeter); Karadotchev, Veselin (Bank of England); Sowerbutts, Rhiannon (Bank of England); Stoja, Evarist (School of Economics, Finance and Management, University of Bristol) |
| Abstract: | We investigate the impact that the publication of the Bank of England’s Financial Stability Report (FSR) has on the stock returns and credit default swap spreads of UK financial institutions. Examining a sample of 73 UK-listed banks and other financial institutions, we find that publication of the FSR is, on average, associated with no abnormal returns. We extend our analysis to examine the extent to which policies and the sentiment in the FSR are predictable, which would explain the observed lack of abnormal returns. We find that both sentiment and announced policies are predictable. We also examine the extent to which the release of the FSR reduces information asymmetry in financial markets, but do not find strong evidence. |
| Keywords: | Event studies; Financial Stability Reports; central bank communication; market reaction. |
| JEL: | G14 G18 G21 G22 G23 G24 |
| Date: | 2019–04–18 |
| URL: | http://d.repec.org/n?u=RePEc:boe:boeewp:0792&r=all |
| By: | Jermann, Urban J. (University of Pennsylvania); Wei, Bin (Federal Reserve Bank of Atlanta); Yue, Vivian Z. (Emory University) |
| Abstract: | We document stylized facts about China's recent exchange rate policy for its currency, the renminbi (RMB). Our empirical findings suggest that a "two-pillar policy" is in place, aiming to balance RMB index stability and exchange rate flexibility. We then develop a tractable no-arbitrage model of the RMB under the two-pillar policy. Using derivatives data on the RMB and the U.S. dollar index, we estimate the model to assess financial markets' views about the fundamental exchange rate and sustainability of the policy. Our model is able to predict the modification of the two-pillar policy in May 2017, when a discretion-based "countercyclical factor" was introduced for the first time. We also examine the model's ability to forecast RMB movements. |
| Keywords: | exchange rate policy; two-pillar policy; managed float; Chinese currency; renminbi; RMB; central parity; RMB index |
| JEL: | F31 G12 G13 G15 |
| Date: | 2019–04–01 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedawp:2019-08&r=all |
| By: | Costain, James; Nakov, Anton; Petit, Borja |
| Abstract: | We study the effects of monetary shocks in a model of state-dependent price and wage adjustment based on “control costs”. Suppliers of retail goods and of labor are both monopolistic competitors that face idiosyncratic productivity shocks and nominal rigidities. Stickiness arises because precise decisions are costly, so agents choose to tolerate small errors in the timing of adjustments. Our simulations are calibrated to microdata on the size and frequency of price and wage changes. Money shocks have less persistent real effects in our state-dependent model than they would a time-dependent framework, but nonetheless we obtain sufficient monetary nonneutrality for consistency with macroeconomic evidence. Nonneutrality is primarily driven by wage rigidity, rather than price rigidity. State-dependent nominal rigidity implies a flatter Phillips curve as trend inflation declines, because nominal adjustments become less frequent, making short-run inflation less reactive to shocks. JEL Classification: E31, D81, C73 |
| Keywords: | control costs, logit equilibrium, near rationality, nominal rigidity, state-dependent adjustment |
| Date: | 2019–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20192272&r=all |
| By: | Jiang, Zhengyang (Kellogg School of Management, Northwestern University); Krishnamurthy, Arvind (Stanford University, Graduate School of Business, and NBER); Lustig, Hanno (Stanford University, Graduate School of Business, and NBER) |
| Abstract: | We develop a theory that links the U.S. dollar’s valuation in FX markets to foreign investors’ demand for U.S. safe assets. When the convenience yield that foreign investors derive from holding U.S. safe assets increases, the U.S. dollar immediately appreciates, thus lowering the foreign investors’ expected future return from owning U.S. safe assets. The foreign investors’ convenience yield can be inferred from the wedge between the yield on safe U.S. Treasury bonds and currency-hedged foreign government bonds, which we call the U.S. Treasury basis. Consistent with the theory, we find that a widening of the U.S. Treasury basis coincides with an immediate appreciation and a subsequent depreciation of the U.S. dollar. Shocks to news about current and future convenience yields accounts for 54.2% of the quarterly innovations in the dollar. Our results lend empirical support to recent theories of exchange rate determination which impute a special role to the U.S. as the world’s provider of safe assets and to the dollar, the world’s reserve currency. |
| Date: | 2019–03 |
| URL: | http://d.repec.org/n?u=RePEc:ecl:stabus:3775&r=all |