nep-cba New Economics Papers
on Central Banking
Issue of 2021‒03‒29
29 papers chosen by
Sergey E. Pekarski
Higher School of Economics

  1. Unconventional monetary policies and expectations on economic variables By Alessio Anzuini; Luca Rossi
  2. The Recovery from the Great Recession: Did the FOMC Learn the Right Lessons? By Robert Hetzel
  3. Global Stablecoins: Monetary Policy Implementation Considerations from the U.S. Perspective By David Lowe; Matthew Malloy
  4. Strengthening Bank Regulation and Supervision; National Progress and Gaps By Ljubica Dordevic; Caio Ferreira; Moses Kitonga; Katharine Seal
  5. A Reconsideration of the Failure of Uncovered Interest Parity for the U.S. Dollar By Charles Engel; Ekaterina Kazakova; Mengqi Wang; Nan Xiang
  6. Central Bank Digital Currency and Balance Sheet Policy By Martina Fraschini; Luciano Somoza; Tammaro Terracciano
  7. ZLB and Beyond: Real and Financial Effects of Low and Negative Interest Rates in the Euro Area By Andrejs Zlobins
  8. Monetary policy uncertainty and inflation expectations By Arce-Alfaro, Gabriel; Blagov, Boris
  9. Monetary and Macroprudential Policy Complementarities: Evidence from European Credit Registers By Altavilla, Carlo; Laeven, Luc; Peydró, José-Luis
  10. Price Level Targeting with Imperfect Rationality: A Heuristic Approach By Vojtech Molnar
  11. Central bank gold reserves and sovereign credit risk By Rathi, Sawan; Mohapatra, Sanket; Sahay, Arvind
  12. The Voice of Monetary Policy By Yuriy Gorodnichenko; Tho Pham; Oleksandr Talavera
  13. Policy Advice to Asia in the COVID-19 Era By Changyong Rhee; Katsiaryna Svirydzenka
  14. Toothless tiger with claws? Financial stability communication, expectations, and risk-taking By Beutel, Johannes; Metiu, Norbert; Stockerl, Valentin
  15. When and how to unwind COVID-support measures to the banking system? By Haselmann, Rainer; Tröger, Tobias
  16. Handle with Care: Regulatory Easing in Times of COVID-19 By Fabian Valencia; Richard Varghese; Weijia Yao; Juan Yepez
  17. The Unholy Trinity: Regulatory Forbearance, Stressed Banks and Zombie Firms By Anusha Chari; Lakshita Jain; Nirupama Kulkarni
  18. Learning from revisions: a tool for detecting potential errors in banks' balance sheet statistical reporting By Francesco Cusano; Giuseppe Marinelli; Stefano Piermattei
  19. On the behavioral antecedents of business cycle coherence in the euro area By Petar Sorić; Ivana Lolić; Marija Logarušić
  20. Complementarities Between Fiscal Policy and Monetary Policy—Literature Review By Wei Dong; Geoffrey Dunbar; Christian Friedrich; Dmitry Matveev; Romanos Priftis; Lin Shao
  21. Optimal monetary policy in a dual labor market: the role of informality By Gomez, M.
  22. Inflation expectations in the euro area: indicators, analyses and models used at Banca d’Italia By Sara Cecchetti; Davide Fantino; Alessandro Notarpietro; Marianna Riggi; Alex Tagliabracci; Andrea Tiseno; Roberta Zizza
  23. How the New Fed Municipal Bond Facility Capped Muni-Treasury Yield Spreads in the Covid-19 Recession By Michael D. Bordo; John V. Duca
  24. Networking the yield curve: implications for monetary policy By Dalhaus, Tatjana; Schaumburg, Julia; Sekhposyan, Tatevik
  25. How Local is the Local Inflation Factor? Evidence from Emerging European Countries By Cepni, Oguzhan; Clements, Michael P.
  26. Forbearance vs foreclosure in a general equilibrium model By Barbaro, Bianca; Tirelli, Patrizio
  27. The Impact of ECB Corporate Sector Purchases on European Green Bonds By Franziska Bremus; Franziska Schütze; Aleksandar Zaklan
  28. Liquidity in the German corporate bond market: Has the CSPP made a difference? By Boneva, Lena; Islami, Mevlud; Schlepper, Kathi
  29. Non-performing loans - new risks and policies? NPL resolution after COVID-19: Main differences to previous crises By Kasinger, Johannes; Krahnen, Jan Pieter; Ongena, Steven; Pelizzon, Loriana; Schmeling, Maik; Wahrenburg, Mark

  1. By: Alessio Anzuini (Bank of Italy); Luca Rossi (Bank of Italy)
    Abstract: We investigate whether forward guidance and large scale asset purchases are effective in steering economic expectations in the US. Using the series of monetary policy shocks recovered in Swanson (2020), local projections, and an algorithm to select the best empirical model, we show that unconventional monetary policies are effective in tilting economic expectations in a direction consistent with central bankers' will. Our empirical findings provide two more insights: responses to LSAP shocks are stronger than those following a FG shock; responses to both types of policies are larger after contractionary shocks as compared to expansionary ones.
    Keywords: unconventional monetary policy, local projections, non-linearities
    JEL: E52 E44 E58
    Date: 2021–03
  2. By: Robert Hetzel (Mercatus Center at George Mason University)
    Abstract: In August 2020, monetary policymakers articulated a new framework for conducting monetary policy. That framework reflected the conclusion, drawn from the recovery from the Great Recession, that monetary policy had erred in pursuing preemptive increases in the funds rate. Starting in December 2015, the Federal Open Market Committee (FOMC) had raised the funds rate off the zero lower bound and the inflation rate continued to run below the 2 percent target. Going forward, the FOMC will forgo preemptive increases to ensure an overshoot of its inflation target until the FOMC achieves the goal of ¿maximum employment.¿ What should policymakers have learned from the Great Recession recovery? It was a period of considerable nominal and real stability. In part, that stability was an artifact of an initial moderately contractionary monetary policy that limited the strength of the recovery. But that price stability provided the foundation for the significant decline in the unemployment rate during the recovery.
    Keywords: Federal Reserve System, monetary policy, inflation, COVID-19
    JEL: E5
    Date: 2021–02
  3. By: David Lowe; Matthew Malloy
    Abstract: This note explores the potential effects of the widespread adoption of a global stablecoin (GSC) on key aggregate financial sector balance sheets in the United States. To do this, we map out cash flows of GSC transactions among financial sector entities using a stylized set of 't-accounts'. By analyzing these individual transactions, we infer aggregate and compositional effects on U.S. commercial banking sector and Federal Reserve balance sheets. Through this lens, we also consider how these balance sheet changes could affect monetary policy implementation, the demand for central bank reserves, and the market for U.S. dollar safe assets.
    Keywords: Monetary policy; Banks; Fintech; Stablecoins
    JEL: E40 E50 G21
    Date: 2021–03–22
  4. By: Ljubica Dordevic; Caio Ferreira; Moses Kitonga; Katharine Seal
    Abstract: The paper employs two complementary strategies. First, it is pursues textual analysis (text mining) of the assessment reports to identify successes and challenges the authorities are facing. Second, it analyzes the grades in the Basel Core Principles assessments, including their evolution and association with bank fragility.
    Keywords: Bank supervision;Bank regulation;Basel Core Principles;Global financial crisis of 2008-2009;Macroprudential policy;Bank Supervision;Bank Regulation;Basel Accords;Basel Core Principles;Global Financial Crisis;Prudential Requirements
    Date: 2021–03–18
  5. By: Charles Engel; Ekaterina Kazakova; Mengqi Wang; Nan Xiang
    Abstract: We re-examine the time-series evidence for failures of uncovered interest rate parity on short-term deposits for the U.S. dollar versus major currencies of developed countries at short-, medium- and long-horizons. The evidence that interest rate differentials predict foreign exchange risk premiums is fragile. The relationship between interest rates and excess returns is not stable over time and disappears altogether when nominal interest rates are near the zero-lower bound. However, we do find evidence that year-on-year inflation rate differentials consistently predict excess returns – when the U.S. dollar y.o.y. inflation rate has been relatively high, subsequent returns on U.S. deposits tend to be high. We interpret this evidence as being consistent with hypotheses that posit that markets do not fully react initially to predictable changes in future monetary policy. Interestingly, the predictive power of relative y.o.y. inflation only begins in the mid-1980s when central banks began to target inflation more consistently and continues in the post-ZLB period when interest rates lose their primacy as a policy instrument. However, we caution not to rule out the possibility that excess returns are not predictable at all.
    JEL: F3 F41
    Date: 2021–01
  6. By: Martina Fraschini (University of Lausanne, HEC; Swiss Finance Institute); Luciano Somoza (University of Lausanne, HEC; Swiss Finance Institute); Tammaro Terracciano (University of Geneva, GFRI; Swiss Finance Institute)
    Abstract: This paper studies a stylized economy in which the central bank can hold either treasuries or risky securities against central bank digital currency (CBDC) deposits. The key mechanism driving the results is the reduction in bank deposits that follows the introduction of a CBDC and its impact on the banking sector. With CBDC funds invested in treasuries, the central bank channels funds back to the banking sector via open market operations and the introduction of a CBDC is neutral, consistently with the equivalence theorem of Brunnermeier and Niepelt (2019). However, it is not neutral when accounting for liquidity requirements, quantitative easing, or for CBDC deposits held against risky securities. We reach two main conclusions. First, current monetary policy regimes do matter for CBDC equilibrium effects. Second, there is a trade-off between bank lending to the economy and taxes, as holding risky assets against CBDC deposits leads to lower expected taxes and lower bank lending.
    Keywords: CBDC, central banking, monetary policy, QE
    JEL: E4 E5 G2
    Date: 2021–03
  7. By: Andrejs Zlobins (Latvijas Banka)
    Abstract: This paper studies the effects of low and negative interest rates in the euro area on a wide range of macroeconomic and financial variables and documents the changes in the monetary transmission mechanism once the policy rate reaches the zero lower bound (ZLB). To that end, we employ a set of non-linear time series frameworks, namely a time-varying parameter structural vector autoregression with stochastic volatility and non-linear local projections and perform identification via both sign restrictions and high frequency information approaches. Our findings suggest that the policy rate has continued to support the aggregate demand in the euro area even in sub-zero territory. Despite that, we find that the reaction of inflation and its expectations has significantly deteriorated in the post-ZLB period. Regarding the transmission mechanism, we show that policy rate cuts below zero have a more persistent impact on the term structure and interest rate expectations. In addition to that, our results suggest that negative interest rates do not cause a contraction in lending despite the disconnect of lending rates from the policy rate. In general, our findings contribute to the growing list of literature which questions the empirical relevance of the ZLB.
    Keywords: NIRP, ZLB, monetary policy, euro area, non-linearities
    JEL: C54 E43 E52 E58
    Date: 2020–12–30
  8. By: Arce-Alfaro, Gabriel; Blagov, Boris
    Abstract: Do inflation expectations react to changes in the volatility of monetary policy? Yes, but only until the global financial crisis. This paper investigates whether increasing the dispersion of monetary policy shocks, which is interpreted as elevated uncertainty surrounding monetary policy, affects the inflation expectation formation process. Based on U.S. data since the 1980s and a stochastic volatility-in-mean structural VAR model we find that monetary policy uncertainty reduces both inflation expectations and inflation. However, after the Great Recession this link has disappeared, even when controlling for the Zero Lower Bound.
    Keywords: Monetary policy uncertainty,inflation expectations,SVAR volatility-in-mean,time-varying coefficients
    JEL: C11 C32 E52
    Date: 2021
  9. By: Altavilla, Carlo; Laeven, Luc; Peydró, José-Luis
    Abstract: We show strong complementarities between monetary and macroprudential policies in influencing credit. We exploit credit register data - crucially from multiple (European) countries and for both corporate and household credit - in conjunction with monetary policy surprises and indicators of macroprudential policy actions. Expansive monetary policy boosts lending more in accommodative macroprudential environments. This complementary effect of monetary and macroprudential policy is stronger for: (i) expansionary (as opposed to contractionary) monetary policy; (ii) riskier borrowers; (iii) less capitalized banks (especially when lending to riskier borrowers); (iv) consumer and corporate loans (rather than mortgages); and (v) more (ex-ante) productive firms (especially for less capitalized banks).
    Keywords: credit registers,household loans,corporate loans,monetary policy,macroprudential policy
    JEL: G21 G28 G32 G51 E58
    Date: 2021
  10. By: Vojtech Molnar (Charles University, Prague, Czech Republic; Czech National Bank, Prague, Czech Republic)
    Abstract: The paper compares price level targeting and inflation targeting regimes in a New Keynesian model with bounded rationality. Economic agents form their expectations using heuristics—they choose between a few simple rules based on their past forecasting performance. Two main specifications of the price level targeting model are examined—the agents form expectations either about price level or about inflation, which is ex ante not equivalent because of sequential nature of the model. In addition, several formulations of the forecasting rules are considered. Both regimes are assessed by loss function comparison. According to the results, price level targeting is preferred in the case with expectations created about price level under the baseline calibration; but it is sensitive to some model parameters. Furthermore, when expectations are created about inflation, price level targeting over time loses credibility and leads to divergence of the economy. On the other hand, inflation targeting model functions stably. Therefore, while potential benefits of price level targeting have been confirmed under certain assumptions, the results suggest that inflation targeting constitutes more robust choice for monetary policy.
    Keywords: Price level targeting, Inflation targeting, Monetary policy, Bounded rationality, Heuristics
    JEL: E31 E37 E52 E58 E70
    Date: 2021–03
  11. By: Rathi, Sawan; Mohapatra, Sanket; Sahay, Arvind
    Abstract: Gold holdings with central banks are often considered to play a stabilizing role in times of crisis. This paper performs a cross-country panel data analysis of developed and developing countries to determine whether gold holdings of central banks contribute to sovereign creditworthiness. Our analysis confirms that an increase in central bank gold reserves reduces the credit default swap (CDS) spreads of a country. We also observe that during global crisis and country-specific crisis episodes, the role of central bank gold becomes even more important. In robustness tests, we account for potential endogeneity of central bank gold reserves using a Generalized Method of Moments (GMM) approach. The findings highlight the importance of gold in central bank reserves and indicate a positive role of gold in mitigating a nation's external vulnerabilities in an uncertain global economic environment.
    Date: 2021–03–22
  12. By: Yuriy Gorodnichenko (University of California, Berkeley); Tho Pham (University of Reading); Oleksandr Talavera (University of Birmingham)
    Abstract: We develop a deep learning model to detect emotions embedded in press conferences after the meetings of the Federal Open Market Committee and examine the influence of the detected emotions on financial markets. We find that, after controlling for the Fed's actions and the sentiment in policy texts, positive tone in the voices of Fed Chairs leads to statistically significant and economically large increases in share prices. In other words, how policy messages are communicated can move the stock market. In contrast, the bond market appears to take few vocal cues from the Chairs. Our results provide implications for improving the effectiveness of central bank communications.
    Keywords: monetary policy, communication, voice, emotion, text sentiment, stock market, bond market.
    JEL: E31 E58 G12 D84
    Date: 2021–02
  13. By: Changyong Rhee; Katsiaryna Svirydzenka
    Abstract: The Asia-Pacific region was the first to be hit by the COVID-19 pandemic; it put a strain on its people and economies, and policymaking became exceptionally difficult. This departmental paper contains the assessment of the key challenges facing Asia at this critical juncture and policy advice to the region both to address the current challenges and to build the foundations for a more sustainable and inclusive future. The paper focuses on (1) adjusting to the COVID-19 shock, (2) using unconventional policies when policy space is limited, (3) dealing with debt, and (4) helping the vulnerable and greening the recovery. The paper first presents the different ways countries are adjusting to the COVID-19 shock.
    Keywords: Sovereign debt;Monetary policy;Policy Advice;Pandemic;COVID-19;Asia;
    Date: 2021–03–05
  14. By: Beutel, Johannes; Metiu, Norbert; Stockerl, Valentin
    Abstract: We study the effects of central bank communication about financial stability on individuals' expectations and risk-taking. Using a randomized information experiment, we show that communication causally affects individuals' beliefs and investment behavior, consistent with an expectations channel of financial stability communication. Individuals receiving a warning from the central bank expect a higher probability of a financial crisis and reduce their demand for risky assets. This reduction is driven by downward revisions in individuals' expected Sharpe ratios due to lower expected returns and higher perceived downside risks. In addition, these individuals deposit a smaller fraction of their savings at riskier banks.
    Keywords: central bank communication,financial stability,stock market expectations,randomized information experiment
    JEL: C11 D12 D83 D91 E58 G11
    Date: 2021
  15. By: Haselmann, Rainer; Tröger, Tobias
    Abstract: This in-depth analysis proposes ways to retract from supervisory COVID-19 support measures without perils for financial stability. It simulates the likely impact of the corona crisis on euro area banks' capital and predicts a significant capital shortfall. We recommend to end accounting practices that conceal loan losses and sustain capital relief measures. Our in-depth analysis also proposes how to address the impending capital shortfall in resolution/liquidation and a supranational recapitalisation.
    Keywords: Covid-19,Forbearance,Bank Capitalization,Bank Resolution,Supervisory Relief Measures,Financial Stability
    Date: 2021
  16. By: Fabian Valencia; Richard Varghese; Weijia Yao; Juan Yepez
    Abstract: The policy response to the COVID-19 shock included regulatory easing across many jurisdictions to facilitate the flow of credit to the economy and mitigate a further ampli-fication of the shock through tighter financial conditions. Using an intraday event study,this paper examines how stock prices—a key driver in financial conditions—reacted to regulatory easing announcements in a sample of 18 advanced economies and 8 emerging markets. The paper finds that overall, regulatory easing announcements contributed to looser financial conditions, but effects varied across sectors and tools. Financial regulatory easing led to lower valuations for financial sector stocks, and higher valuations for non-financial sector stocks, particularly for industries that are more dependent on bank financing. Furthermore, valuations declined and financial conditions tightened following announcements related to easier bank capital regulation while equity valuation rose and financial conditions loosened after those about liquidity regulation. Effects from non-regulatory financial measures appear to be generally more muted.
    Date: 2021–02–26
  17. By: Anusha Chari; Lakshita Jain; Nirupama Kulkarni
    Abstract: During the global financial crisis, the Reserve Bank of India enacted forbearance measures that lowered capital provisioning rates for loans under temporary liquidity stress. Matched bank-firm data reveal that troubled banks took advantage of the policy to also shield firms facing serious solvency issues. Perversely, in industries and bank portfolios with high proportions of failing firms, credit to healthy firms declined and was reallocated to the weakest firms. By incentivizing banks to hide true asset quality, the forbearance policy provided a license for regulatory arbitrage. The build-up of stressed assets in India’s predominantly state-owned banking system is consistent with accounting subterfuge.
    JEL: E58 G21 G28
    Date: 2021–02
  18. By: Francesco Cusano (Bank of Italy); Giuseppe Marinelli (Bank of Italy); Stefano Piermattei (Bank of Italy)
    Abstract: Ensuring and disseminating high-quality data is crucial for central banks to adequately support monetary analysis and the related decision-making process. In this paper we develop a machine learning process for identifying errors in banks’ supervisory reports on loans to the private sector employed in the Bank of Italy’s statistical production of Monetary and Financial Institutions’ (MFI) Balance Sheet Items (BSI). In particular, we model a “Revisions Adjusted – Quantile Regression Random Forest” (RA–QRRF) algorithm in which the predicted acceptance regions of the reported values are calibrated through an individual “imprecision rate” derived from the entire history of each bank’s reporting errors and revisions collected by the Bank of Italy. The analysis shows that our RA-QRRF approach returns very satisfying results in terms of error detection, especially for the loans to the households sector, and outperforms well-established alternative outlier detection procedures based on probit and logit models.
    Keywords: banks, balance sheet items, outlier detection, machine learning
    JEL: C63 C81 G21
    Date: 2021–03
  19. By: Petar Sorić (Faculty of Economics and Business, University of Zagreb); Ivana Lolić (Faculty of Economics and Business, University of Zagreb); Marija Logarušić (Faculty of Economics and Business, University of Zagreb)
    Abstract: Departing from the mainstream literature on European monetary integration, we acknowledge the interdependence of economic sentiment synchronization and business cycle co-movements for 17 individual European countries and the euro area (EA). Building upon both hard and soft data, we find that sentiment cycles are in fact the driving force behind general economic cycle synchronization. This finding is robust with respect to different synchronization indicators, different Granger causality test specifications, data frequencies (monthly vs. quarterly), and the targeted EA composition (EA11 vs. EA19). The latter is of particular importance, implying that recent EA enlargements have not decreased its homogeneity in this regard. Our results exhibit a certain degree of dependence upon the business cycle phase. The synchronization of 17 examined countries vis-a-vis the EA seems to be even more intensive in recessions than in expansions. In other words, common monetary policy of the ECB should be able to effectively act as a countercyclical tool when an individual national economy is facing a recession.
    Keywords: economic sentiment, business cycle synchronization, Optimum Currency Areas, Euro
    JEL: C32 E32 E58 E71
    Date: 2021–03–11
  20. By: Wei Dong; Geoffrey Dunbar; Christian Friedrich; Dmitry Matveev; Romanos Priftis; Lin Shao
    Abstract: This paper reviews and summarizes the literature on the complementary relationship between fiscal policy and monetary policy. We focus on four types of fiscal policy: (1) automatic stabilizers, (2) state-contingent non-discretionary fiscal policy, (3) discretionary fiscal stimulus and (4) government credit policies. The literature shows that automatic fiscal stabilizers can play a role in stabilizing business cycle fluctuation. But because they can have multiple policy objectives, their optimal design remains an open question. An alternative policy framework features state-contingent non-discretionary fiscal expenditures with a pre-committed fiscal spending formula triggered by objective macroeconomic conditions. Such a policy offers the advantage of being timely and easy to communicate; but at the same time, it poses challenges for identifying appropriate triggers and program expenditures with high short-run multipliers. The literature also shows that discretionary fiscal expenditures can support aggregate demand, and some expenditures have short-run multipliers close to, or above, 1. While these expenditures can focus on specific policy priorities that are relevant at the time, their discretionary nature may slow the policy response. When interest rates are close to the effective lower bound (ELB), fiscal stimulus can be particularly effective for complementing the stabilizing efforts of monetary policy. Finally, studies show that government credit policies can mitigate economic downturns that are accompanied by severe financial market distress. However, the effects of scaling up this channel are uncertain.
    Keywords: Fiscal policy; Monetary policy
    JEL: E52 E62 E58 E63
  21. By: Gomez, M.
    Abstract: In this paper I analyze the optimal monetary policy in emerging countries whose labor markets are mainly characterized by the presence of a large informal sector. I develop a closed economy model with nominal price and wage rigidities, search and matchingfrictions and a dual labor market. A formal one characterized by matching frictions, and nominal wage rigidities, and an informal one where wages are fully flexible. Under this framework, a trade-off between price and wage inflation emerges. I find that informality increases the response of price and wage inflation to aggregate productivity shocks. As a result, the presence of an informal sector increases the inefficient fluctuations of the labor market variables, such as unemployment, labor market tightness, and formal hiring rate. I derive the second-order approximation to the welfare of the representative agent, and then I characterize the optimal monetary policy for standard calibration of the model. I find that optimal policy with informality features significant deviations from price stability in response to aggregate productivity shocks.
    Keywords: Informality; Monetary policy; Nominal wage and price rigidities; Inflation targeting.
    JEL: E26 E52 E12 E61
    Date: 2020–11–03
  22. By: Sara Cecchetti (Bank of Italy); Davide Fantino (Bank of Italy); Alessandro Notarpietro (Bank of Italy); Marianna Riggi (Bank of Italy); Alex Tagliabracci (Bank of Italy); Andrea Tiseno (Bank of Italy); Roberta Zizza (Bank of Italy)
    Abstract: This paper illustrates the tools used at Banca d’Italia (BI) to monitor the evolution of inflation expectations. The paper also surveys the analyses conducted at BI to assess how inflation expectations affect agents’ choices and the economy. The first part discusses the measures of inflation expectations derived from the prices of inflation-linked financial instruments and from the surveys of professional forecasters. The second part focuses on the measures of households’ and firms’ inflation expectations collected by BI, along with analyses presenting empirical evidence that expectations do indeed drive agents’ economic choices. The last part analyses the overall effect of exogenous changes of inflation expectations on the real economy, through the lens of the macroeconomic models used at BI.
    Keywords: inflation expectations, anchoring, surveys
    JEL: E31 E32
    Date: 2021–03
  23. By: Michael D. Bordo; John V. Duca
    Abstract: For over two centuries, the municipal bond market has been a source of systemic risk, which returned early in the Covid-19 downturn when borrowing from securities markets became costly for many private and public entities, and some found it difficult to borrow at all. Indeed, just before the Fed announced its unprecedented intervention into the municipal (muni) bond market, spreads of muni over Treasury yields rose in line with the unemployment rate and appeared headed to levels not seen since the Great Depression, when real municipal gross investment plunged 35 percent below 1929 levels. To prevent a repeat, the Fed created the Municipal Liquidity Facility (MLF) to purchase newly issued, (near) investment grade state and local government bonds at normal ratings-based interest rate spreads over Treasury bonds plus a fee of 100 basis points, later reduced to 50 basis points. Despite a modest take-up, the MLF has effectively capped muni spreads at near normal levels plus the Fed fee and limited the extent to which interest rate spreads could have amplified the impact of the Covid pandemic. To establish the MLF the Fed needed Treasury indemnification against default losses. There are concerns about whether the creation of the MLF could undermine the efficiency of the bond market if the facility lasts too long and could induce moral hazard among borrowers. How the MLF will be unwound will affect these downside aspects and help answer the question whether the program’s benefits exceed its costs.
    JEL: E40 E50 G21
    Date: 2021–02
  24. By: Dalhaus, Tatjana; Schaumburg, Julia; Sekhposyan, Tatevik
    Abstract: We introduce a flexible, time-varying network model to trace the propagation of interest rate surprises across different maturities. First, we develop a novel econometric framework that allows for unknown, potentially asymmetric contemporaneous spillovers across panel units, and establish the finite sample properties of the model via simulations. Second, we employ this innovative framework to jointly model the dynamics of interest rate surprises and to assess how various monetary policy actions, for example, short-term, long-term interest rate targeting and forward guidance, propagate across the yield curve. We find that the network of interest rate surprises is indeed asymmetric, and defined by spillovers between adjacent maturities. Spillover intensity is high, on average, but shows strong time variation. Forward guidance is an important driver of the spillover intensity. Pass-through from short-term interest rate surprises to longer maturities is muted, yet there are stronger spillovers associated with surprises at medium- and long-term maturities. We illustrate how our proposed framework helps our understanding of the ways various dimensions of monetary policy propagate through the yield curve and interact with each other. JEL Classification: C21, C53, E43, E44, E52
    Keywords: dynamic networks, monetary policy, yield-curve
    Date: 2021–03
  25. By: Cepni, Oguzhan (Department of Economics, Copenhagen Business School); Clements, Michael P. (ICMA Centre, Henley Business School, University of Reading)
    Abstract: We consider whether inflation is a ‘global phenomenon’ for European emerging market economies, as has been claimed for advanced or high-income countries. We find that a global inflation factor accounts for more than a half of the variance in the national inflation rates, and show that forecasting models of national headline inflation rates that include global inflation factors generally produce more accurate path forecasts than Phillips Curve-type models, and models with local inflation factors. Our results are qualitatively unaffected by allowing for sparsity and non-linearity in the factor forecasting models.
    Keywords: Global inflation; Common factors; Forecasting; Variable selection
    JEL: E31 E52 F42 F62
    Date: 2021–03–18
  26. By: Barbaro, Bianca; Tirelli, Patrizio
    Abstract: We build a business cycle model characterized by endogenous firms dynamics, where banks may prefer debt renegotiation, i.e. non-performing exposures, to outright borrowers default. We find that debt renegotiations only do not have adverse effects in the event of financial crisis episodes, but a large share of non-performing firms is associated with a sharp deterioration of economic activity in two cases. First, if there are congestion effects in banks ability to monitor non-performing loans. Second, if such loans adversely affect the commercial banks’ moral hazard problem due to their opacity. Aggressive interest rate reductions and quantitative easing limit defaults and the output contraction caused by a financial crisis, without ad- verse effects on the entry of new, more productive firms. The model shows that the observed long-run trend in the share of non-performing loans might be caused by the persistent reduction in technological advancements which drive firm entry rates and firms turnover. JEL Classification: E32, E44, E50, E58
    Keywords: DSGE model, financial frictions, firms entry, non-performing loans, quantitative easing
    Date: 2021–03
  27. By: Franziska Bremus; Franziska Schütze; Aleksandar Zaklan
    Abstract: This papers analyzes the effect of the ECB’s Corporate Sector Purchase Programme (CSPP) and the recent Pandemic Emergency Purchase Programme (PEPP) on the yields of eligible green bonds, a new but rapidly growing segment of the corporate bond market. We exploit these policy changes using a difference-in-differences strategy, with ineligible corporate green bonds is- sued in euro, U.S. dollars and Swedish crowns as comparison groups. We find that both programs significantly improve financing conditions for eligible green bonds, thereby increasing the attractiveness of these instruments to issuers and of the euro area as a location of issuance. The effects of the CSPP and PEPP are heterogeneous, both in terms of average impact and persistence of the effects. Yield differences between eligible and ineligible green bonds can last for more than six months. Our analysis informs the debate about new financing options for firms as well as about effects of asset purchase programs on the transition towards a less carbon-intensive economy.
    Keywords: green bonds, bond yields, monetary policy, corporate sector purchase programme (CSPP), pandemic emergency purchase programme (PEPP)
    JEL: E52 E58 G12 G18 Q54
    Date: 2021
  28. By: Boneva, Lena; Islami, Mevlud; Schlepper, Kathi
    Abstract: The Eurosystem purchased €178 billion of corporate bonds between June 2016 and December 2018 under the Corporate Sector Purchase Programme (CSPP). Did these purchases lead to a deterioration of liquidity conditions in the corporate bond market, thus raising concerns about unintended consequences of large-scale asset purchases? To answer this question, we combine the Bundesbank's detailed CSPP purchase records with a range of liquidity indicators for both purchased and nonpurchased bonds. We find that while the flow of purchases supported secondary market liquidity, liquidity conditions deteriorated in the long-run as the Bundesbank reduced the stock of corporate bonds available for trading in the secondary market.
    Keywords: Corporate Bond Market,Central Bank Asset Purchases,Market Liquidity
    JEL: E52 F30 G12
    Date: 2021
  29. By: Kasinger, Johannes; Krahnen, Jan Pieter; Ongena, Steven; Pelizzon, Loriana; Schmeling, Maik; Wahrenburg, Mark
    Abstract: This paper discusses policy implications of a potentialsurge in NPLs due to COVID-19. The study provides an empirical assessment of potential scenarios and draws lessons from previous crises for effective NPL treatment. The paper highlights the importance of early and realistic assessment of loan lossesto avoid adverse incentives for banks. Secondary loan markets would help in this process and further facilitate bank resolution as laid down in the BRRD, which should be uphold even in extreme scenarios. This paper was prepared by the Economic Governance Support Unit (EGOV) at the request of the Committee on Economic and Monetary Affairs (ECON).
    Keywords: Covid-19,Non-performing Loans,Bank Resolution,Secondary Loan Markets,BRRD
    Date: 2021

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