nep-cba New Economics Papers
on Central Banking
Issue of 2021‒09‒13
fifteen papers chosen by
Sergey E. Pekarski
Higher School of Economics

  1. Average Inflation Targeting: Time Inconsistency And Intentional Ambiguity By Chengcheng Jia; Jing Cynthia Wu
  2. Central bank balance sheet and systemic risk By Maëlle VAILLE
  3. Forward guidance with unanchored expectations By Eusepi, Stefano; Gibbs, Chris; Preston, Bruce
  4. Estimating the Effect of Monetary Policy with Dissenting Votes as Instrument By Balazs Vonnak
  5. The Impact of Covid-19 Related Policy Responses on Municipal Debt Markets By Robert Bernhardt; Stefania D'Amico; Santiago I. Sordo Palacios
  6. Monetary Policy Surprises in Chile: Measurement & Real Effects By Boragan Aruoba; Andrés Fernández; Daniel Guzmán; Ernesto Pastén; Felipe Saffie
  7. Are Collateral-Constraint Models Ready for Macroprudential Policy Design? By Pablo Ottonello; Diego J. Perez; Paolo Varraso
  8. Another reason to raise the Fed's inflation target: An employment and output boom By David Reifschneider; David Wilcox
  9. Asset encumbrance in euro area banks: analysing trends, drivers and prediction properties for individual bank crises By Berthonnaud, Pierre; Cesati, Enrico; Drudi, Maria Ludovica; Jager, Kirsten; Kick, Heinrich; Lanciani, Marcello; Schneider, Ludwig; Schwarz, Claudia; Siakoulis, Vasileios; Vroege, Robert
  10. The Macro-Economics of Crypto-Currencies: The Role of Private Moneys in Monetary Policy By Noam, Eli
  11. A Theory of the Global Financial Cycle By J. Scott Davis; Eric van Wincoop
  12. Testing for explosivity in US-Pak Exchange Rate via Sequential ADF Procedures By Ahmed, Mumtaz; Bashir, Uzma; Ullah, Irfan
  13. A semi-structural model with banking sector for stress testing scenario design By J. Sebastián Becerra; José Carreño; Juan Francisco Martínez
  14. The case for a positive euro area inflation target: Evidence from France, Germany and Italy By Adam, Klaus; Gautier, Erwan; Santoro, Sergio; Weber, Henning
  15. Exchange rate fluctuations and the financial channel in emerging economies By Beckmann, Joscha; Comunale, Mariarosaria

  1. By: Chengcheng Jia; Jing Cynthia Wu
    Abstract: We study the implications of the Fed's new policy framework of average inflation targeting (AIT) and its ambiguous communication. We show that AIT improves the trade-off between inflation and real activity by tilting the Phillips curve in a favorable way. To fully utilize this feature and maximize social welfare, the central bank has the incentive to deviate from AIT and implement inflation targeting ex post. Next, we rationalize the central bank's ambiguous communication about the horizon over which it averages inflation. Ambiguous communication, together with uncertainty about economic fundamentals, helps the central bank to gain credibility and improve welfare in the long run, in spite of the time-inconsistent nature of AIT.
    Keywords: average inflation targeting; time inconsistency; ambiguous communication
    JEL: E31 E52 E58
    Date: 2021–09–09
  2. By: Maëlle VAILLE
    Abstract: Central banks’ balance sheet policies, while intended to address ?nancial market dislocations and stimulate the economy, may have unintended persistent e?ects on systemic risk. Using a structural bayesian vector autoregressive model, this paper estimates the impacts of exogenous innovations to the central banks’ balance sheet on the aggregate systemic risk in the euro area, the United States and Japan. Our results suggest that these policies have positive e?ects on ?nancial stability in the short and medium term and seems to have no e?ects in the long term. Moreover, we study the e?ects of central balance sheet policies shocks on ?nancial institutions’ systemic risk through a panel VAR and highlight the role of leverage in the transmission of unconventional monetary policy to ?nancial ?rms’ systemic risk.
    Keywords: balance sheet policies, srisk, structural BVAR, zero and sign restrictions, leverage
    JEL: C32 C33 E44 E52 E58
    Date: 2021
  3. By: Eusepi, Stefano; Gibbs, Chris; Preston, Bruce
    Abstract: We study zero interest-rate policy in response to a large negative demand shock when long-run expectations can fall over time. Because falling expectations make monetary policy less effective by raising real interest rates, the optimal forward guidance policy makes large front-loaded promises to stabilize expectations. Policy is too stimulatory in the event of transitory shocks, but provides insurance against persistent shocks. The optimal policy is well-approximated by a constant calendar-based forward guidance, independent of the shock’s realised persistence. The insurance property distinguishes our paper from other bounded rationality papers that solve the forward guidance puzzle and generates important quantitative differences.
    JEL: E32 D83 D84
    Date: 2021–08–31
  4. By: Balazs Vonnak (Magyar Nemzeti Bank (Central Bank of Hungary))
    Abstract: In this paper a new instrument for monetary policy shocks is presented. Exogenous variation of the policy rate may come from frictions of collective decision-making. Dissenting votes indicate how far the final decision of the decision making body is from the mean of the members’ individually preferred interest rates and thus correlate with the policy shocks caused by the decision-making frictions. Measures of dissent are used as external instrument in a structural VAR. Results for the U.S. show significant effect of the Fed’s interest rate policy on real variables with the expected sign. On the other hand, the estimated effect on nominal variables is reminiscent of the price puzzle. Usual remedies, such as inclusion of commodity prices, inflation expectations or starting the sample in the middle of the eighties do not change the qualitative results casting doubt on the usual interpretation that the price puzzle is a statistical artifact.
    Keywords: monetary policy, structural vector autoregression, instrumental variable, price puzzle.
    JEL: C32 C36 E52
    Date: 2021
  5. By: Robert Bernhardt; Stefania D'Amico; Santiago I. Sordo Palacios
    Abstract: Municipal (muni) bonds are an important source of funding for state and local governments. During the Covid-19 pandemic, muni debt markets became severely distressed. In response, the Federal Reserve established the Municipal Liquidity Facility (MLF). Meanwhile, Congress enacted extensive fiscal measures that included direct aid to cities and states. To understand whether and how these policies worked, we employ a state-level regression model to estimate the relative efficacy of monetary and fiscal policy interventions for the term structure of muni-Treasury yield spreads. We find that fiscal and monetary policy together reduced those spreads by as much as 245 basis points. Fiscal policy contributed twice as much as monetary policy to the notable decline in shorter-term muni-Treasury spreads. At longer maturities, the contribution of fiscal policy was at least three times as large as that of monetary policy, suggesting that it addressed fundamental credit concerns.
    Keywords: Monetary Policy; Policy Effects; Stabilization; Bond Market; Security Markets; Government Bonds; Local Government Bonds
    JEL: E50 G51 H74
    Date: 2021–09–03
  6. By: Boragan Aruoba; Andrés Fernández; Daniel Guzmán; Ernesto Pastén; Felipe Saffie
    Abstract: This paper accomplishes two goals: First, it proposes a way to compute monetary policy surprises in Chile based on a survey of financial market participants regularly conducted by Bloomberg. We argue this is the most suitable one among alternatives. Second, we use these monetary policy surprises as input in a Bayesian Vector Auto Regression analysis to estimate the effect of contractionary monetary policy. Output and inflation tend to fall while funding costs tend to increase. Expected inflation a has hump-shaped response and nominal exchange rates tend to depreciate instead of appreciating. We argue the latter two effects are consistent with an "information channel" embedded in monetary policy decisions.
    Date: 2021–08
  7. By: Pablo Ottonello; Diego J. Perez; Paolo Varraso
    Abstract: We study the design of macroprudential policies based on quantitative collateral-constraint models. We show that the desirability of macroprudential policies critically depends on the specific form of collateral used in debt contracts: While inefficiencies arise when current prices affect collateral---a frequent benchmark used to guide policies---they do not when only future prices affect collateral. Since the microfoundations and quantitative predictions of models with future-price collateral constraints do not appear less plausible than those using current prices, we conclude that additional empirical work is essential for the use of these models in macroprudential policy design.
    JEL: E32 E44 F32 F36 F38 G01
    Date: 2021–09
  8. By: David Reifschneider (former Federal Reserve); David Wilcox (Peterson Institute for International Economics)
    Abstract: In 2012, the Federal Reserve formally adopted an inflation target and set it at 2 percent, in line with the level chosen by many other central banks. In hindsight, this setting left policymakers with too little room to cut interest rates when they want to fight recessions. Many researchers have noted that if central banks raised their inflation targets—either individually or in concert—they could do a better job in the long run of keeping inflation near its target and the workforce fully employed. Reifschneider and Wilcox highlight an additional and less-noted consequence of raising the inflation target modestly: The economy could enjoy a temporary but substantial boom in employment and output as it adjusted to the increase in the target. Critical to generating this favorable outcome would be decisive action by monetary policymakers to ensure that the higher inflation target is achieved in a reasonably timely manner. In light of substantial transition benefits, as well as the long-run improvement in economic performance, the authors recommend that the Federal Reserve raise its inflation target to 3 percent as part of its next framework review.
    Date: 2021–08
  9. By: Berthonnaud, Pierre; Cesati, Enrico; Drudi, Maria Ludovica; Jager, Kirsten; Kick, Heinrich; Lanciani, Marcello; Schneider, Ludwig; Schwarz, Claudia; Siakoulis, Vasileios; Vroege, Robert
    Abstract: Asset encumbrance is a central concept in the context of banks’ liquidity crises, as it is associated with their capacity to obtain secured funding. This occasional paper summarises the work carried out by the task force on asset encumbrance, bringing together analyses by the ECB and those national competent authorities working on the topic. First, we describe how asset encumbrance has evolved in euro area banks, focusing on country and business model aggregates. Second, we conduct an econometric analysis of the driving factors of banks’ asset encumbrance, highlighting the relevance of credit risk, the availability of high quality collateral suitable for encumbrance, capital and sovereign funding conditions. Third, we turn our focus to the asset encumbrance dynamics of banks that have experienced a crisis. The outcome of this event study analysis indicates that asset encumbrance increases in the lead-up to a crisis, partly to offset early deposit outflows. Building on these findings, we show that asset encumbrance indicators carry predictive information for bank-specific crises as part of a multivariate early warning model. JEL Classification: G21, G01, G28, C23, C49
    Keywords: asset encumbrance, bank crisis, bank funding, collateral, early warning model, liquidity, panel econometrics
    Date: 2021–08
  10. By: Noam, Eli
    Abstract: Cryptocurrencies provide an important dimension of innovation to the evolution of the exchange medium we call money. There are now over 4,000 such currencies, and their potential and volume is growing. The impact of such currencies for money laundering, law enforcement, and banking supervision have been extensively discussed on the transaction level. But this is the "micro" level of analysis. What has been rare is a "macro" level discussion of the impact on the monetary system of a country. Central banks, which are institutions tasked with providing monetary stability, will see their problems rise while the power of their traditional tools to control money supply and interest rates - such as reserve requirements and the discount rates - is declining. But the new digital technologies - such as distributed ledgers - and new approaches provide regulatory bodies also with new and potentially powerful tools. The task for central banks and policy makers is to create new approaches to use, regulate, and incent them in shaping the macro-economic path of their economy. The paper will propose several of these approaches. This is of particular importance in an economic recovery post coronavirus. In the process, central banks will also, predictably, issue their own digital currencies, and a tiny number of those will become global super-currencies. This will create a new type of issues.
    Date: 2021
  11. By: J. Scott Davis; Eric van Wincoop
    Abstract: We develop a theory to account for changes in prices of risky and safe assets and gross and net capital flows over the global financial cycle (GFC). The multi-country model features global risk-aversion shocks and heterogeneity of investors both within and across countries. Within-country heterogeneity is needed to account for the drop in gross capital flows during a negative GFC shock (higher global risk-aversion). Cross-country heterogeneity is needed to account for the differential vulnerability of countries to a negative GFC shock. The key vulnerability is associated with leverage. In both the data and the theory, leveraged countries (net borrowers of safe assets) deleverage through negative net outflows of risky assets and positive net outflows of safe assets, experience a rise in the current account and a greater than average drop in risky asset prices. The opposite is the case for non-leveraged countries (net lenders of safe assets).
    JEL: F30 F40
    Date: 2021–09
  12. By: Ahmed, Mumtaz; Bashir, Uzma; Ullah, Irfan
    Abstract: Global Financial Crises (GFC) of 2007-08 has disclosed the fact that economists and policymakers were unable to foresee bubble in housing prices in the US and other countries that consequently triggered the economic downturn. However, serious attempts have been made afterwards by researchers towards early identification of asset price bubbles, so that necessary policy measures could be taken to avoid any future mishap. Current study is conducted in similar vein to identify bubbles in nominal Dollar to Pakistani Rs exchange rate, from January 1982 to May 2020. Whether any identified bubble in nominal exchange rate is a rational bubble or otherwise generated by fundamentals, nominal exchange rate is adjusted for traded goods price differential and non-traded goods price differential in two countries as there is growing trend to take underlying fundamentals into account while studying asset prices to get accurate results on bubble detection (Bettendorf and Chen, 2013; Jiang et al., 2015 and Hu & Oxley, 2017). Further to explore whether nature of bubble changes with regime switching from managed floating to flexible floating in Pakistan is an addition of the study. Results of Generalized sup Augmented Dicky-Fuller (GSADF) test show that traded goods fundamental fully explain the movements in exchange rates even when non-traded goods are taken into account. Exchange rates were volatile both in managed floating and flexible floating regimes. However, volatility in only managed floating regime can be attributed to traded goods price difference. Various explosive episodes have been observed during flexible floating regime, which are either collapse or collapse and recovery phases.
    Keywords: Multiple Bubbles; Explosive Behavior; GSADF test
    JEL: C2 C22 E3
    Date: 2021–09
  13. By: J. Sebastián Becerra; José Carreño; Juan Francisco Martínez
    Abstract: In this paper, we estimate a semi-structural New-Keynesian model for the Chilean economy. Our contribution consists of including a financial block, with an explicit description of the lending interest rate, credit volume, credit risk, and interest rate spreads. Firstly, we find the presence of a financial accelerator, that amplifies shocks. We find a significant relevance of financial sector feedback to the real economy. The incorporation of financial elements in a simple and flexible way allows the developed macro-financial model to be useful for various purposes. In this work, we carry out exercises in which extreme scenarios are simulated and are suitable for stress testing purposes.
    Date: 2021–07
  14. By: Adam, Klaus; Gautier, Erwan; Santoro, Sergio; Weber, Henning
    Abstract: Using micro price data underlying the Harmonized Index of Consumer Prices in France, Germany and Italy, we estimate relative price trends over the product life cycle and show that minimizing price and mark-up distortions in the presence of these trends requires targeting a significantly positive inflation target. Relative price trends shift the optimal in ation target up from a level of zero percent, as suggested by the standard sticky price literature, to a range of 1.1%- 2.1% in France, 1.2%-2.0% in Germany, 0.8%-1.0% in Italy, and 1.1-1.7% in the Euro Area (three country average). Differences across countries emerge due to systematic differences in the strength of relative price trends. Other considerations not taken into account in the present paper may push up the optimal inflation targets further. The welfare costs associated with targeting zero inflation turn out to be substantial and range between 2.1% and 4.5% of consumption in present-value terms.
    Keywords: Optimal inflation target,micro price trends,welfare
    JEL: E31 E52
    Date: 2021
  15. By: Beckmann, Joscha; Comunale, Mariarosaria
    Abstract: This paper assesses the financial channel of exchange rate fluctuations for emerging countries and the link to the conventional trade channel. We analyze whether the effective exchange rate affects GDP growth, the domestic credit and the global liquidity measure as the credit in foreign currencies, and how global liquidity affects GDP growth. We make use of local projections in order to look at the shocks’ transmission covering 11 emerging market countries for the period 2000Q1–2016Q3. We find that foreign denominated credit plays an important macroeconomic role, operating through various transmission channels. The direction of effects depends on country characteristics and is also related to the policy stance among countries. We find that domestic appreciations increase demand regarding foreign credit, implying positive effects on investment and GDP growth. However, this is valid only in the short-run; in the medium-long run, an increase of credit denominated in foreign currency (for instance, due to apeiation) decreases GDP. The financial channel works mostly in the short run except for Brazil, Malaysia, and Mexico, where the trade channel always dominates. Possibly there is a substitution effect between domestic and foreign credit in the case of shocks in exchange rate.
    JEL: F31 F41 F43 G15
    Date: 2021–08–30

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