nep-cba New Economics Papers
on Central Banking
Issue of 2021‒01‒25
twenty papers chosen by
Sergey E. Pekarski
Higher School of Economics

  1. The macroprudential toolkit: effectiveness and interactions By Millard, Stephen; Rubio, Margarita; Varadi, Alexandra
  2. The ECB and the Cost of Independence. Unearthing a New Doom-Loop in the European Monetary Union By Armando Marozzi
  3. Effects of LTV announcements in EU economies By Dimitris Mokas; Massimo Giuliodori
  4. Assessing the effectiveness of currency-differentiated tools: The case of reserve requirements By Annamaria de Crescenzio; Etienne Lepers; Zoe Fannon
  5. Surety bonds and moral hazard in banking By Gerald P. Dwyer; Augusto Hasman; Margarita Samartín
  6. Taylor Rule Yield Curve By Masazumi Hattori; Tomohide Mineyama; Jouchi Nakajima
  7. Exchange Rate Pass-Through in the Caucasus and Central Asia By Tigran Poghosyan
  8. Central Bank Digital Currency: When Price and Bank Stability Collide By Linda Schilling; Jesús Fernández-Villaverde; Harald Uhlig
  9. Exchange Rates and Domestic Credit—Can Macroprudential Policy Reduce the Link? By Erlend Nier; Thorvardur Tjoervi Olafsson; Yuan Gao Rollinson
  10. Managing Macrofinancial Risk By Tobias Adrian; Francis Vitek
  11. Alternative monetary approaches and causal nexus breakdown in rate of interest and currency reserves in Italy, 1961-1990 By Giuseppe Conti; Luciano Fanti
  12. Determinants of Disagreement: Learning from Indian Inflation Expectations Survey of Households By Singh, Gaurav Kumar; Bandyopadhyay, Tathagata
  13. Regional and State Heterogeneity of Monetary Shocks in Argentina By Emilio Blanco; Pedro Elosegui; Alejandro Izaguirre; Gabriel Montes Rojas
  14. Do Monetary Policy Frameworks Matter in Low Income Countries? By Alina Carare; Carlos de Resende; Andrew T. Levin; Chelsea Zhang
  15. Answering the Queen: Machine Learning and Financial Crises By Jeremy Fouliard; Michael Howell; Hélène Rey
  16. Redistribution and the monetary–fiscal policy mix By Saroj Bhattarai; Jae Won Lee; Choongryul Yang
  17. Back to the future? Macroprudential policy and the rebirth of local authority mortgages in Ireland By O'Toole, Conor; Slaymaker, Rachel
  18. Federal reserve chair communication sentiments’ heterogeneity, personal characteristics, and their impact on target rate discovery By Juan Arismendi-Zambrano; Massimo Guidolin; Alessia Paccagnini
  19. Shocks and Frictions in US Business Cycle: A Bayesian DSGE Approach By Mansur, Alfan
  20. Sources of inflation and the effects of balanced budgets and inflation targeting in developing economies By Guilherme Klein Martins; Peter Skott

  1. By: Millard, Stephen (Bank of England); Rubio, Margarita (Nottingham University); Varadi, Alexandra (Bank of England)
    Abstract: We use a DSGE model with financial frictions, leverage limits on banks, loan to value (LTV) limits and debt‑service ratio (DSR) limits on mortgage borrowing to examine: i) the effects of different macroprudential policies on key macro aggregates; ii) their interaction with each other and with monetary policy; and iii) their effects on the volatility of key macroeconomic variables and on welfare. We find that capital requirements can nullify the effects of financial frictions and reduce the effects of shocks emanating from the financial sector on the real economy. LTV limits, on their own, are not sufficient to constrain household indebtedness in booms, though can be used with capital requirements to keep DSRs under control. Finally, DSR limits lead to a significant decrease in the volatility of lending, consumption and inflation, since they disconnect the housing market from the real economy. Overall, DSR limits are welfare improving relative to any other macroprudential tool.
    Keywords: Macroprudential policy; monetary policy; leverage ratio; affordability constraint; collateral constraint
    JEL: E44 E58 G21 G28
    Date: 2021–01–15
  2. By: Armando Marozzi
    Abstract: Central Bank Independence has often been praised as a "free lunch" as it lowers inflation with no costs to output. This paper, instead, claims that in a peculiar monetary union such as the European Monetary Union (EMU) defending the independence during a financial crisis can be macroeconomically costly: unconventional monetary policies may expose the European Central Bank (ECB) to the threat of fiscal dominance which, in turn, might endogenously shift the ECB’s fiscal stance toward fiscal conservatism. Fiscally hawkish signals can then depress GDP and inflation, thereby forcing the ECB to prolong the unconventional stimuli to achieve its target. This paper finds evidence of this new "doom-loop" at the core of the EMU.
    Keywords: ECB, monetary-fiscal interaction, CBI, unconventional monetary policy, EMU, fiscal communication
    JEL: E52 E58 E61 E63
    Date: 2021
  3. By: Dimitris Mokas; Massimo Giuliodori
    Abstract: Earlier studies on macroprudential policies focus on implementation dates and ignore potential anticipation effects. We collect monthly data on announcements of loan-to-value (LTV) ratio restrictions covering EU economies during 2000-2019. We show that announcements of LTV policies can have a sizeable impact on household credit, house prices and household durable goods consumption. New mortgage lending rates appear to increase following the announcement of an LTV ratio restriction. The estimated contractionary effects are driven mostly by binding actions and actions with non-discretionary components, suggesting that the design of macroprudential policies matters for their effectiveness.
    Keywords: Macroprudential Policy; Loan-to-value Ratios; Cost of Credit; Local Projections
    JEL: E58 G21 G28
    Date: 2021–01
  4. By: Annamaria de Crescenzio (OECD); Etienne Lepers (OECD); Zoe Fannon (University of Oxford)
    Abstract: This paper provides the first comprehensive analysis of benefits and side-effects of foreign-currency differentiated reserve requirements for a sample of 58 countries from 1999 to 2015. Departing from the existing literature on effectiveness which used binary variables to measure policy changes, the intensity of reserve requirement adjustments is captured by using the gap between foreign and local currency rates to isolate the impact of differentiation net of volume effects.The findings show that increasing the gap between FX and local currency-denominated reserve requirements is generally effective in reducing currency mismatch and dollarisation in banks’ balance sheets, notably through a reduction in the share of banks’ FX liabilities to total liabilities and in banks’ net FX positions. The findings also show that a higher gap is associated with a broader reduction in capital inflows, in particular portfolio debt inflows and flows to non-banks. Little evidence of domestic or international circumvention, with risks shifting to other sectors or countries is visible.
    Keywords: banking regulation, differentiated reserve requirement, dollarisation, macro-prudential policies,
    JEL: E58 F3 F38 G28
    Date: 2021–01–20
  5. By: Gerald P. Dwyer; Augusto Hasman; Margarita Samartín
    Abstract: We examine a policy in which owners of banks provide funds in the form of a surety bond in addition to equity capital. This policy would require banks to provide the regulator with funds that could be invested in marketable securities. Investors in the bank receive the income from the surety bond as long as the bank is in business. The capital value could be used by bank regulators to pay off the banks’ liabilities in case of bank failure. After paying depositors, investors would receive the remaining funds, if any. Analytically, this instrument is a way of creating charter value but, as opposed to Keeley (1990) and Hellman, Murdock and Stiglitz (2000), restrictions on competition are not necessary to generate positive rents. We demonstrate that capital requirements alone cannot prevent the moral hazard problem arising from deposit insurance. A sufficiently high level of the surety bond with deposit insurance, though, can prevent bank runs and does not introduce moral hazard.
    Keywords: Banking crises, Capital requirements, Government Intervention, Moral hazard, Surety bond.
    JEL: G21 G28
    Date: 2020–12
  6. By: Masazumi Hattori; Tomohide Mineyama; Jouchi Nakajima
    Abstract: We propose the Taylor rule yield curve for the United States, which is an extension of the Taylor rule for the short-term policy rate to points in time in the future horizon. The estimated Taylor rule expected rates are useful for considering the monetary policy stance reflected in the entire yield curve, which is valid even during the periods when the federal funds rate (FFR) hits its effective lower bound (ELB). The analysis shows that the Taylor rule deviations (TRDs), the gap between the Taylor rule expected rates and market Overnight Index Swap (OIS) rates, for maturities much longer than overnight could influence the outputgap and inflation rates in the United States, even during the period when the FFR hit the ELB for a considerable duration and the Federal Reserve resorted to an unconventional monetary policy. Moreover, the TRDs for long maturities can be regarded as a measure of risk appetite in financial markets. Our methodology in this study can be directly applied for analysis in other countries that experienced similar periods of policy rates hitting their ELBs, as long as data on economists' forecasts of output and inflation are available.
    Date: 2021–01
  7. By: Tigran Poghosyan
    Abstract: This paper estimates the extent and speed of exchange rate pass-through (ERPT) in seven Caucasus and Central Asia (CCA) countries using monthly data over the January 1995–May 2020 period. The estimations are performed using the local projections method. We find that the average pass-through in the CCA is about 10 percent on impact and about 25 percent after 12 months. There is no evidence of asymmetric ERPT with respect to the size and the sign of exchange rate changes. The pass-through is broadly unchanged in fixed versus floating exchange rate regimes. There has been a downward shift in the speed of ERPT in the aftermath of the global financial crisis as CCA countries have entered a relatively low inflation environment. The pass-through estimates could be used by the CCA monetary authorities for inflation projections. The absence of non-linearities in the pass-through with respect to the exchange rate regime suggests that transition from fixed to floating exchange rate regimes in the region is not likely to impose additional inflationary costs.
    Keywords: Exchange rates;Exchange rate adjustments;Exchange rate pass-through;Exchange rate arrangements;Inflation;WP,confidence interval
    Date: 2020–08–07
  8. By: Linda Schilling; Jesús Fernández-Villaverde; Harald Uhlig
    Abstract: A central bank digital currency, or CBDC, may provide an attractive alternative to traditional demand deposits held in private banks. When offering CBDC accounts, the central bank needs to confront classic issues of banking: conducting maturity transformation while providing liquidity to private customers who suffer “spending” shocks. We analyze these issues in a nominal version of a Diamond and Dybvig (1983) model, with an additional and exogenous price stability objective for the central bank. While the central bank can always deliver on its nominal obligations, runs can nonetheless occur, manifesting themselves either as excessive real asset liquidation or as a failure to maintain price stability. We demonstrate an impossibility result that we call the CBDC trilemma: of the three goals of efficiency, financial stability (i.e., absence of runs), and price stability, the central bank can achieve at most two.
    Keywords: central bank digital currency, monetary policy, bank runs, financial intermediation, inflation targeting, CBDC trilemma
    JEL: E58 G21
    Date: 2020
  9. By: Erlend Nier; Thorvardur Tjoervi Olafsson; Yuan Gao Rollinson
    Abstract: This paper examines empirically the role of macroprudential policy in addressing the effects of external shocks on financial stability. In a sample of 62 economies over the period of 2000: Q1–2016: Q4, our dynamic panel regressions show that an appreciation of the local exchange rate is associated with a subsequent increase in the domestic credit gap, while a prior tightening of macroprudential policies dampens this effect. These results are strong for small open economies, and robust when we explicitly account for potential simultaneity and reverse causality biases. We also examine a feedback effect where strong domestic credit pulls in additional cross-border funding, potentially further increasing systemic risk, and find that targeted capital controls can play a complementary role in alleviating this effect.
    Keywords: Macroprudential policy;Credit gaps;Domestic credit;Capital controls;Real exchange rates;WP,exchange rate,monetary policy,currency appreciation,real GDP
    Date: 2020–09–11
  10. By: Tobias Adrian; Francis Vitek
    Abstract: We augment a linearized dynamic stochastic general equilibrium (DSGE) model with a tractable endogenous risk mechanism, to support the joint analysis of monetary and macroprudential policy. This state dependent conditional heteroskedasticity mechanism specifies the conditional variances of structural shocks as functions of the business or financial cycle. The resultant heteroskedastic linearized DSGE model preserves the satisfactory simulation and forecasting performance of its nested homoskedastic counterpart for the conditional means of endogenous variables, while substantially improving its goodness of fit to their conditional distributions. In particular, the model matches the key stylized facts of growth at risk. Accounting for state dependent conditional heteroskedasticity makes it optimal for monetary policy to respond more aggressively to the business cycle, and for macroprudential policy to manage the resilience of the banking sector more actively over the financial cycle.
    Keywords: Mortgages;Production growth;Macroprudential policy;Short term interest rates;Banking;WP,math display
    Date: 2020–08–07
  11. By: Giuseppe Conti; Luciano Fanti
    Abstract: Following a renewed interest for the investigation of the monetary policy in the Italian experience, this paper focus on the role of the official reserves as a target of Bank of Italy for the period 1961-1990, motivated by a long lasting tradition (e.g. Hawtrey, Keynes, Kaldor) for which reserves were crucial for the central bank behaviour. This paper analyses, mostly by using the Granger causality test, if this "traditional" rule could have been working for Italy in recent periods as well, regardless of exchange rate regimes and the mainstream monetary theories. Main conclusions neatly support the existence of two sub-periods: a first one (before 1979) during which the "traditional" praxis occurs; and a second one (after 1979) when the "alternative" praxis seems to prevail. This would confirm the break in monetary targeting adopted by the Italian central bank at the end of the Seventies.
    Keywords: Monetary policy, interest rate, reserve ratio, Bank of Italy, Granger test
    JEL: E52 E58
    Date: 2020–12–01
  12. By: Singh, Gaurav Kumar; Bandyopadhyay, Tathagata
    Abstract: This study explores the determinants of disagreement in households' belief on future inflation. Households commonly show strong information rigidity as a consequence of stickiness in their information update (Mankiw and Reis, 2002, 2006). This paper contributes to the understanding of the formation of disagreement of the Indian households by investigating the effects of - day to day purchasing experiences of the agents, the intensity of news about inflation in the media, and central bank transparency. We find the positive effects of their recent price experiences, media influence, and inflation targeting on lowering the disagreement. Female and Young people tend to exhibit stronger effects in comparison to their counterparts.
    Date: 2021–01–20
  13. By: Emilio Blanco (Banco Central de la República Argentina); Pedro Elosegui (Banco Central de la República Argentina); Alejandro Izaguirre (Universidad de San Andrés); Gabriel Montes Rojas (Instituto Interdisciplinario de Economía Política de Buenos Aires - UBA - CONICET)
    Abstract: This paper empirically investigates how economic activity in Argentina at regional and provincial (i.e., state) levels respond to central national monetary policy shocks, as given by a change in the interest rate. The rst result is that regional heterogeneity of monetary shocks exists in Argentina. At the regional level the long-term eects of increasing the interest rate are negative and statistically signicant. At the provincial level, 11 provinces show a negative and signicant impact of a shock on the interest rate over employment. However, there are 13 provinces in which the eect is not statistically signicant, including the City of Buenos Aires and Buenos Aires Province. Bayesian methods are implemented to study the discrepancies in the impact on dierent provinces.
    Keywords: Monetary Policy, Monetary Transmission, Regional Effects
    JEL: E52 G21 R11 R12
  14. By: Alina Carare; Carlos de Resende; Andrew T. Levin; Chelsea Zhang
    Abstract: In recent years, many Low-Income Countries (LICs) have implemented substantial reforms to their monetary policy frameworks, but existing economic research has not provided a clear rationale to guide those efforts. In this paper we analyze the role of monetary policy frameworks in the propagation of aggregate shocks, using a large panel dataset of 79 LICs over the period 1990-2015 as well as event study analysis for a group of 28 sub-Saharan African LICs. We find highly significant differences in the propagation of external shocks between the LICs that target monetary aggregates or inflation compared to those that maintain rigid nominal exchange rates as a nominal anchor. We also find that the large surprise devaluation of the Central African Franc (CFA) in January 1994 had highly significant effects on the GDP growth of 10 CFA countries compared to 18 similar countries that were outside the CFA zone. Our empirical analysis provides strong support for the role of monetary policy frameworks in facilitating macroeconomic stability in LICs—a conclusion that is particularly relevant as LICs now face a multitude of similar shocks associated with the global COVID-19 pandemic.
    Keywords: Monetary policy frameworks;Exchange rates;Production growth;Inflation targeting;Oil prices;WP,oil price shock,terms of trade,change frequency,monetary policy framework in LICs,sensitivity analysis,transparent monetary policy framework,unanticipated monetary policy shock
    Date: 2020–07–24
  15. By: Jeremy Fouliard; Michael Howell; Hélène Rey
    Abstract: Financial crises cause economic, social and political havoc. Macroprudential policies are gaining traction but are still severely under-researched compared to monetary policy and fiscal policy. We use the general framework of sequential predictions also called online machine learning to forecast crises out-of-sample. Our methodology is based on model averaging and is meta-statistic since we can incorporate any predictive model of crises in our set of experts and test its ability to add information. We are able to predict systemic financial crises twelve quarters ahead out-of-sample with high signal-to-noise ratio in most cases. We analyse which experts provide the most information for our predictions at each point in time and for each country, allowing us to gain some insights into economic mechanisms underlying the building of risk in economies.
    JEL: G01 G15
    Date: 2020–12
  16. By: Saroj Bhattarai; Jae Won Lee; Choongryul Yang
    Abstract: We show that the effectiveness of redistribution policy in stimulating the economy and improving welfare is directly tied to how much inflation it generates, which in turn hinges on monetary-fiscal adjustments that ultimately finance the transfers. We compare two distinct types of monetary-fiscal adjustments: In the monetary regime, the government eventually raises taxes to finance transfers while in the fiscal regime, inflation rises, effectively imposing inflation taxes on public debt holders. We show analytically in a simple model how the fiscal regime generates larger and more persistent inflation than the monetary regime. In a quantitative application, we use a two-sector, two-agent New Keynesian model, situate the model economy in a Covid-19 recession, and quantify the effects of the transfer components of the Coronavirus Aid, Relief, and Economic Security (CARES) Act. We find that the transfer multipliers are significantly larger under the fiscal regime—which results in a milder contraction than under the monetary regime, primarily because inflationary pressures of this regime counteract the deflationary forces during the recession. Moreover, redistribution produces a Pareto improvement under the fiscal regime.
    Keywords: Household heterogeneity, Redistribution, Monetary-fiscal policy mix, Transfer multiplier, Welfare evaluation, Covid-19, CARES Act
    JEL: E53 E62 E63
    Date: 2020–12
  17. By: O'Toole, Conor; Slaymaker, Rachel
    Date: 2020
  18. By: Juan Arismendi-Zambrano; Massimo Guidolin; Alessia Paccagnini
    Abstract: We construct a communication risk profile of the U.S. Federal Reserve Chair by measuring the sentiment of their public statements during their tenure. Communications’ sentiment impact on the interest rates price discovery process by the market after the FOMC meeting is analyzed. The results show that there is a significant difference in the communications’ sentiment that is heterogeneous on the personal characteristics, controlling for the economic environment, and that the Chair communications’ sentiment plays a role in diminishing the surprise of Federal Reserve announcements.
    Keywords: Federal Reserve, Monetary Policy, Communications, Federal Funds Rate, Machine Learning
    JEL: G12 G14 G18 G21 G28 G41
    Date: 2020–12
  19. By: Mansur, Alfan
    Abstract: This paper aims to replicate and extend Smets and Wouters (2007) who study the shocks and frictions in the US business cycle using a Bayesian DSGE methodology. The novelty of this research is by applying the extended Taylor rule for monetary policy in which the monetary policy also targets full employment. The SW model seems able to fit the US macroeconomic data very well. When the output gap in the Monetary policy Taylor rule is replaced with the unemployment rate, wage mark up shock becomes more persistent in determining inflation and interest rate. Productivity shock also becomes stronger in driving output. However, some unexpected results also come up, e.g. the negative responses of hours worked to a risk premium shock and inflation to the demand shocks
    Keywords: shocks, frictions, monetary policy
    JEL: C11 E32 E52
    Date: 2020–10–24
  20. By: Guilherme Klein Martins (University of Massachusetts Amherst, USA); Peter Skott (University of Massachusetts Amherst, USA)
    Abstract: This paper presents a model of inflation in developing economies and uses it to evaluate macroeconomic policy in those countries. We see cross-sectoral interactions between demand and supply side forces as central and show that the standard macroeconomic policy recommendations of inflation targeting and balanced budgets (i) increase volatility by amplifying external shocks and (ii) can lead to premature deindustrialization. The analysis applies to economies with marked underemployment, a central feature of developing and emerging countries. The recent Brazilian experience is used to illustrate the argument.
    Keywords: inflation targeting, Dutch disease, overvaluation, commodities boom, Washington consensus
    JEL: E63 O23 O14
    Date: 2020

This nep-cba issue is ©2021 by Sergey E. Pekarski. It is provided as is without any express or implied warranty. It may be freely redistributed in whole or in part for any purpose. If distributed in part, please include this notice.
General information on the NEP project can be found at For comments please write to the director of NEP, Marco Novarese at <>. Put “NEP” in the subject, otherwise your mail may be rejected.
NEP’s infrastructure is sponsored by the School of Economics and Finance of Massey University in New Zealand.