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on Central Banking |
| By: | Horst, Maximilian; Neyer, Ulrike |
| Abstract: | In March 2015, the Eurosystem launched its QE-programme. The asset purchases induced a rapid and strong increase in excess reserves, implying a structural liquidity surplus in the euro area banking sector. Against this background, the first part of this paper analyses the Eurosystem's liquidity management during normal times, crisis times and times of too low in ation. With a focus on the latter, the second part of this paper develops a relatively simple theoretical model in which banks operate under a structural liquidity surplus. The model shows that increasing excess reserves have no or even a contractionary impact on bank loan supply. As the newly created excess reserves are heterogeneously distributed across euro area countries, the impact of QE on bank loan supply may differ across countries. Moreover, we derive implications for monetary policy implementation. Increases in the central bank's main refinancing rate as well as in the minimum reserve ratio and decreases in the central bank's deposit rate develop expansionary effects on loan supply - contrary to the case in which banks face a structural liquidity deficit. |
| Keywords: | monetary policy,quantitative easing (QE),monetary policy implementation,excess liquidity,loan supply,bank lending channel |
| JEL: | E43 E51 E52 E58 G21 |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:zbw:dicedp:325&r=all |
| By: | Sushant Acharya; Edouard Challe (CREST & Ecole Polytechnique); Keshav Dogra (Federal Reserve Bank of New York) |
| Abstract: | In this paper, we study the positive and normative implications for monetary policy of cross-sectional wealth dispersion due to uninsured, idiosyncratic labor-income risk. To this purpose we develop a tractable Heterogenous-Agent New Keynesian (HANK) model based on CARA (Constant Absolute Risk Aversion) utility functions and Normally distributed labor-income risk. The distributions of wealth, earnings and consumptions, as well as their dynamics over time, can be solved in closed form, which informs us about the precise impact of monetary policy on those cross-sectional distributions. The Social Welfare Function (SWF) that aggregates agents utility can also be solved in closed form. Besides its usual determinants, the optimal policy response to aggregate shocks gives a central role to (i) the redistribution of wealth through inflation (as emphasized by Bhandari et al., 2018), and (ii) the impact of policy on the marginal propensity to consume out of wealth, which determines the pass-through from income risk to consumption risk |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed019:381&r=all |
| By: | Francesco Bianchi; Leonardo Melosi; Matthias Rottner |
| Abstract: | Since the 2001 recession, average core inflation has been below the Federal Reserve’s 2% target. This deflationary bias is a predictable consequence of a low nominal interest rates environment in which the central bank follows a symmetric strategy to stabilize inflation. The deflationary bias increases if macroeconomic uncertainty rises or the natural real interest rate falls. An asymmetric rule according to which the central bank responds less aggressively to above-target inflation corrects the bias and allows inflation to converge to the central bank’s target. We show that adopting this asymmetric rule improves welfare and reduces the risk of self-fulfilling deflationary spirals. This approach does not entail any history dependence in setting the policy rate or any commitment to overshoot inflation after periods in which the lower bound constraint was binding. |
| JEL: | D84 E31 E51 E62 E63 |
| Date: | 2019–09 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:26279&r=all |
| By: | Tsutomu Watanabe (Graduate School of Economics, University of Tokyo); Tomoyoshi Yabu (Faculty of Business and Commerce, Keio University) |
| Abstract: | This paper estimates a money demand function using Japanese data from 1985 to 2017, which includes the period of near-zero interest rates over the last two decades. We compare a log-log specification and a semi-log specification by employing the methodology proposed by Kejriwal and Perron (2010) on cointegrating relationships with structural breaks. Our main finding is that there exists a cointegrating relationship with a single break between the money-income ratio and the interest rate in the case of the log-log form but not in the case of the semi-log form. More specifically, we show that the substantial increase in the money-income ratio during the period of near-zero interest rates is well captured by the log-log form but not by the semi-log form. We also show that the demand for money did not decline in 2006 when the Bank of Japan terminated quantitative easing and started to raise the policy rate, suggesting that there was an upward shift in the money demand schedule. Finally, we find that the welfare gain from moving from 2 percent inflation to price stability is 0.10 percent of nominal GDP, which is more than six times as large as the corresponding estimate for the United States. |
| Keywords: | money demand function; cointegration; structural breaks; zero lower bound; welfare cost of inflation; log-log form; semi-log form; interest elasticity of money demand |
| JEL: | C22 C52 E31 E41 E43 E52 |
| Date: | 2019–09 |
| URL: | http://d.repec.org/n?u=RePEc:upd:utmpwp:013&r=all |
| By: | Skander Van den Heuvel (Federal Reserve Board) |
| Abstract: | The stringency of bank liquidity and capital requirements should depend on their social costs and benefits. This paper investigates the welfare effects of these regulations and provides a quantification of their welfare costs. The special role of banks as liquidity providers is embedded in an otherwise standard general equilibrium growth model. In the model, capital and liquidity regulation mitigate moral hazard on the part of banks due to deposit insurance, which, if unchecked, can lead to excessive risk taking by banks through credit or liquidity risk. However, these regulations are also costly because they reduce the ability of banks to create net liquidity and they can distort capital accumulation. For the liquidity requirement, the reason is that safe, liquid assets are necessarily in limited supply and may have competing uses. A key insight is that equilibrium asset returns reveal the strength of preferences for liquidity, and this yields two simple formulas that express the welfare cost of each requirement as a function of observable variables only. Using U.S. data, the welfare cost of a 10 percent liquidity requirement is found to be equivalent to a permanent loss in consumption of about 0.03%. Even using a conservative estimate, the cost of a similarly-sized increase in the capital requirement is about five times as large. At the same time, the financial stability benefits of capital requirements are also found to be broader. |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed019:325&r=all |
| By: | Maurício S. Bugarin; Fabia A. de Carvalho |
| Abstract: | This paper analyzes a signaling model of monetary policy when inflation targets are not set by the monetary authority. The most important implication of the model’s solution is that a higher ex-ante dispersion in central bankers’ preferences, referred to as heterogeneity in policy orientation, increases the signaling cost of commitment to inflation targets. The model allows for a comparison of two distinct institutional arrangements regarding the tenure in office of the central banker and the head of government. We find that staggered terms yield superior equilibria when opportunistic political business cycles can arise from presidential elections. This is a consequence of a reduction of information asymmetry about monetary policy and gives theoretic support to the observed practice of staggered terms among independent central banks |
| Date: | 2019–09 |
| URL: | http://d.repec.org/n?u=RePEc:bcb:wpaper:501&r=all |
| By: | Leilane de Freitas Rocha Cambara; Roberto Meurer, Gilberto Tadeu Lima |
| Abstract: | The aim of this paper is to investigate whether inflation expectations in Brazil have characteristics and statistical properties that can be correlated (possibly in a causal way) with observed variables of interest and expectations about them. We test the hypothesis of perfect foresight in the formation of inflation expectations by the respondents of the official survey conducted by the Central Bank of Brazil, examining the behavior of the possible forecast errors. As these errors are biased and can be predicted, we reject the hypothesis of perfect foresight. We also test models of noisy and sticky information, and we cannot conclude that the deviations from perfect foresight can be explained by information rigidity. Additionally, with a Vector Error Correction model, we find evidence that the expectations about the related macroeconomic variables respond to each other as predicted by a theoretically-grounded macroeconomic model. Therefore, inflation expectations in Brazil are to an important extent consistent with more general expectations about the future performance of the economy. |
| Keywords: | Inflation expectations in Brazil; forecast errors in surveys; deviations from perfect foresight |
| JEL: | D84 E10 E31 |
| Date: | 2019–09–20 |
| URL: | http://d.repec.org/n?u=RePEc:spa:wpaper:2019wpecon36&r=all |
| By: | Guillermo A. Calvo |
| Abstract: | The paper discusses simple microfoundations for Liquidity Deflation (Calvo 2016, Chapter 2), which gives rise to liquidity trap under perfectly flexible prices/wages. Unlike Keynes (1936), this is a Supply Side Liquidity Trap, SSLT, not resolved by a fall in prices /wages, or massive helicopter increase in liquid government liabilities. However, escaping SSLT could be achieved by low policy interest rates on money (unless ZLB holds) and, more interestingly, higher inflation driven by administered prices/wages. Moreover, contrary to (Friedman 1969), under Liquidity Deflation the Optimal Quantity of Money does not call for liquidity satiation, and may be dangerously close to SSLT. |
| JEL: | E31 E4 E41 E5 E52 |
| Date: | 2019–09 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:26277&r=all |
| By: | Sophie van Huellen (Department of Economics, SOAS University of London, UK); Duo Qin (Department of Economics, SOAS University of London, UK); Shan Lu (School of Economics and Management, Beihang University, China PR.); Huiwen Wang (School of Economics and Management, Beihang University, China PR.); Qingchao Wang (Department of Economics, SOAS University of London, UK); Thanos Moraitis (Department of Economics, SOAS University of London, UK) |
| Abstract: | We apply a novel model-based approach to constructing composite international financial indices (CIFIs) as measures of opportunity cost effects that arise due to openness in money demand models. These indices are tested on the People’s Republic of China (PRC) and Taiwan Province of China (TPC), two economies which differ substantially in size and degree of financial openness. Results show that a) stable money demand equations can be identified if accounting for foreign opportunity costs through CIFIs, b) the monetary policy intervention in the PRC over the global financial crisis period temporarily mitigated disequilibrating foreign shocks to money demand, c) CIFIs capture opportunity costs due to openness more adequately than commonly used US interest rates and d) CIFI construction provides valuable insights into the channels through which foreign financial markets affect domestic money demand. |
| Keywords: | money demand, opportunity cost, open economy |
| JEL: | E41 F41 C22 O53 |
| Date: | 2019–08 |
| URL: | http://d.repec.org/n?u=RePEc:soa:wpaper:225&r=all |
| By: | Emile van Ommeren; Giulia Piccillo |
| Abstract: | This paper examines the role of central bank governors in monetary policy decisions taken by a committee. To carry out this analysis, we constructed a novel dataset of committee voting behaviour for six OECD countries for up to three decades. Using a range of Taylor-rule specifications, we show that a change in governor significantly affects the interest rate setting of the whole committee. We also observe systematic differences in the responsiveness to recent changes in the state of the economy based on the political party appointing the governor, with higher responsiveness under governors that are appointed by a left-wing political authority. In contrast, right wing appointed governors are more likely to consider expected economic developments in the future when deciding on the appropriate interest rate. |
| Keywords: | monetary policy, Taylor rule, central bank governors |
| JEL: | E00 |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:ces:ceswps:_7822&r=all |
| By: | Massimo Guidolin; Manuela Pedio |
| Abstract: | We investigate the effects of a conventional monetary expansion, the quantitative easing, and maturity extension programs on the yields of corporate bonds. We adopt a multiple-regime VAR identification based on heteroskedasticity. An impulse response function analysis shows that a traditional, rate based expansionary policy leads to an increase in yields. The response to quantitative easing is instead a general and persistent decrease, in particular for long-term bonds. The responses generated by the maturity extension program are significant and of larger magnitude. A decomposition shows that the unconventional programs reduce the cost private debt primarily through a reduction in risk premia. |
| Keywords: | unconventional monetary policy; transmission channels; heteroskedasticity; vector autoregressions; identification; corporate bond yields. |
| JEL: | G12 C32 G14 |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:baf:cbafwp:cbafwp19118&r=all |
| By: | Christian R. Proaño; Benjamin Lojak |
| Abstract: | In this paper we investigate the risk-related effects of monetary policy in normal times, as well as in periods where the zero lower bound (ZLB) binds, in a stylized macroeconomic model with boundedly rational beliefs. In our model, financial market participants use heuristics to assess the risk premium over the policy rate in accordance to an “implicit Taylor rule” that measures the stance of conventional monetary policy and which serves as an informative instrument during times when the funds rate is constrained by the ZLB. In such a case, conventional monetary policy is exhausted so that the central bank is forced to use unconventional types of policy. We propose alternative monetary policy measures to help the economy out of the liquidity trap which take into account this assumed form of bounded rationality. |
| Keywords: | Behavioral Macroeconomics, Monetary Policy, Zero Lower Bound, Bounded Rationality |
| Date: | 2019–09 |
| URL: | http://d.repec.org/n?u=RePEc:een:camaaa:2019-73&r=all |
| By: | Florin Bilbiie (University of Lausanne) |
| Abstract: | An analytical (heterogeneous-agent New-Keynesian) HANK model allows a closed-form treatment of a wide range of NK topics: determinacy properties of interest-rate rules, resolving the forward guidance FG puzzle, amplification and fiscal multipliers, liquidity traps, and optimal monetary policy. The key channel shaping all the model's properties is that of cyclical inequality: whether the income of constrained agents moves less or more than proportionally with aggregate income. With countercyclical inequality, good news on aggregate demand gets compounded, making determinacy less likely and aggravating the FG puzzle (the resolution of which requires procyclical inequality)---a Catch-22, because countercyclical inequality is what HANK (and TANK) models need to deliver desirable amplification. The dilemma can be resolved if a distinct, "cyclical-risk" channel is procyclical enough. Even when both channels are countercyclical a Wicksellian rule of price-level targeting ensures determinacy and cures the puzzle. Optimal monetary policy is isomorphic to RANK and TANK but calls for less inflation stabilization. In a liquidity trap, even with countercyclical inequality and FG amplification, optimal policy does not imply larger FG duration because as FG power increases, so does its welfare cost. |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed019:178&r=all |
| By: | Kosuke Aoki (University of Tokyo); Hibiki Ichiue (Bank of Japan); Tatsushi Okuda (Bank of Japan) |
| Abstract: | Many developed economies in recent years have been characterized by a tight labor market and a low inflation environment, a phenomenon referred to as "missing inflation." To explain this phenomenon, we develop a dispersed information model in which consumers' search for cheaper prices affects firms' pricing behavior. The model shows that firms are reluctant to pass through cost increases because they fear a disproportionate decline in their sales. A history of low and stable inflation amplifies this effect by decreasing consumers' inflation beliefs. In this case, enhancement of the central bank's communication regarding its inflation target more firmly anchors consumers' inflation beliefs and makes the Phillips curve flatter, while enhancement of the central bank's communication about the current aggregate price level has the opposite effect. |
| Keywords: | missing inflation; imperfect information; price search; communication |
| JEL: | D82 E31 E58 |
| Date: | 2019–09–20 |
| URL: | http://d.repec.org/n?u=RePEc:boj:bojwps:wp19e14&r=all |
| By: | Xing Guo (University of Michigan); Pablo Ottonello (University of Michigan); Toni Whited (University of Michigan) |
| Abstract: | We study the transmission of monetary policy though firms' equity financing. At the aggregate level, we document that firms respond to monetary expansions by increasing equity issuance, and that the response of equity flows is quantitatively more important than that of debt flows. At the micro level, we show that monetary stimulus significantly mitigates the stock price drop associated equity issuance, suggesting a reduction in the asymmetric information premium in equity markets. Motivated by this evidence, we construct a corporate finance model of equity financing under asymmetric information that can rationalize these findings. We use the model to study its aggregate implications. Monetary policy affects the composition of investment, by making firms with high productivity projects more willing to use external finance. If the arrival rate of investment opportunities is given, this means that monetary stimulus can contain the seeds of a subsequent productivity slowdown. |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed019:1341&r=all |
| By: | Seungduck Lee (Department of Economics, Sungkyunkwan University, Seoul, Republic of Korea); Kuk Mo Jung (Department of Economics, Sogang University, Seoul) |
| Abstract: | A new monetary theory is set out to resolve the “Uncovered Interest Parity (UIP)†Puzzle. It explores the possibility that liquidity properties of money and nominal bonds can account for the puzzle. A key concept in our model is that nominal bonds carry liquidity premia. We show that the UIP can fail to hold under the economic environment where collateral pledgeability and/or liquidity of nominal bonds and/or collateralized credit based transactions are relatively bigger. Our liquidity based theory can help understanding many empirical observations that risk based explanations find difficult to reconcile with. |
| Keywords: | uncovered interest parity puzzle, monetary search models, FOREX market |
| JEL: | E4 E31 E51 F31 |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:sgo:wpaper:1902&r=all |
| By: | Nicolas Caramp (UC Davis); Dejanir Silva (UIUC) |
| Abstract: | We revisit the monetary paradoxes of standard monetary models in a liquidity trap and study the channels through which they occur. We focus on two paradoxes: the Forward Guidance Puzzle and the Para- dox of Flexibility. First, we propose a decomposition of consumption into substitution and wealth effects, both of which take into account the general equilibrium effects on output and ination, and we show that the substitution effect cannot account for the puzzles. Instead, mon- etary paradoxes are the result of strong wealth effects which, generi- cally, are solely determined by the expected scal response to the mon- etary shocks. We estimate the scal response to monetary policy shocks with US data and nd responses with the opposite sign to the ones im- plied by the standard equilibrium. Finally, we introduce the estimated scal responses into a medium-size DSGE model. We nd that the impulse-response of consumption and ination do not match the data, suggesting that wealth effects induced by scal policy may be impor- tant even outside of the liquidity trap. We show that models with con- strained agents can produce strong wealth effects if gross private debt is different than zero. |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed019:1281&r=all |
| By: | Kuk Mo Jung (Department of Economics, Sogang University, Seoul); Ju Hyun Pyun (Korea University Business School,) |
| Abstract: | Using data on 70 emerging countries for 1990-2011, we re-examine the validity of both traditional and recently proposed determinants of international reserves. The dynamic panel model considers panel unit root, endogeneity, and country heterogeneity and reveals that not only traditional determinants but also new financial variables—M2/GDP and foreign capital inflows through over-the-counter markets— have significant effects on reserves hoarding. More importantly, out-of-sample forecasts show that the dynamic model yields the best goodness-of-fit, and its predicted values successfully account for the recent patterns in reserve accumulations. |
| Keywords: | foreign exchange reserves, dynamic panel estimation, out-of-sample analysis, emerging economies, over-the-counter markets |
| JEL: | C23 E44 E58 F21 F31 |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:sgo:wpaper:1904&r=all |
| By: | Marcos R. Castro |
| Abstract: | We develop and estimate a closed economy DSGE model with banking sector to assess the impact of introducing sectoral countercyclical capital buffers as a macroprudential tool. The model is developed to represent Brazilian bank credit markets. It features three types of bank credit — housing, consumer and commercial — as well as loans provided by a development bank. Loans are long-term, and government regulates housing loans, influencing both interest rates and loan supply. Banks are subject to bank capital requirement, and both broad (CCyB) and sectoral (SCCyB) countercyclical buffers can be introduced by macroprudential authorities. We simulate alternative policies using SCCyBs and CCyB with implementable nonlinear rules using broad and sectoral credit gaps as indicators, and compared the resulting performances. We conclude that, compared with CCyB alone, SCCyBs provide a more flexible set of instruments that allows achieving better macroeconomic stabilization in terms of variances of credit, total capital requirement and capital adequacy ratio. However, the marginal benefit of those SCCyB policies relative to the CCyB-only policy is lower than the improvements obtained by this latter policy compared with the reference scenario with no buffer. Also, SCCyB policies imply more frequent intervention, suggesting that in practice introducing these additional instruments may require more complex implementation procedures. |
| Date: | 2019–09 |
| URL: | http://d.repec.org/n?u=RePEc:bcb:wpaper:503&r=all |
| By: | Norring, Anni |
| Abstract: | In this paper I study how the effects of nationally implemented macroprudential policy spill across borders via international lending. For a set of 157 countries, I estimate a gravity model applied to international banking where the use of different macroprudential policy measures enter as friction variables. My findings support the existence of cross-border spillovers from macroprudential policy. Moreover, I find that the overall effect from more macroprudential regulation is highly dependent on the income group of the countries in which banks operate: The effect is of opposite sign for advanced and for emerging economies. I argue that the difference may tell of banks having more opportunities for regulatory arbitrage in emerging market economies. JEL Classification: F42, G15, G21 |
| Keywords: | international banking, macroprudential policy, policy spillovers |
| Date: | 2019–09 |
| URL: | http://d.repec.org/n?u=RePEc:srk:srkwps:2019101&r=all |
| By: | Peter Hördahl; Oreste Tristani |
| Abstract: | We propose a regime-switching approach to deal with the lower bound on nominal interest rates in dynamic term structure modelling. In the "lower bound regime", the short term rate is expected to remain constant at levels close to the effective lower bound; in the "normal regime", the short rate interacts with other economic variables in a standard way. State-dependent regime switching probabilities ensure that the likelihood of being in the lower bound regime increases as short rates fall closer to zero. A key advantage of this approach is to capture the gradualism of the monetary policy normalization process following a lower bound episode. The possibility to return to the lower bound regime continues exerting an influence in the early phases of normalization, pulling expected future rates downwards. We apply our model to U.S. data and show that it captures key properties of yields at the lower bound. In spite of its heavier parameterization, the regime-switching model displays a competitive out-of-sample forecasting performance. It can also be used to gauge the risk of a return to the lower bound regime in the future. As of mid-2018, it provides a more benign assessment than alternative measures. |
| Keywords: | zero lower bound, term premia, term structure of interest rates, monetary policy rate expectations, regime switches |
| JEL: | E31 E40 E44 E52 E58 E62 E63 |
| Date: | 2019–09 |
| URL: | http://d.repec.org/n?u=RePEc:bis:biswps:813&r=all |
| By: | Athanasios Geromichalos (Department of Economics, University of California, Davis); Kuk Mo Jung (Department of Economics, Sogang University, Seoul) |
| Abstract: | We develop a monetary model that incorporates Over-the-Counter (OTC) asset trade. After agents have made their money holding decisions, they receive an idiosyncratic shock that affects their valuation for consumption and, hence, for the unique liquid asset, namely, money. Subse- quently, agents can choose whether they want to enter the OTC market in order to sell assets and, thus, boost their liquidity, or to buy assets and, thus, provide liquidity to other agents. In our model inflation affects not only the money holding decisions of agents, as is standard in monetary theory, but also the entry decision of these agents in the financial market. We use our framework to study the effect of inflation on welfare, asset prices, and OTC trade volume. In contrast to most monetary models, which predict a negative relationship between inflation and welfare, we find that inflation can be welfare improving within a certain range, because it mitigates a search externality that agents impose on one another when they make their OTC market entry decision. Also, an increase in the holding cost of money will lead to a decrease in asset prices, a regularity which is well-documented in the data and often considered anomalous. |
| Keywords: | monetary-search models, liquidity, asset prices, over-the-counter markets |
| JEL: | E31 E50 E52 G12 |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:sgo:wpaper:1903&r=all |
| By: | Bersson, Betsy; Hürtgen, Patrick; Paustian, Matthias |
| Abstract: | At the zero lower bound (ZLB), expectations about the future path of monetary or fiscal policy are crucial. We model expectations formation under level-k thinking, a form of bounded rationality introduced by García-Schmidt and Woodford (2019) and Farhi and Werning (2017), consistent with experimental evidence. This process does not lead to a number of puzzling features from rational expectations models, such as the forward guidance and the reversal puzzle, or implausible large fiscal multipliers. Optimal monetary policy at the ZLB under level-k thinking prescribes keeping the nominal rate lower for longer, but short-run macroeconomic stabilization is less powerful compared to rational expectations. |
| Keywords: | expectations formation,optimal monetary policy,New Keynesian model,zero lower bound,forward guidance puzzle,reversal puzzle,fiscal multiplier |
| JEL: | E32 |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:zbw:bubdps:342019&r=all |
| By: | Igor Livshits (Federal Reserve Bank of Philadelphia); Youngmin Park (Bank of Canada) |
| Abstract: | Loose financial regulation encourages some banks to adopt a risky strategy of specializing in residential mortgages. In the event of an adverse aggregate housing shock, these banks fail. When banks do not fully internalize the losses from such failure (due to limited liability or deposit insurance), they offer mortgages at less than actuarially fair interest rates. This opens a door to home-ownership for some young low net-worth individuals. In turn, the additional demand from these new home-buyers drives up house prices. All of this leads to non-trivial distribution of gains and losses from lax regulation amongst the households. Renters and individuals with large non-housing wealth suffer from the fragility of the banking system induced by the lax regulation. On the other hand, some young middle-income households are able to get a mortgage and buy a house, thus benefiting from the lax regulation. Furthermore, the current (old) homeowners benefit from the increase in the price of their houses. If the latter two groups constitute a majority of the population, then regulatory failure can be an outcome of a democratic political process. |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed019:1465&r=all |
| By: | John Duffy (University of California, Irvine); Daniela Puzzello (Indiana University) |
| Abstract: | We explore the celebrated Friedman rule for optimal monetary policy in the context of a laboratory economy based on the Lagos-Wright model. The rule that Friedman proposed can be shown to be optimal in a wide variety of different monetary models, including the Lagos-Wright model. However, we are not aware of any prior empirical evidence evaluating the welfare consequences of the Friedman rule. We explore two implementations of the Friedman rule in the laboratory. The first is based on a deflationary monetary policy where the money supply contracts to offset time discounting. The second implementation pays interest on money removing the private marginal cost from holding money. We explore the welfare consequences of these two theoretically equivalent implementations of the Friedman Rule and compare results with two other policy regimes, a constant money supply regime and another regime advocated by Friedman, where the supply of money grows at a constant k-percent rate. We find that, counter to theory, the Friedman rule is not welfare improving, performing no better than a constant money regime. By one welfare measure, we find that the k-percent money growth rate regime performs best. |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed019:541&r=all |
| By: | Sergio Rubens Stancato de Souza; Thiago Christiano Silva Carlos Eduardo de Almeida; Carlos Eduardo de Almeida |
| Abstract: | We investigate the effectiveness of bail-in mechanisms in mitigating systemic risk and welfare costs to society during resolution processes. To perform this study, we define a network model of mutually exposed banks and use it to simulate the effects of shocks to these banks using granular data of the Brazilian banking system, its interbank exposures and credit register operations. In the simulations, we compare the outcomes of these initial shocks after resolution processes with and without bail-ins. The simulations show that by avoiding the liquidation of banks and the resulting interruption in their credit provision, bail-ins would be effective in preventing the amplification of losses imposed on the real sector. Analyzing the effects that the liquidation of Brazilian Domestic Systemically Important Banks (D-SIBs) would cause to credit provision to economic sectors, we find bailing in these banks would produce a relevant decrease in credit crunches. However, in our sample, only a few banks could benefit from bail-ins due to insufficiency of bail-inable instruments. To tackle this issue, we carry out a study based on counterfactual simulations to assess if and how setting requirements for bail-inable instruments would affect the likelihood of a successful bail-in. We find the number of small and medium banks that could benefit from a bail-in would grow substantially for small increases in these requirements. |
| Date: | 2019–09 |
| URL: | http://d.repec.org/n?u=RePEc:bcb:wpaper:504&r=all |
| By: | Athanasios Geromichalos (Department of Economics, University of California, Davis); Kuk Mo Jung (Department of Economics, Sogang University, Seoul); Seungduck Lee (Department of Economics, Sungkyunkwan University, Seoul, Republic of Korea); Dillon Carlos (Department of Economics, University of California, Davis) |
| Abstract: | Economists often say that certain types of assets, e.g., Treasury bonds, are very ‘liquid’. Do they mean that these assets are likely to serve as media of exchange or collateral (a definition ofliquidityoftenemployedinmonetarytheory), orthattheycanbeeasilysoldinasecondary market, if needed (a definition of liquidity closer to the one adopted in finance)? We develop a model where these two notions of asset liquidity coexist, and their relative importance is determined endogenously in general equilibrium: how likely agents are to visit a secondary market in order to sell assets for money depends on whether sellers of goods/services accept these assets as means of payment. But, also, the incentive of sellers to invest in a technology that allows them to recognize and accept assets as means of payment depends on the exis- tence (and efficiency) of a secondary market where buyers could liquidate assets for cash. The interaction between these two channels offers new insights regarding the determination of asset prices and the ability of assets to facilitate transactions and improve welfare. |
| Keywords: | Information, Over-the-Counter , Searchnd Matxhg, Liquidity, Asset prices, Monary policy |
| JEL: | E4 G11 G12 G14 |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:sgo:wpaper:1905&r=all |
| By: | Enrique Alberola (BIS); Carlos Urrutia (ITAM) |
| Abstract: | Informality is an entrenched structural trait in emerging market economies, despite of the progresses achieved in macroeconomic management. Informality determines the behavior of labour markets, financial access and the productivity of the overall economy. Therefore it influences the transmission of shocks and also of monetary policy. This paper develops a simple general equilibrium closed economy model with nominal rigidities, labor and financial frictions. Informality is captured by a dual labour market where the share of informal workers is endogenous. Only formal sector firms have access to financing, which is instrumental in their production process. Informality has a bu↵ering e↵ect on the propagation of demand and supply shocks to prices; the financial feature of the model boosts the impact of financial shocks in the formal sector while the informal sector is in principle unaffected. As a result informality dampens the impact of demand and financial shocks on wages and inflation but heighten the impact of technology shocks. Informality also increases the sacrifice ratio of monetary policy actions. From a Central Bank perspective, the results imply that the presence of an informal sector mitigates inflation volatility for some type of shocks but makes monetary policy less effective. |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed019:216&r=all |
| By: | Oscar Jorda (Federal Reserve Bank of San Francisco an); Alan Taylor (University of California, Davis); Sanjay Singh (University of California, Davis) |
| Abstract: | A well-worn tenet holds that monetary policy does not affect the long-run productive capacity of the economy. Merging data from two new international historical databases, we find this not to be quite right. Using the trilemma of international finance, we find that exogenous variation in monetary policy affects capital accumulation, and to a lesser extent, total factor productivity, thereby impacting output for a much longer period of time than is customarily assumed. We build a quantitative medium- scale DSGE model with endogenous TFP growth to understand the mechanisms at work. Following a monetary shock, lower output temporarily slows down TFP growth. Internal propagation of the monetary shock extends the slow down in productivity, and eventually lowers trend output. Yet the model replicates conventional textbook results in other dimensions. Monetary policy can have long-run effects. |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed019:1307&r=all |
| By: | Franziska Bremus; Melina Ludolph |
| Abstract: | Since the global financial crisis and the related restructuring of banking systems, bank concentration is on the rise in many countries. Consequently, bank size and its role for macroeconomic volatility (or: stability) is the subject of intense debate. This paper analyzes the effects of financial regulations on the link between bank size, as measured by the volume of the loan portfolio, and volatility. Using bank-level data for 1999 to 2014, we estimate a power law that relates bank size to the volatility of loan growth. The effect of regulation on the power law coefficient indicates whether regulation weakens or strengthens the size-volatility nexus. Our analysis reveals that more stringent capital regulation and the introduction of bank levies weaken the size-volatility nexus; in countries with more stringent capital regulation or levies in place, large banks show, ceteris paribus, lower loan portfolio volatility. Moreover, we find weak evidence that diversification guidelines weaken the link between size and volatility. |
| Keywords: | Bank size, regulation, volatility, diversification, moral hazard, power law |
| JEL: | G21 G28 E32 |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:diw:diwwpp:dp1822&r=all |
| By: | Huertas, Thomas F. |
| Abstract: | To complete banking union, there should be a single European deposit insurance scheme (EDIS) alongside the single supervisor and the single resolution authority. This would ensure uniformity across the Eurozone and facilitate the removal of barriers to the mobility of liquidity and capital within the single market. That in turn would promote efficiency in the banking sector and in the economy at large - just at the time that the EU needs to boost growth in order to remain competitive with the US and China. The EDIS promise to promptly reimburse insured deposits at a failed bank in the Eurozone should be unconditional. But who will stand behind that commitment? Who is the "E" in EDIS? Is its promise credible, even in a crisis? If a deposit guarantee scheme fails to deliver what people expect, panic would very likely erupt. Instead of strengthening financial stability, deposit insurance could destroy it. Yet this is the risk that current proposals pose. They create the impression that there will be a single deposit guarantee scheme. There will not. Instead, there will be a complex set of liquidity and reinsurance arrangements among Member State schemes. These defects need to be remedied. To do so, we propose creating a European Deposit Insurance Corporation (EDIC) alongside national schemes. For banks that meet EDIC's strict entry criteria and decide to become members, EDIC will promise to reimburse promptly - in the event the member bank fails - 100 cents on the euro in euro for each euro of insured deposits, regardless of the Eurozone Member State in which the bank is headquartered. In effect, the single deposit guarantee scheme would be created via migration to EDIC rather than mutualisation of existing schemes. This would increase the mobility of capital and liquidity and lead to a convergence of interest rates across the Eurozone. That in turn will improve the effectiveness of monetary policy, foster integration and promote growth. |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:zbw:safewh:63&r=all |