nep-cba New Economics Papers
on Central Banking
Issue of 2019‒09‒23
29 papers chosen by
Sergey E. Pekarski
Higher School of Economics

  1. Optimal Policy Implications of Financial Uncertainty By Kantur, Zeynep; Özcan, Gülserim
  2. Three decades of inflation targeting By Magda Ciżkowicz-Pękała; Witold Grostal; Joanna Niedźwiedzińska; Elżbieta Skrzeszewska-Paczek; Ewa Stawasz-Grabowska; Grzegorz Wesołowski; Piotr Żuk
  3. Monetary Policy and Durable Goods By robert barsky; Christoph Boehm; Christopher House; Miles Kimball
  4. Modelling and forecasting the dollar-pound exchange rate in the presence of structural breaks By Jennifer Castle; Takamitsu Kurita
  5. A Monetary Search Model with Non-unitary Discounting By Daiki Maeda
  6. Bank intermediation activity in a low interest rate environment By Michael Brei; Claudio Borio
  7. ECB policy consistency – loss of independence and the real estate bubble? By Rybacki, Jakub
  8. Sticky prices and the transmission mechanism of monetary policy: A minimal test of New Keynesian models By Guido Ascari; Timo Haber
  9. The e-monetary theory By Ngotran, Duong
  10. The Agency of CoCos: Why Contingent Convertible Bonds Aren't for Everyone By Roman Goncharenko; Steven Ongena; Asad Rauf
  11. The evolution of banking regulation since the financial crisis: a critical assessment By Andrea Sironi
  12. Mussa Puzzle Redux By Oleg Itskhoki; Dmitry Mukhin
  13. The Relation between Municipal and Government Bond Yields in an Era of Unconventional Monetary Policy By Kneezevic, David; Nordström, Martin; Österholm, Pär
  14. Pegging the Interest Rate on Bank Reserves: A Resolution of New Keynesian Puzzles and Paradoxes By Behzad Diba; Olivier Loisel
  15. Learning, Heterogeneity, and Complexity in the New Keynesian Model. By Robert Calvert Jump; Cars Hommes; Paul Levine
  16. One size does not fit all. Cooperative banking and income inequality By Raoul Minetti; Pierluigi Murro; Valentina Peruzzi
  17. Inflation and Welfare in the Laboratory By Janet Hua Jiang; Cathy Zhang; Daniela Puzzello
  19. Exchange Rate and Interest Rate Disconnect: The Role of Capital Flows, Currency Risk and Default Risk By Sebnem Kalemli-Ozcan; Liliana Varela
  20. Global Banks and Systemic Debt Crises By Juan Morelli; Diego Perez; Pablo Ottonello
  21. Optimal Regulation without Commitment: Reputation and Incentives By Alessandro Dovis; Rishabh Kirpalani
  22. Financial Liberalization and Income Inequality: On the Heterogenous Effects of Different Reforms By Alexander Ludwig; Alexander Monge-Naranjo; Ctirad Slavik; Faisal Sohail
  23. Do we really know that U.S. monetary policy was destabilizing in the 1970s? By Haque, Qazi; Groshenny, Nicolas; Weder, Mark
  24. How Do Private Digital Currencies Affect Government Policy? By Max Raskin; Fahad Saleh; David Yermack
  25. Innovations in emerging markets: the case of mobile money By Pelletier, Adeline; Khavul, Susanna; Estrin, Saul
  26. Monetary Policy and Inequality: How Does One Affect the Other? By Eunseong Ma
  27. Disinflation and reliability of underlying inflation measures By Elena Deryugina; Alexey Ponomarenko
  28. On Processing Central Bank Communications: Can We Account for Fed Watching? By Joseph Haslag
  29. Introducing ECB-BASE: The blueprint of the new ECB semi-structural model for the euro area By Angelini, Elena; Bokan, Nikola; Christoffel, Kai; Ciccarelli, Matteo; Zimic, Srečko

  1. By: Kantur, Zeynep; Özcan, Gülserim
    Abstract: In addition to the stabilization of inflation and output gap, the responsibility of preventing financial crises and providing stable financial system is assumed by the central banks. In the aftermath of the Great Recession, the policymakers gave financial stability mandate more prominence to preemptively obliterate the fluctuations in the financial market. New models with alternative policy tools have emerged during this period to analyze the impact of financial shocks, and their linkages with the real economy. However, for the policymaker, it might not be possible to verify these models with existing information, which leads to uncertainty. This paper proposes robust optimal policy under uncertainty in response to financial and inflation shocks by acknowledging financial stability as an explicit objective of monetary policy. To do so, we extend the framework of De Paoli and Paustian (2017) by introducing model misspecification. We show that model ambiguity in the financial side requires a passive monetary policy stance. However, if the uncertainty originates from the supply side of the economy, an aggressive response of interest rate is required. We also show the contribution of an additional tool to the dynamics of the economy.
    Keywords: Financial Uncertainty, Financial Stability, Optimal Monetary Policy, Robust Control
    JEL: D81 E44 E52 E58
    Date: 2019–08–15
  2. By: Magda Ciżkowicz-Pękała (Narodowy Bank Polski); Witold Grostal (Narodowy Bank Polski); Joanna Niedźwiedzińska (Narodowy Bank Polski); Elżbieta Skrzeszewska-Paczek (Narodowy Bank Polski); Ewa Stawasz-Grabowska (University of Lodz); Grzegorz Wesołowski (Narodowy Bank Polski); Piotr Żuk (Narodowy Bank Polski)
    Abstract: Over the last three decades, inflation targeting has become one of the most widespread monetary policy frameworks used in economies striving to conduct independent monetary policy. However, the recent global financial crisis provoked criticism of the way monetary policies had been conducted, including under an inflation targeting strategy, and called for some adjustments to the monetary policy regimes. Against this background, the report is aimed at showing that introducing changes to inflation targeting has been an ongoing process. This is illustrated by discussing the key modifications that have been applied to the inflation targeting framework over the last decades, as well as by pointing to some less commonly reviewed adjustments of the strategy as practiced by some central banks in the past. While quite a number of more recent studies on inflation targeting emphasise lessons learnt from the global financial crisis, this report looks at the full 30 years of experiences with the regime and covers rather diversified array of issues relevant for understanding the strategy, reaching also for more distant examples of its modifications. Importantly, the focus is put on strategic elements of the framework, and consequently the topics related to macroprudential policy and monetary policy instruments are discussed rather briefly.
    Keywords: Monetary Policy, Central Banking, Policy Design
    JEL: E31 E52 E58 E61
    Date: 2019
  3. By: robert barsky (Federal Reserve Bank of Chicago); Christoph Boehm (UT Austin); Christopher House (University of Michigan); Miles Kimball (University of Colorado at Boulder)
    Abstract: We analyze monetary policy in a New Keynesian model with durable and non-durable goods each with a separate degree of price rigidity. The model behavior is governed by two New Keynesian Phillips Curves. If durable goods are sufficiently long-lived we obtain an intriguing variant of the well-known “divine coincidence.” In our model, the output gap depends only on inflation in the durable goods sector. We then analyze the optimal Taylor rule for this economy. If the monetary authority wants to stabilize the aggregate output gap, it places much more emphasis on stabilizing durable goods inflation (relative to its share of value-added in the economy). In contrast, if the monetary authority values stabilizing aggregate inflation, then it is optimal to respond to sectoral inflation in direct proportion to their shares of economic activity. Our results flow from the inherently high interest elasticity of demand for durable goods. We use numerical methods to verify the robustness of our analytical results for a broader class of model parameterizations.
    Date: 2019
  4. By: Jennifer Castle; Takamitsu Kurita
    Abstract: We employ a newly-developed partial cointegration system allowing for level shifts to examine whether economic fundamentals form the long-run determinants of the dollar-pound exchange rate in an era of structural change. The paper uncovers a class of local data generation mechanisms underlying long-run and short-run dynamic features of the exchange rate using a set of economic variables that explicitly reflect the central banks’ monetary policy stances and the influence of a forward exchange market. The impact of the Brexit referendum is evaluated by examining forecasts when the dollar-pound exchange rate fell substantially around the vote.
    Keywords: Exchange rates, Monetary policy, General-to-speciï¬ c approach, Partial cointegrated vector autoregressive models, Structural breaks.
    JEL: C22 C32 C52 F31
    Date: 2019–01–07
  5. By: Daiki Maeda
    Abstract: Based on findings in the behavioral economics literature, we incorporate non-unitary discounting into a monetary search model to study optimal monetary policy. We apply non-unitary discounting, that is, discount rates that are different across goods. With this extension to the model, we find that there are cases where optimal monetary policy deviates from the Friedman rule.
    Date: 2019–09
  6. By: Michael Brei; Claudio Borio
    Abstract: This paper investigates how the prolonged period of low interest rates affects bank intermediation activity. We use data for 113 large international banks headquartered in 14 major advanced economies during the period 1994–2015. We find that low interest rates induce banks to shift their activities from interest-generating to fee-related and trading activities. This rebalancing is stronger for low capitalised banks. Banks also moderately adjust their funding structure, away from short-term market funding towards deposits. We observe a concomitant decline in the risk-weighted asset ratio and a reduction in loan-loss provisions, which is consistent with signs of evergreening.
    Keywords: monetary policy, bank business models, financial crisis
    JEL: C53 E43 E52 G21
    Date: 2019–08
  7. By: Rybacki, Jakub
    Abstract: During the period 2015-2018 European Central Bank (ECB) has implemented a large-scale asset purchases program in order to revive inflation expectations and achieve sustainable annual HICP dynamics close to 2%. Furthermore, bank communicated that policy should remain accommodative for a long time in the foreseeable future. Based on an extended Taylor rule with Wu-Xia shadow rates and variable Holston-Laubach-Williams natural rates we analyzed discretionary deviation in policy of ECB, US Federal Reserve (Fed) and Bank of England. We identified a widening dovish bias in ECB Governing Council policy during the years 2015-2019. Such policy resulted in increase of real estate prices and the risk of market bubble measured by the UBS index. The likely consequence of this problem is a decrease in public trust in central banks and increase of support for populist movements.
    Keywords: forward guidance, large scale asset purchases, quantitative easing, time consistency, real estate bubbles
    JEL: E52 E58
    Date: 2019–09–05
  8. By: Guido Ascari; Timo Haber
    Abstract: This paper proposes a minimal test of two basic empirical predictions that ag-gregate data should exhibit if sticky prices were the key transmission mechanism of monetary policy, as implied by the benchmark DSGE-New Keynesian models. First, large monetary policy shocks should yield proportionally larger initial re-sponses of the price level and smaller real effects on output. Second, in a high trend inflation regime, prices should be more flexible, and thus the real effects of monetary policy shocks should be smaller and the response of the price level larger. Our analysis provides some statistically significant evidence in favor of a sticky price theory of the transmission mechanism of monetary policy shocks.
    Keywords: Sticky prices, local projections, smooth transition function, time-dependent pricing, state-dependent pricing
    JEL: E30 E52 C22
    Date: 2019–03–06
  9. By: Ngotran, Duong
    Abstract: The author develops a dynamic model with two types of electronic money: reserves for transactions between bankers and zero-maturity deposits for transactions in the non-bank private sector. Using this model, he assesses the efficacy of unconventional monetary policy since the Great Recession. After quantitative easing, keeping the interest on reserves near zero too long might create deflation. The central bank can safely get out of the "low rate-cum-deflation" trap by "raising rate and raising money supply".
    Keywords: interest on reserves,quantitative easing,unwinding QE,e-money,excess reserves,raise rate raise money supply
    JEL: E4 E5
    Date: 2019
  10. By: Roman Goncharenko (KU Leuven - Department of Accountancy, Finance and Insurance (AFI)); Steven Ongena (University of Zurich - Department of Banking and Finance; Swiss Finance Institute; KU Leuven; Centre for Economic Policy Research (CEPR)); Asad Rauf (KUniversity of Groningen)
    Abstract: Most regulators grant contingent convertible bonds (CoCos) the status of equity. Theory, however, suggests that CoCos can induce debt overhang, thereby, increasing the cost of issuing equity. First, we theoretically investigate how the extent of this debt overhang varies with bank characteristics. Our model predicts that riskier banks face higher debt overhang from CoCos. Our empirical analysis confirms that riskier banks are less likely to issue CoCos than their safer counterparts. Since under Basel III banks are expected to raise equity prior to CoCo conversion, riskier banks that anticipate future equity issuance are less likely to issue CoCos before.
    Keywords: CoCos, Contingent Convertible Bonds, Bank Capital Structure, Debt Overhang, Basel III
    JEL: G01 G12 G24
    Date: 2019–06
  11. By: Andrea Sironi
    Abstract: Following the 2008 financial crisis a major process of regulatory reform of the banking industry took place with the aim of increasing the resilience of the financial system. More specifically, the regulatory changes introduced after the financial crisis were aimed at pursuing three main objectives: (i) improve the resilience of individual banks, thereby reducing the risk of financial institutions to fail, (ii) improve the resilience of the financial system as a whole, limiting the risk of spillovers to the broader economy that would be triggered by the failure of large financial institutions, and (iii) reduce the risk for taxpayers to bear the cost of future banking crisis. Starting from an exam of the main weaknesses of the banking regulatory framework highlighted by the financial crisis, this paper provides a detailed analysis of the Basel 3 reform, its main goals, timing and technical features. It then examines the more recent revisions of the Basel 3 framework - often called “Basel 4” - and the new requirements associated to bank resolution policies, i.e. the “total loss absorbing capacity” (TLAC) and the “minimum required eligible liabilities” (MREL). These regulatory reforms are then critically discussed, both though the analysis of their impact on the banking industry, and with recourse to the available empirical evidence. This evidence shows that the banking industry did register a significant increase in the amount and quality of equity capital, mostly achieved through capital increases, and in liquidity. This led to a decrease in the probability of future large banks defaults and in the incentive for banks to take on excessive risks. Also, by introducing bail in mechanisms for banks’ liabilities, these reforms reduced the likelihood of future crisis being supported by taxpayers via government bail outs. However, a number of threats are still being faced by the banking industry. These include profitability, a necessary condition for a bank to be sustainable over time, the sovereignbanks “doom loop”, and the possibility of future recessions, as banks’ safety and soundness is inevitably linked to the state of the economy.
    Date: 2018
  12. By: Oleg Itskhoki (Princeton University); Dmitry Mukhin (Yale University)
    Abstract: The Mussa (1986) puzzle - a sharp and simultaneous increase in the volatility of both nominal and real exchange rates after the end of the Bretton Woods System of pegged exchange rates in early 1970s - is commonly viewed as a central piece of evidence in favor of monetary non-neutrality. Indeed, a change in the monetary regime has caused a dramatic change in the equilibrium behavior of a real variable - the real exchange rate. The Mussa fact is further interpreted as direct evidence in favor of models with nominal rigidities in price setting (sticky prices). We show that this last conclusion is not supported by the data, as there was no simultaneous change in the properties of the other macro variables - neither nominal like inflation, nor real like consumption, output or net exports. We show that the extended set of Mussa facts equally falsifies both flexible-price RBC models and sticky-price New Keynesian models. We present a resolution to this broader puzzle based on a model of segmented financial market - a particular type of financial friction by which the bulk of the nominal exchange rate risk is held by a small group of financial intermediaries and not shared smoothly throughout the economy. We argue that rather than discriminating between models with sticky versus flexible prices, and monetary versus productivity shocks, the Mussa puzzle provides sharp evidence in favor of models with monetary non-neutrality arising due to financial market segmentation. Sticky prices are neither necessary, nor sufficient for the qualitative success of the model.
    Date: 2019
  13. By: Kneezevic, David (Kommuninvest of Sweden); Nordström, Martin (Örebro University School of Business); Österholm, Pär (Örebro University School of Business)
    Abstract: In this paper we investigate how the five-year Swedish municipal bond yield has been related to the corre-sponding yield on government bonds during the period that the Riksbank has conducted unconventional monetary policy in terms of bond purchases. Using daily Swedish data on bond yields from February 2015 to January 2018, we first conduct an event study to assess the short-run effects of the Riksbank’s bond-purchase announcements. We then estimate bivariate vector autoregressive models in order to study the dynamic relationship between the yields. Results from the event study suggest that the accumulated short-run effect of the Riksbank’s announcements was to lower the government bond yield by approximately 40 to 50 basis points and municipal bond yields by 30 to 35 basis points. Our vector autoregressive analysis indicates – in line with the event study – that an unexpected decrease in the government bond yield initially increases the municipal bond-yield spread. However, after approximately four weeks, the effect has been reversed and the municipal bond-yield spread is lower than it was initially. By conducting this analysis, we contribute to the understanding of the transmission of unconventional monetary policy.
    Keywords: Spread; Event study; Vector autoregression; Cointegration
    JEL: C32 E44 G10
    Date: 2019–09–19
  14. By: Behzad Diba (Department of Economics, Georgetown University); Olivier Loisel (CREST (ENSAE))
    Abstract: We develop a model of monetary policy with a simple departure from the basic New Keynesian (NK) model. In this model, the central bank sets independently the interest rate on bank reserves and the nominal stock of bank reserves. As long as demand for real reserves is not fully satiated, the model delivers local-equilibrium determinacy under permanently exogenous monetary-policy instruments. As a result, it does not share the puzzling and paradoxical implications of the basic NK model under a temporary interest rate peg (e.g., in the context of a liquidity trap). More specifically, it offers a resolution of the “forward-guidance puzzle,” a related puzzle about fiscal multipliers, and the “paradox of flexibility,” even for an arbitrarily small departure from the basic NK model. It still solves or attenuates these puzzles and that paradox for a vanishingly small departure, and also solves the “paradox of toil” in that case. We argue that our non-satiation assumption is reasonable for analyzing the role of monetary policy during the Great Recession.
    Keywords: New Keynesian puzzles, forward guidance, interest on reserves, price determinacy
    JEL: E52 E58
    Date: 2019–08–28
  15. By: Robert Calvert Jump (University of the West of England, Bristol); Cars Hommes (University of Amsterdam); Paul Levine (University of Surrey)
    Abstract: We present a New Keynesian model in which a fraction n of agents are fully rational, and a fraction 1 − n of agents are bounded rational. After deriving a simple reduced form, we demonstrate that the Taylor condition is sufficient for determinacy and stability, both when the proportion of fully rational agents is held fixed, and when it is allowed to vary according to reinforcement learning. However, this result relies on the absence of persistence in the monetary policy rule, and we demonstrate that the Taylor condition is not sufficient for determinacy and stability in the presence of interest rate smoothing. For monetary policy rules that imply indeterminacy, we demonstrate the existence of limit cycles via Hopf bifurcation, and explore a rational route to randomness numerically. Our results support the broader literature on behavioural New Keynesian models, in which the Taylor condition is known to be a useful guide to monetary policy, despite not always being sufficient for determinacy and/or stability.
    Date: 2018–01–07
  16. By: Raoul Minetti (Michigan State University); Pierluigi Murro (LUISS University); Valentina Peruzzi (LUISS University)
    Abstract: The re-regulation wave following the global financial crisis is putting pressure on local community and cooperative banks. In this paper, we show that cooperative banking can play a pivotal role in reducing income inequalities in local communities. By analyzing Italian local (provincial) credit markets over the 2001-2011 period, we find that cooperative banks mitigate income inequality more than their commercial counterparts. This effect remains significant when we account for the pervasiveness of relationship lending in the provinces, suggesting that it is the specific nature and orientation of cooperative banks, rather than their lending technologies, that improve income distribution. The impact of cooperative banking on inequality appears to be mainly channeled by reduced migratory flows and lower business turnover.
    Keywords: Cooperative banks, income inequality, financial development.
    JEL: G21 G38 O15
    Date: 2019–02
  17. By: Janet Hua Jiang (Bank of Canada); Cathy Zhang (Purdue University); Daniela Puzzello (Indiana University)
    Abstract: We integrate theory and experimental evidence to study the effects of alternative inflationary monetary policies on allocations and welfare. The framework of our experiment is based on the Lagos and Wright (2005) model of monetary exchange that provides a role for money as a medium of exchange. We compare a baseline laissez-faire policy with constant money growth and three different inflationary policies where the government fixes the money growth rate. In the first scheme (Government Spending), the government adjusts expenditures financed through seigniorage; in the second scheme (Lump Sum Transfers), the government injects new money through lump-sum transfers; in the third scheme (Proportional Transfers), the government makes transfers proportional to individual money holdings. Theory predicts inflation is constant at the money growth rate in a stationary equilibrium under all inflationary policies. However, while the first two policies yield the same stationary equilibrium with lower welfare relative to the laissez-faire setting, the third policy is neutral. Consistent with theory, output and welfare in the experimental economies are significantly lower with Government Spending relative to baseline while there are no significant effects with Proportional transfers. Our findings have implications on monetary policy implementation and provide support for policies in line with the quantity theory.
    Date: 2019
  18. By: Donato Masciandaro
    Abstract: This article discusses the relationships between populism, economic policy design and central bank independence (CBI). Assuming that 1) a macro (banking) shock can occur, 2) the incumbent government can face a trade - off between bail-out and bail-in and can finance its public spending choosing between taxes and debt; 3) an independent central bank design the monetary policy strategy assuming a long run perspective – i.e. welfare function maximization; 3) labour and financial assets represent the citizens endowment, with the possibility of monetary and banking externalities, it is possible that the majority of citizens prefer an overall policy design – including monetary policy - that are different from the social optimal ones. Then if the incumbent government wishes to please the voters, the political pressure measures the difference between the government goals and the central bank choices. The political pressure can be considered a proxy for a contingent demand of CBI reform – a metrics for de facto CBI. If we define as populist any policy that guarantees anti- elites redistribution without regard for longer term distortions, a populist pressure that promote a more politically dependent central bank can arise when the elites are sophisticated investors, while the majority of citizens are unsophisticated investors.
    Keywords: Populism, Financial Inequality, Monetary Policy, Central bank Independence, Political Economics
    JEL: D72 D78 E31 E52 E58 E62
    Date: 2019
  19. By: Sebnem Kalemli-Ozcan (University of Maryland); Liliana Varela (London School of Economics)
    Abstract: Using survey based measures of exchange rate expectations from a large set of advanced countries and emerging markets during 1996–2015, we document new facts on international arbitrage and exchange rate determination. We find that positive interest rate differentials imply expected depreciation as predicted by the no-arbitrage condition, however the expected depreciation is not enough to offset the interest rate differentials, leading to UIP deviations. To understand why there is not a full offset, we evaluate the response of each component of the UIP relation—that is the interest rate differential term and and exchange rate adjustment term—to changes in global risk and country fundamentals. This exercise reveals that, in short horizons (1-3 month), expected depreciation as a response to a given shock is large enough to offset most of the interest rate differentials, narrowing down the UIP deviations in general, and vanishing them in the advanced economies. In long horizons (12 month), this is not the case due to a combination of different factors in different countries. In advance countries, currency risk plays a key role, where in bad times (high global risk), currency depreciates more than the expectations, leading to larger deviations. In emerging markets, there is not enough movement in the exchange rate adjustment term. Capital outflows from emerging markets as a result of both higher global risk and worsening country fundamentals lead to larger interest rate differentials. Although there is an expected and actual depreciation as a result of such outflows, these are not enough to offset the interest rate differentials as the role played by the default risk is more important.
    Date: 2019
  20. By: Juan Morelli (NYU Stern); Diego Perez (New York University); Pablo Ottonello (University of Michigan)
    Abstract: We study the role of financial intermediaries in the global market for risky external debt. We first provide empirical evidence measuring the effect of global banks’ net worth on bond prices of emerging-market economies. We exploit within-borrower bond variation and show that, around the collapse of Lehman Brothers, bonds held by more distressed global banks experienced larger price contractions. We then construct a model of global banks’ lending to emerging economies and quantify their role using our empirical estimates and other key data. In the model, banks’ net worths affect bond prices by the combination of a form of market segmentation and banks’ financial frictions. We show that these banks’ exposure to emerging economies is the key to determine their role in propagating shocks. With the current observed exposure, global banks play an important role in transmitting shocks originating in developed economies, accounting for the bulk of the variation of spreads in emerging economies during the recent global financial crisis. Global banks help explain key patterns of debt prices observed in the data, and the evolution of their exposure over the last decades can explain the changing nature of systemic debt crises in emerging economies.
    Date: 2019
  21. By: Alessandro Dovis (University of Pennsylvania); Rishabh Kirpalani (University of Wisconsin)
    Abstract: We often observe regulators deviating from stated rules because they cannot resist the ex-post pressure to re-optimize. Examples include the regulation of financial firms (bailouts), fiscal rules, and currency boards. This paper studies the optimal design of regulation in a dynamic model when there is a time inconsistency problem and uncertainty about whether a regulator can commit to follow the rule ex-post. A regulator can either be a commitment type who can always commit to enforce regulation or an optimizing type who sequentially decides whether to enforce or not. This type is unobservable to private agents who learn who about it through the actions of the regulator. Higher beliefs that the regulator is the commitment type (the regulator’s reputation) helps promote good behavior by private agents. Consequently, we show that in a large class of economies, uncertainty about the type of the regulator helps provide incentives to private agents and thus allows for the implementation of good outcomes. Therefore, learning the type of the regulator can be costly. If the initial reputation is not too high, the optimal regulation is the strictest regulation that is incentive compatible for the optimizing type. We show that reputational considerations imply that the optimal regulation is more lenient than the one that would arise in a static environment. We study two applications of this framework. First, we study the design of the optimal inflation target in a dynamic Barro-Gordon model. Second, we study the design of optimal bailout policies when there is an underlying moral hazard problem and social costs associated with default. Contrary to conventional wisdom, we show that bailouts along the equilibrium path are necessary to discipline future risk-taking of financial firms.
    Date: 2019
  22. By: Alexander Ludwig (Research Center SAFE, Goethe University); Alexander Monge-Naranjo (Federal Reserve Bank of St. Louis); Ctirad Slavik (CERGE-EI); Faisal Sohail (University of Melbourne)
    Abstract: This paper estimates the effects of financial market deregulation on income inequality in the US. We find that different financial reforms had different implications for income inequality. Reforms in the 1970s through the 1980s, namely the removal of restrictions on intra- and inter-state banking and the elimination of ceilings on interest rates, decreased inequality by increasing incomes at the bottom of the income distribution, mainly of younger workers. In contrast, the 1999 repeal of the Glass-Steagal act increased inequality by increasing incomes at the top of the income distribution. We also document strong indirect effects of all three reforms on sectors other than Finance and Insurance (FI). Direct effects on workers in FI are mainly strong for the repeal of the Glass-Steagal act. Our findings suggest that for a better understanding of trends in inequality one should carefully distinguish between different types of financial market reforms, both empirically and theoretically.
    Date: 2019
  23. By: Haque, Qazi; Groshenny, Nicolas; Weder, Mark
    Abstract: The paper re-examines whether the Federal Reserve’s monetary policy was a source of instability during the Great Inflation by estimating a sticky-price model with positive trend inflation, commodity price shocks and sluggish real wages. Our estimation provides empirical evidence for substantial wage-rigidity and finds that the Federal Reserve responded aggressively to inflation but negligibly to the output gap. In the presence of non-trivial real imperfections and well-identified commodity price-shocks, U.S. data prefers a determinate version of the New Keynesian model: monetary policy-induced indeterminacy and sunspots were not causes of macroeconomic instability during the pre-Volcker era.
    JEL: E32 E52 E58
    Date: 2019–09–11
  24. By: Max Raskin; Fahad Saleh; David Yermack
    Abstract: This paper provides a systematic evaluation of the different types of digital currencies. We express skepticism regarding centralized digital currencies and therefore focus our economic analysis on private digital currencies. Specifically, we highlight the potential for private digital currencies to improve welfare within an emerging market with a selfish government. In that setting, we demonstrate that a private digital currency not only improves citizen welfare but also encourages local investment and enhances government welfare.
    JEL: E42 E5 E58
    Date: 2019–09
  25. By: Pelletier, Adeline; Khavul, Susanna; Estrin, Saul
    Abstract: Mobile money is a financial innovation that provides transfers, payments, and other financial services at a low or zero cost to individuals in developing countries where banking and capital markets are deficient and financial inclusion is low. We use transaction costs and institutional theories to explain the growth and impact of mobile money. Having developed a new archival dataset that tracks mobile money deployment across 90 emerging economies during 16 years between 2000 and 2015, we address the question of relative economic impact of the banking and telecoms sectors in the provision of mobile money. We show that telecom groups and not banks are more likely to launch mobile money in countries where legal rights are weaker and credit information less prevalent. However, it is when mobile money is offered via a banking channel that the spillover effects on the economy are greater. Findings have significant implications for policy and strategy.
    JEL: G21 M13 O33
    Date: 2019–09–09
  26. By: Eunseong Ma (Texas A&M University)
    Abstract: This study investigates the relation between monetary policy and inequality by asking how one affects the other: the effect of monetary policy on inequality and the impact of the long-run level of inequality on the effectiveness of monetary policy. To this end, I incorporate nominal wage contracts and cash-in-advance constraints into a heterogeneous agent model economy with indivisible labor. I find that expansionary monetary policy reduces income, wealth, and consumption inequalities mainly due to a rise in employment from the bottom of the distributions. There are heterogeneous effects on income across the wealth distribution: in response to an unanticipated monetary easing, households in the bottom of the wealth distribution benefit from an increase in employment while rich households benefit from a rise in the real asset returns in a relative sense. An unexpected monetary expansion also has asymmetric responses of consumption between the poor and the rich: asset-poor households increase their consumption while it falls for wealthy households. This implies that inflation hurts the rich more. I also find that the long-run prevailing levels of inequality matter for the effectiveness of monetary policy by determining the shape of reservation wage distribution. All else being equal, a more equal economy is associated with more effective monetary policy in terms of output. I also provide empirical evidence for this model result using state-level panel data: the effects of monetary policy shocks on output are larger for low-inequality states.
    Date: 2019
  27. By: Elena Deryugina (Bank of Russia, Russian Federation); Alexey Ponomarenko (Bank of Russia, Russian Federation)
    Abstract: We estimated a Non-Stationary Dynamic Factor model and used it to generate artificial episodes of disinflation (permanent change in the mean inflation rate). These datasets were used to test the forecasting abilities of alternative underlying inflation indicators (i.e. the measures that capture sustained movements in inflation extracted from information in a disaggregated set of price data). We found that the out of sample forecast errors of the benchmark underlying inflation measures (based on unobserved trend extraction) are more severely affected by disinflation than the alternative simpler methods (based on exclusion or reweighting approaches). We also show that a Non-Stationary Dynamic Factor model may be employed for extraction of the unobserved trend to be used as an underlying inflation measure.
    Keywords: Underlying inflation, Non-Stationary Dynamic Factor model, Russia.
    JEL: E31 E32 E52 C32
    Date: 2019–09
  28. By: Joseph Haslag (University of Missouri-Columbia)
    Abstract: Central bank communications need interpretation. We contribute to the communications literature by focusing on the effort expended on deciphering central bank communications. We build a model economy in which banks provide a deposit/insurance function for consumers subject to idiosyncratic liquidity shocks. Though ex ante identical, banks exhibit ex post heterogeneity by choosing different predictors that vary in terms of accuracy with respect to the expected future return on money. In the literature with heterogeneous forecasts, the modelling approach has relied on stochastic costs as the primary force accounting for the coexistence of different predictors in equilibrium. Here, model the problem as a willingness to pay for different predictors; each predictor has a different forecast accuracy with more accurate predictors resulting in higher expected utility. By the concavity of the consumer’s utility function, there exists a willingness-to-pay which satisfies an indifference condition. More accurate forecast predictors correspond with greater willingness-to-pay amounts. The resources expended to obtain a more accurate forecast correspond with the bank’s processing of the central bank’s communications. Hence, we interpret the willingness to pay as Fed watching. The model with Fed watching exhibits local stability, while we derive conditions in which no Fed watching results in local instability. We further apply this approach to a banking economy in which the returns to one asset are subject to a fractional externality; that is, the return to one asset is negatively related to the fraction of banks holding that asset. The approach is designed to capture how herding and the regulatory settings are related to what the central bank knows (and communicates) about bank operations.
    Date: 2019
  29. By: Angelini, Elena; Bokan, Nikola; Christoffel, Kai; Ciccarelli, Matteo; Zimic, Srečko
    Abstract: This paper presents the blueprint of a new ECB multi-country model. The version documented in the following pages is estimated on euro area data. As a prelude to the country models, this version is meant to enhance the understanding of the main model mechanisms, enlarge the suite of area wide tools, and provide a tool for a top down approach between euro area and country modelling. The model converges to a well-defined steady state and its properties are in line with macroeconomic theory and standard empirical benchmarks. The design is aligned to its role as workhorse model in the context of the forecasting and policy simulation exercises at the ECB. JEL Classification: C3, C5, E1, E2, E5
    Keywords: euro area, forecasting, monetary policy, Semi-structural model, simulations
    Date: 2019–09

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