nep-cba New Economics Papers
on Central Banking
Issue of 2020‒11‒09
eighteen papers chosen by
Sergey E. Pekarski
Higher School of Economics

  1. The strategic response of banks to macroprudential policies: Evidence from mortgage stress tests in Canada By Robert Clark; Shaoteng Li
  2. Setting New Priorities for the ECB's Mandate By Christophe Blot; Jérôme Creel; Emmanuelle Faure; Paul Hubert
  3. Money markets, central bank balance sheet and regulation By Corradin, Stefano; Eisenschmidt, Jens; Hoerova, Marie; Linzert, Tobias; Schepens, Glenn; Sigaux, Jean-David
  4. Monetary policy effects in times of negative interest rates: What do bank stock prices tell us? By Joost Bats; Massimo Giuliodori; Aerdt Houben
  5. The neutral rate in Canada: 2020 update By Dmitry Matveev; Julien McDonald-Guimond; Rodrigo Sekkel
  6. Even Keel and the Great Inflation By Victoria Consolvo; Owen F. Humpage; Sanchita Mukherjee
  7. Owner Occupied Housing, Inflation and Monetary Policy By Robert J. Hill; Miriam Steurer; Sofie R. Waltl
  8. Is Price Level Targeting a Robust Monetary Rule? By Szabolcs Deak; Paul Levine; Afrasiab Mirza; Joseph Pearlman
  9. Monetary Policy, Prudential Policy, and Bank's Risk-Taking: A Literature Review By Melchisedek Joslem Ngambou Djatche
  10. Fire Sales, the LOLR and Bank Runs with Continuous Asset Liquidity By Ulrich Bindseil; Edoardo Lanari
  11. Sectoral Labor Mobility and Optimal Monetary Policy By Alessandro Cantelmo; Giovanni Melina
  12. Bank capital forbearance and serial gambling By Martynova, Natalya; Perotti, Enrico C.; Suárez, Javier
  13. Central banks at the heart of ecological reconstruction By Étienne Espagne, AFD -; Antoine Godin, AFD -; Thomas Mélonio, AFD
  14. Monetary Policy and Speculative Asset Markets By Gregor Boehl
  15. How Shocks Affect International Reserves? A Quasi-Experiment of Earthquakes By Yothin Jinjarak; Ilan Noy; Quy Ta
  16. One Country - Two Monetary Policies: Evidence from a new indicator of the PBoC¡äs monetary policy support for poor regions By Makram El-Shagi; Jiang Lunan
  17. Deciphering Federal Reserve Communication via Text Analysis of Alternative FOMC Statements By Taeyoung Doh; Dongho Song; Shu-Kuei X. Yang
  18. Liquidity, Interbank Network Topology and Bank Capital By Aref Ardekani

  1. By: Robert Clark (Queen's University); Shaoteng Li
    Abstract: Following the crisis, macroprudential regulations targeting mortgage-market vulnerabilities were widely adopted, their success often depending on intermediaries' responses. We show that Canadian banks behaved strategically to limit the potency of recently implemented mortgage stress tests, requiring borrower qualification based on the mode of 5-year rates posted by the Big 6 banks rather than transaction rates. The government aimed to cool credit markets, but since many mortgages are government-insured, Big 6 interests were not aligned. Using DiD comparing changes in 5-year spreads with 3-year spreads, unaffected by the policy, we find rates were lowered encouraging continued borrowing, muting the tests' impact.
    Keywords: macroprudential regulation, credit supply, mortgage market, mortgage stress tests, rate-benchmark manipulation
    Date: 2020–10
  2. By: Christophe Blot (Observatoire français des conjonctures économiques); Jérôme Creel (Observatoire français des conjonctures économiques); Emmanuelle Faure; Paul Hubert (Observatoire français des conjonctures économiques)
    Abstract: In a statement announcing the review of its monetary policy strategy, the Euro-pean Central Bank (ECB) stated that it will, in addition to price stability, also take into account how “other considerations, such as financial stability, employment and environmental sustainability, can be relevant in pursuing the ECB's mandate”. The key question is which precise objectives shall be taken into account and how the ECB might reach them, keeping in mind that some trade-offs vis-à-vis the primary objective may arise. [First paragraph]
    Keywords: Priorities; ECB's mandate
    Date: 2020–06–08
  3. By: Corradin, Stefano; Eisenschmidt, Jens; Hoerova, Marie; Linzert, Tobias; Schepens, Glenn; Sigaux, Jean-David
    Abstract: This paper analyses money market developments since 2005, and examines factors that have affected money market functioning. We consider several metrics of activity in both secured and unsecured euro area money markets, and study interactions with new Basel III regulations and with central bank policies (liquidity provision, asset purchases and the Securities Lending Programme). Using aggregate data, we document that, prior to 2015, heightened financial market volatility coincided with worsening money market conditions, while higher central bank liquidity provision was associated with reduced money market stress. After 2015, the evidence is consistent with central bank asset purchases inducing scarcity effects in some money market segments, and with active securities lending supporting money market functioning. Using transactions-level money market data combined with supervisory data, we further document that the leverage ratio regulation impacts money markets at quarter-ends due to “window-dressing” effects, reducing money market volumes and rates. We also consider the macroeconomic impact of changing money market conditions, finding that the impact depends on whether frictions originate in secured or unsecured markets and on central bank policies in place. JEL Classification: E44, E58, G12, G20, G28
    Keywords: E44, E58, G12, G20, G28
    Date: 2020–10
  4. By: Joost Bats; Massimo Giuliodori; Aerdt Houben
    Abstract: Do negative interest rates matter for bank performance? This paper investigates whether monetary policy surprises impact bank stock prices differently in times of positive and negative interest rates. The analysis controls for broad stock market movements and finds that an unanticipated downward shift in the yield curve and a flattening of the shorter-end of the yield curve resulting from monetary policy announcements reduce bank stock prices in a low and especially negative interest rate environment. The effects persist in the days after the monetary policy announcement and are larger for banks relatively dependent on deposit funding. By contrast, a surprise movement in the slope of the longer-end of the yield curve does not impact bank stock prices in a negative interest rate environment. The results indicate that when market interest rates are negative but deposit rates stuck at zero, monetary policy instruments that target the longer-end of the yield curve are less detrimental to bank performance than those that target the shorter-end of the yield curve.
    Keywords: Monetary policy; bank stock prices; negative interest rates
    JEL: E43 E44 E52 G12 G21
    Date: 2020–10
  5. By: Dmitry Matveev; Julien McDonald-Guimond; Rodrigo Sekkel
    Abstract: The neutral rate of interest is important for central banks because it helps measure the stance of monetary policy. We present updated estimates of the neutral rate in Canada using the most recent data. We expect the COVID-19 pandemic to significantly affect the fundamental drivers of the Canadian neutral rate.
    Keywords: Economic models; Interest rates; Monetary policy
    JEL: E40 E43 E50 E52 E58 F41
    Date: 2020–10
  6. By: Victoria Consolvo; Owen F. Humpage; Sanchita Mukherjee
    Abstract: During the early part of the Great Inflation (1965-1975), the Federal Reserve undertook even-keel operations to assist the US Treasury’s coupon security sales. Accordingly, the central bank delayed any tightening of monetary policy and permanently injected reserves into the banking system. Using real-time Taylor-type and McCallum-like reaction functions, we show that the Fed routinely undertook these operations only when it was otherwise tightening monetary policy. Using a quantity-equation framework, we show that the Federal Reserve’s even-keel actions added approximately one percentage point to the overall 5.1 percent average annual inflation rate over these years.
    Keywords: Even Keel; Great Inflation; Federal Reserve; US Treasury
    JEL: E5 N1 F3
    Date: 2020–10–23
  7. By: Robert J. Hill (University of Graz, Austria); Miriam Steurer (University of Graz, Austria); Sofie R. Waltl (Luxembourg Institute of Socio-Economic Research, Luxembourg)
    Abstract: The ECB and Eurostat have been trying to bring owner-occupied housing (OOH) into the Harmonized Index of Consumer Prices (HICP) for two decades without success. OOH is now back on the agenda as part of the ECB's new monetary-policy strategy. A fresh perspective is needed. We argue that a viable way forward is using a simplified version of the user-cost method. This would improve the harmonization of the HICP, help close the credibility gap between measured in inflation and the public's perception of it, and make it easier for the ECB to achieve its inflation target.
    Keywords: Measurement of inflation; Owner occupied housing; User cost; Rental equivalence; Hedonic quantile regression; Housing booms and busts; Inflation targeting; Disinflation puzzle; Leaning against the wind; Secular stagnation.
    JEL: C31 C43 E01 E31 E52 R31
    Date: 2020–10
  8. By: Szabolcs Deak (University of Exeter); Paul Levine (University of Surrey); Afrasiab Mirza (University of Birmingham); Joseph Pearlman (City University London)
    Abstract: We study the design of monetary policy rules robust to model uncertainty across a set of well-established DSGE models with varied financial frictions. In our novel forward-looking approach, policymakers weight models based on relative forecasting performance. We find that models with frictions between households and banks forecast best during periods of financial turmoil while those with frictions between banks and firms perform best during tranquil periods. However, a model without financial frictions outperforms all models on average. The optimal robust policy is close to a price-level rule which is key when facing uncertainty over the nature of financial frictions.
    Keywords: Bayesian estimation, DSGE models, Financial frictions, Forecasting, Prediction Pools, Optimal Simple Rules.
    JEL: D52 D53 E44 G18 G23
    Date: 2020–10
  9. By: Melchisedek Joslem Ngambou Djatche (Université Côte d'Azur; GREDEG CNRS)
    Abstract: The pre-crisis low interest rates environment is raising concerns among researchers and policymakers about its impact on the triangle prudential policy - monetary policy - bank's risk-taking. While interest rates is set at low level for inflationary and economic growth reasons, they may lead banks to take more risk, jeopardizing the financial system and impeding the recovery. This paper provides a literature review, on the one hand, on the interaction of monetary and prudential policies through their impacts on bank's risk-taking, and on the other hand, on the issues of their coordination. Monetary policy appears to have ambiguous effects on banks' profitability, and then, on banks' risk-taking behaviour. Despite monetary and prudential policies pursue different objectives, they inevitably interact, raising challenges that face policymakers. Albeit it is argued that monetary policy alone is not sufficient to maintain macroeconomic and financial stability, and that it should be coordinated with prudential policy, the form of this coordination is not clear-cut.
    Keywords: Monetary policy, prudential policy, financial stability, bank's risk-taking
    Date: 2020–10
  10. By: Ulrich Bindseil; Edoardo Lanari
    Abstract: Bank's asset fire sales and recourse to central bank credit are modelled with continuous asset liquidity, allowing to derive the liability structure of a bank. Both asset sales liquidity and the central bank collateral framework are modeled as power functions within the unit interval. Funding stability is captured as a strategic bank run game in pure strategies between depositors. Fire sale liquidity and the central bank collateral framework determine jointly the ability of the banking system to deliver maturity transformation without endangering financial stability. The model also explains why banks tend to use the least liquid eligible collateral with the central bank and why a sudden non-anticipated reduction of asset liquidity, or a tightening of the collateral framework, can trigger a bank run. The model also shows that the collateral framework can be understood, beyond its aim to protect the central bank, as financial stability and non-conventional monetary policy instrument.
    Date: 2020–10
  11. By: Alessandro Cantelmo; Giovanni Melina
    Abstract: How should central banks optimally aggregate sectoral inflation rates in the presence of imperfect labor mobility across sectors? We study this issue in a two-sector New-Keynesian model and show that a lower degree of sectoral labor mobility, ceteris paribus, increases the optimal weight on inflation in a sector that would otherwise receive a lower weight. We analytically and numerically find that, with limited labor mobility, adjustment to asymmetric shocks cannot fully occur through the reallocation of labor, thus putting more pressure on wages, causing inefficient movements in relative prices, and creating scope for central bank’s intervention. These findings challenge standard central banks’ practice of computing sectoral inflation weights based solely on sector size, and unveil a significant role for the degree of sectoral labor mobility to play in the optimal computation. In an extended estimated model of the U.S. economy, featuring customary frictions and shocks, the estimated inflation weights imply a decrease in welfare up to 10 percent relative to the case of optimal weights.
    Keywords: optimal monetary policy, durable goods, labor mobility
    JEL: E52 E58
    Date: 2020
  12. By: Martynova, Natalya; Perotti, Enrico C.; Suárez, Javier
    Abstract: We analyze the strategic interaction between undercapitalized banks and a supervisor who may intervene by preventive recapitalization. Supervisory forbearance emerges because political and fiscal costs undermine supervisors' commitment to intervene. When supervisors have lower credibility, banks' incentives to voluntary recapitalize are lower and supervisors may end up intervening more. Importantly, when intervention capacity is constrained (e.g. for fiscal reasons), private recapitalization decisions become strategic complements, producing equilibria with extremely high forbearance and high systemic costs. Anticipating forbearance in response to diffuse undercapitalization, banks may ex ante choose more correlated risks, a form of "serial gambling" undermining the supervisory response.
    Keywords: bank supervision,bank recapitalization,forbearance
    JEL: G21 G28
    Date: 2020
  13. By: Étienne Espagne, AFD -; Antoine Godin, AFD -; Thomas Mélonio, AFD
    Abstract: Faced with the pandemic crisis and its economic and financial consequences in the short and medium term, central banks found themselves in the position of guardians of chaos. They thus acted quickly and massively to avoid the potentially dramatic consequences of a sudden shutdown of a large number of Western and Asian economies. Faced with the reversal of capital flows out of developing and emerging countries, many of which found themselves in a foreign exchange crisis and in urgent need of liquidity. The US Federal Reserve (Fed) had to respond to a sudden demand for dollars and treasury bills.
    JEL: Q
    Date: 2020–10–23
  14. By: Gregor Boehl
    Abstract: I study monetary policy in an estimated financial New-Keynesian model extended by behavioral expectation formation in the asset market. Credit frictions create a feedback between asset markets and the macroeconomy, and behaviorally motivated speculation can amplify fundamental swings in asset prices, potentially causing endogenous, nonfundamental bubbles. These features greatly improve the power of the model to replicate empirical-key moments. I find that monetary policy can indeed dampen financial cycles by carefully leaning against asset prices, but at the cost of amplifying their transmission to the macroeconomy, and of causing undesirable responses to movements in fundamentals.
    Keywords: Monetary policy, nonlinear dynamics, heterogeneous expectations, credit constraints, bifurcation analysis
    JEL: E44 E52 E03 C63
    Date: 2020–10
  15. By: Yothin Jinjarak; Ilan Noy; Quy Ta
    Abstract: We evaluate the change in international reserves in the aftermath of significant external shocks. We examine the response of international reserves to shocks by using a quasi-experimental setup and focusing on earthquakes. The estimation is done on a panel of 103 countries over the period 1979–2016. We find that in the five years following a large earthquake (i) countries exposed accumulate reserves, for precautionary reasons, (ii) trade openness is positively associated with the post-earthquake reserves accumulation, (iii) episodes of reserves depletion are observed in countries under the fixed exchange rate and/or inflation targeting regimes, and (iv) the patterns of reserves holding post-earthquake vary with a country’s income level.
    Keywords: disasters, earthquakes, international reserves, foreign exchange holding
    JEL: F31 F41 Q54
    Date: 2020
  16. By: Makram El-Shagi (Center for Financial Development and Stability at Henan University, and School of Economics at Henan University, Kaifeng, Henan); Jiang Lunan (Center for Financial Development and Stability at Henan University, and School of Economics at Henan University, Kaifeng, Henan; Center for Financial Development and Stability at Henan University, and School of Economics at Henan University, Kaifeng, Henan)
    Abstract: In recent years, one of the PBoC¡äs major issues was to avoid a generally conservative monetary policy that would jeopardize the central government¡äs poverty-alleviation strategy by limiting credit supply in rural areas where it is already scarce. We develop a range of new indicators to measure those aspects of the PBoC¡äs policy and demonstrate that the PBoC has successfully implemented policies targeted at poor counties. That is, we show that a central bank has the general potential to address regional diversity and distributional issues.
    Keywords: China, fuzzy regression discontinuity, regional, monetary policy
    JEL: E5 C2 I3
    Date: 2020–10
  17. By: Taeyoung Doh; Dongho Song; Shu-Kuei X. Yang
    Abstract: We apply a natural language processing algorithm to FOMC statements to construct a new measure of monetary policy stance, including the tone and novelty of a policy statement. We exploit cross-sectional variations across alternative FOMC statements to identify the tone (for example, dovish or hawkish), and contrast the current and previous FOMC statements released after Committee meetings to identify the novelty of the announcement. We then use high-frequency bond prices to compute the surprise component of the monetary policy stance. Our text-based estimates of monetary policy surprises are not sensitive to the choice of bond maturities used in estimation, are highly correlated with forward guidance shocks in the literature, and are associated with lower stock returns after unexpected policy tightening. The key advantage of our approach is that we are able to conduct a counterfactual policy evaluation by replacing the released statement with an alternative statement, allowing us to perform a more detailed investigation at the sentence and paragraph level.
    Keywords: FOMC; Alternative FOMC statements; Counterfactual policy evaluation; Monetary policy stance; Text analysis; Natural language processing
    JEL: E30 E40 E50 G12
    Date: 2020–10–06
  18. By: Aref Ardekani (UP1 - Université Panthéon-Sorbonne, CES - Centre d'économie de la Sorbonne - UP1 - Université Panthéon-Sorbonne - CNRS - Centre National de la Recherche Scientifique, UNILIM - Université de Limoges)
    Abstract: By applying the interbank network simulation, this paper examines whether the causal relationship between capital and liquidity is influenced by bank positions in the interbank network. While existing literature highlights the causal relationship that moves from liquidity to capital, the question of how interbank network characteristics affect this relationship remains unclear. Using a sample of commercial banks from 28 European countries, this paper suggests that banks' interconnectedness within interbank loan and deposit networks affects their decisions to set higher or lower regulatory capital rations when facing higher illiquidity. This study provides support for the need to implement minimum liquidity ratios to complement capital ratios, as stressed by the Basel Committee on Banking Regulation and Supervision. This paper also highlights the need for regulatory authorities to consider the network characteristics of banks.
    Keywords: Interbank network topology,Bank regulatory capital,Liquidity risk,Basel III
    Date: 2020–10

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