nep-cba New Economics Papers
on Central Banking
Issue of 2023‒05‒22
eighteen papers chosen by
Sergey E. Pekarski
Higher School of Economics

  1. Does Monetary Policy in India Anchor Inflation Expectation? By Bhattacharya, Rudrani
  2. A snapshot of Central Bank (two year) forecasting: a mixed picture By Goodhart, C. A. E.; Pradhan, Manoj
  3. UK monetary and fiscal policy since the Great Recession- an evaluation By Le, Vo Phuong Mai; Meenagh, David; Minford, Patrick; Wang, Ziqing
  4. Does Monetary Policy Matter? The Narrative Approach after 35 Years By Christina D. Romer; David H. Romer
  5. The Reversal Interest Rate By Joseph Abadi; Markus K. Brunnermeier; Yann Koby
  6. Helicopter Drops and Liquidity Traps By Manuel Amador; Javier Bianchi
  7. Relative Price Shocks and Inflation By Francisco J. Ruge-Murcia; Alexander L. Wolman
  8. A tale of two margins: monetary policy and capital misallocation By Silvia Albrizio; Beatriz González; Dmitry Khametshin
  9. Lender of Last Resort and moral hazard By Goodhart, C. A. E.; Lastra, Rosa
  10. Corporate financing in fixed-income markets: the contribution of monetary policy to lowering the size barrier By Pana Alves; Sergio Mayordomo; Manuel Ruiz-García
  11. A Review of the Bank of Canada’s Support of Key Financial Markets During the COVID-19 Crisis By Joshua Fernandes; Michael Mueller
  12. The Art and Science of Monetary and Fiscal Policies in Chile By Medina, Juan Pablo; Toni, Emiliano; Valdes, Rodrigo
  13. Tackling the fiscal policy-financial stability nexus By Claudio Borio; Marc Farag; Fabrizio Zampolli
  14. Measurement and Use of Cash by Half the World’s Population By Mr. Tanai Khiaonarong; David Humphrey
  15. Leveraging the Disagreement on Climate Change: Theory and Evidence By Laura Bakkensen; Toan Phan; Russell Wong
  16. Distributional Effects of Exchange Rate Depreciations: Beggar-Thy-Neighbour or Beggar-Thyself? By Boris Fisera
  17. Error Spotting with Gradient Boosting: A Machine Learning-Based Application for Central Bank Data Quality By Csaba Burger; Mihály Berndt
  18. The Evolution of the Natural Rate of Interest – Evidence from the Scandinavian Countries By Armelius, Hanna; Solberger, Martin; Spånberg, Erik; Österholm, Pär

  1. By: Bhattacharya, Rudrani (National Institute of Public Finance and Policy)
    Abstract: India has entered into the Inflation Targeting (IT) monetary policy regime in 2015. Under this rule-based monetary policy regime, changes in the policy rate transmits to the economic activities and current inflation rate by altering the inflation expectation of the rational economic agents. This study empirically investigates whether monetary policy can anchor ination expectation of economic agents in India. In our analysis, the survey based measure of households' inflation expectation published by the Reserve Bank of India (RBI) captures inflation expectation of private agents. Using a co-integrated Vector Auto Regression (VAR) model, we find moderate but significant monetary policy transmission in India via interest rate channel. However, inflation expectation seems to be unanchored by monetary policy conduct in the country. Our finding is found to be robust under alternative modeling frameworks.
    Keywords: Inflation expectation ; Monetary policy ; Co-integrated VAR ; India
    JEL: C32 C5 E31 E52 E58
    Date: 2023–04
  2. By: Goodhart, C. A. E.; Pradhan, Manoj
    Abstract: Central Banks normally adjust monetary policy so that inflation hits the Inflation Target (IT) within two years. Since a central bank must believe its policy stance is appropriate to achieve this goal, its inflation forecast at the two-year horizon should generally be close to target. We examine whether this has held for three main Central Banks, Bank of England, ECB and Fed. During the IT period, there have been two crisis periods, The Great Financial Crisis (GFC), and then Covid/Ukraine. We examine how the two-year forecasts differed depending on whether we were in a crisis, or more normal, period. Although over the whole IT period, up until 2022, both forecasts and outcomes were commendably close to target, we found that this was due to a sizeable forecast underestimate of the effects of policy and inherent resilience to revive inflation after each crisis hit, largely offset by an overestimate of the effect of monetary policy to restore inflation to target during more normal times. We attribute such latter overestimation to an unwarranted belief in forward looking, ‘well anchored’, expectations amongst households and firms, and to a failure to recognise the underlying disinflationary trends, especially in 2010-2019. We outline a novel means for assessing whether these latter trends were primarily demand driven, e.g. secular stagnation, or supply shocks, a labour supply surge. Finally, we examine how forecasts for the uncertainty of outcomes and relative risk (skew) to the central forecast have developed by examining the Bank of England’s fan chart, again at the two-year horizon.
    Keywords: forecasting; expectations
    JEL: D10 D21 D80 D89 E17 E31 E37 E47 E59
    Date: 2023–03–29
  3. By: Le, Vo Phuong Mai (Cardiff Business School); Meenagh, David (Cardiff Business School); Minford, Patrick (Cardiff Business School); Wang, Ziqing (Sheffield Hallam University, Sheffield, United Kingdom)
    Abstract: This paper explores the economic impacts of the Bank of England’s quantitative easing policy, implemented as a response to the global financial crisis. Using an open economy Dynamic Stochastic General Equilibrium (DSGE) model, we demonstrate that monetary policy can remain effective even when nominal interest rates have reached the zero lower bound. We estimate and test the model using the indirect inference method, and our simulations indicate that a nominal GDP targeting rule implemented through money supply could be the most effective monetary policy regime. Additionally, our analysis suggests that a robust, active fiscal policy regime with nominal GDP targeting could significantly enhance economic stabilization efforts.
    Keywords: Quantitative easing, Financial friction, SOE-DSGE, Indirect inference, Zero bound
    JEL: E44 E52 E58 C51
    Date: 2023–04
  4. By: Christina D. Romer; David H. Romer
    Abstract: The narrative approach to macroeconomic identification uses qualitative sources, such as newspapers or government records, to provide information that can help establish causal relationships. This paper discusses the requirements for rigorous narrative analysis using fresh research on the impact of monetary policy as the focal application. We read the historical minutes and transcripts of Federal Reserve policymaking meetings to identify significant contractionary and expansionary changes in monetary policy not taken in response to current or prospective developments in real activity for the period 1946 to 2016. We find that such monetary shocks have large and significant effects on unemployment, output, and inflation in the expected directions. Analysis of available policy records suggests that a contractionary monetary shock likely occurred in 2022. Based on the empirical estimates of the effect of previous shocks, one would expect substantial negative impacts on real GDP and inflation in 2023 and 2024.
    JEL: E31 E52 E58 E65 N12
    Date: 2023–04
  5. By: Joseph Abadi; Markus K. Brunnermeier; Yann Koby
    Abstract: The reversal interest rate is the rate at which accommodative monetary policy reverses and becomes contractionary for lending. We theoretically demonstrate its existence in a macroeconomic model featuring imperfectly competitive banks that face financial frictions. When interest rates are cut too low, further monetary stimulus cuts into banks’ profit margins, depressing their net worth and curtailing their credit supply. Similarly, when interest rates are low for too long, the persistent drag on bank profitability eventually outweighs banks’ initial capital gains, also stifling credit supply. We quantify the importance of this mechanism within a calibrated New Keynesian model.
    Keywords: Monetary Policy; Lower Bound; Negative Rates; Banking
    JEL: E43 E44 E52 G21
    Date: 2022–09–01
  6. By: Manuel Amador; Javier Bianchi
    Abstract: We show that if the central bank operates without commitment and faces constraints on its balance sheet, helicopter drops can be a useful stabilization tool during a liquidity trap. With commitment, even with balance sheet constraints, helicopter drops are, at best, irrelevant.
    Keywords: Helicopter drops; Central bank independence; Liquidity traps; Zero lower bound
    JEL: E58 E31 E61 E52 E63
    Date: 2023–04–06
  7. By: Francisco J. Ruge-Murcia; Alexander L. Wolman
    Abstract: Inflation is determined by interaction between real factors and monetary policy. Among the most important real factors are shocks to the supply and demand for different components of the consumption basket. We use an estimated multi-sector New Keynesian model to decompose the behavior of U.S. inflation into contributions from sectoral (or "relative price") shocks, monetary policy shocks, and aggregate real shocks. The model is estimated by maximum likelihood with U.S. data for the post-1994 period in which inflation and the monetary policy regime appeared to be stable. In addition to providing a broad decomposition of inflation behavior, we enlist the model to help us understand the inflation shortfall from 2012 to 2019, and the dramatic inflation movements during the COVID pandemic.
    Keywords: Monetary Policy; sectoral shocks; inflation shortfall; COVID-19
    JEL: E31 E52 E58
    Date: 2022–05
  8. By: Silvia Albrizio (International Monetary Fund); Beatriz González (Banco de España); Dmitry Khametshin (Banco de España)
    Abstract: This paper explores the impact of monetary policy on capital misallocation through its heterogeneous effects on firms. Using Spanish firm-level data covering the period 1999-2019, we show that an expansionary monetary policy shock leads to a decrease in capital misallocation, as measured by the within-industry dispersion of firms’ marginal revenue product of capital (MRPK). To analyse the mechanism behind this finding, we first explore the intensive margin and show that high-MRPK firms increase their investment and their debt financing relatively more than low-MRPK firms after monetary policy easing. We also document that a firm’s MRPK is a much stronger driver of its investment sensitivity to monetary policy than its age, leverage or cash. These findings suggest that MRPK is a good proxy for financial frictions. Second, we explore the extensive margin and show that monetary policy easing increases entry and decreases exit, although the effect is quantitatively small, and it does not lead to significant changes in the composition of high- and low-MRPK entrants or exiters. Overall, the evidence points to expansionary monetary policy decreasing capital misallocation mainly through the relaxation of financial frictions of incumbent, productive, constrained firms.
    Keywords: monetary policy, financial frictions, investment, misallocation, productivity
    JEL: D22 D24 E22 E32 E52 O11 O4
    Date: 2023–01
  9. By: Goodhart, C. A. E.; Lastra, Rosa
    Abstract: In this paper we revisit the Lender of Last Resort (LOLR) function of the central bank and the associated moral hazard incentives. We argue that, from an economic perspective, the strict application of penalties to the operation of LOLR actions can make that instrument unworkable. Instead, we suggest that both penalties and publication should only be applied after such LOLR had been in place for a time. Normative frameworks ought to be adjusted in this regard.
    Keywords: lender-of-last-resort; illiquidity; insolvency; stigma
    JEL: E50 E58 E59 G18
    Date: 2023–03–29
  10. By: Pana Alves (Banco de España); Sergio Mayordomo; Manuel Ruiz-García (Banco de España)
    Abstract: Access to financing in fixed-income markets enables firms to diversify their sources of financing and reduces their vulnerability, particularly in periods when access to bank credit is restricted. This paper analyses the factors explaining firms’ recourse to capital market financing using the ERICA database, which contains detailed information on the balance sheets of the main non-financial groups listed in euro area countries. The results show that size is the most important determinant of recourse to this source of financing. According to the results of this paper, the introduction of the corporate sector purchase programme by the European Central Bank in 2016 appears to have contributed to improving capital market access for smaller listed firms. Nonetheless, size continues to be a key barrier to capital market access. Implementation of other more structural initiatives, such as the capital markets union, could help to further reduce these barriers to access to external financing.
    Keywords: corporate financing, fixed-income securities, CSPP, small listed firms, bank financing
    JEL: E51 E52 E58 G2 G12 G15 G23
    Date: 2022–05
  11. By: Joshua Fernandes; Michael Mueller
    Abstract: The COVID-19 pandemic placed unprecedented strain on the global financial system. We describe how the Bank of Canada responded to the rapidly deteriorating liquidity in core Canadian fixed-income markets. We also describe how market functioning improved after the Bank intervened. The Bank implemented several emergency facilities to ease market-wide liquidity strains, restore market functioning and support the stabilization and recovery of the Canadian economy. Over time, market functioning improved, and liquidity returned to pre-pandemic levels. The Bank’s facilities helped resolve market dysfunction and ensured that credit continued to be extended to households and businesses.
    Keywords: Coronavirus disease (COVID-19); Financial markets; Market structure and pricing; Monetary policy and uncertainty
    JEL: E44 E58 G01
    Date: 2023–04
  12. By: Medina, Juan Pablo; Toni, Emiliano; Valdes, Rodrigo
    Abstract: There is consensus that Chile has made substantial progress in its macroeconomic policies during the last 30 years. However, there is no comprehensive and formal quantification of the macroeconomic stabilization gains in terms of the critical dimensions in the conduct of monetary and fiscal policies. In this work, we make an effort to quantify these gains using a structural model that incorporates essential features of the Chilean economy, disentangling the role of changes in policies and shocks in shaping the business cycles. We pay particular attention to two simultaneous and significant policy regime changes. In 2000, Chile moved from a managed exchange rate regime to a floating one coupled with flexible inflation targeting. On fiscal, policy shifted to a more countercyclical budget, changing a the-facto nominal target for a structural one. Policies also deviated from their implicit rules in the old and the new regimes—the ``art" policy component. Fitting the model to the Chilean data through Bayesian techniques in the period 1990-2015, we find that a flexible exchange rate regime and a countercyclical fiscal rule enhance each other in terms of lowering macroeconomic volatility, especially those arising from commodity prices and other critical economic shocks. Together, the monetary and budgetary reforms attenuated both GDP and inflation's volatility considerably in 2000-2015 (compared to the counterfactual based on the 90's policies). The art part also contributed substantially to lowering macro volatility, especially fiscal policy deviations on GDP volatility. For the 90s, the counterfactuals using the new policy framework also show lower volatility and an even more relevant role for policy deviations.
    Keywords: DSGE Model, Fiscal and Monetary Policies, Macroeconomic stabilization, Chile.
    JEL: C54 E32 E37 E52 E62 F41
    Date: 2023–04–28
  13. By: Claudio Borio; Marc Farag; Fabrizio Zampolli
    Abstract: Tackling the fiscal policy-financial stability nexus is essential to ensure financial and hence macroeconomic stability. In this paper, we review the literature on this topic and suggest how policy could best tackle the link. Doing so involves action on two fronts. First, incorporating financial stability considerations in the design of fiscal policy. This means, in particular, considering the risk of financial crises when assessing fiscal space, recognising the flattering effects of financial booms on fiscal positions and removing or reducing fiscal incentives to private debt accumulation. Second, acknowledging that domestic currency-denominated public debt is not fully risk-free in the design of the prudential regulation of financial institutions. This calls for carefully balanced risk-sensitive capital charges or other measures to limit banks' sovereign exposures with due regard to the special role of government bonds in the financial system and country-specific characteristics. That said, prudent regulation cannot substitute for fiscal prudence.
    Keywords: financial crises; doom loops; sovereign exposures; prudential policy; fiscal policy
    JEL: E6 G2 G3 H1 H3 H6 H8
    Date: 2023–04
  14. By: Mr. Tanai Khiaonarong; David Humphrey
    Abstract: The use of cash for payments is not well measured. We view the value of cash withdrawn from ATMs, or as a share of all payments, as a more accurate and timely measure of cash use compared to the standard measure of currency in circulation, or as a ratio to GDP. These two measures are compared for 14 advanced and emerging market economies. When aggregated, the trend in cash use for payments is currently falling for half the world’s population. Such a measure can help inform policy decisions regarding CBDC and regulatory decisions concerning access to and use of cash.
    Keywords: Cash; payments; access to cash; central bank digital currency; cash use; ATM cash; aggregate Currency value; value of cash; use of cash; Currencies; Monetary base; Purchasing power parity; Stocks; Payment systems
    Date: 2023–03–17
  15. By: Laura Bakkensen; Toan Phan; Russell Wong
    Abstract: We theoretically and empirically investigate how climate risks affect collateralized debt markets. First, we develop a debt model where agents have different beliefs over a long-run risk. In contrast with existing two-period competitive-equilibrium models, our infinite-horizon competitive-search model predicts more pessimistic agents are more likely to make leveraged investments on risky collateral assets. They also tend to use longer maturity debt contracts, which are more exposed to the long-run risk. Second, employing large data on real estate and mortgage transactions, combined with high resolution sea-level-rise maps, we find robust evidence for these findings. We also show how monetary and securitization policies affect mortgage climate risk exposure. Our results highlight the importance of heterogeneous beliefs in understanding the effects of climate change on the financial system.
    Keywords: climate finance; sea-level rise; heterogeneous beliefs; real estate; mortgage; search and matching; monetary policy
    Date: 2023–01
  16. By: Boris Fisera (Faculty of Social Sciences, Charles University, Prague & Institute of Economic Research, Slovak Academy of Sciences, Bratislava)
    Abstract: While it is often argued that exchange rate depreciation has a beggar-thy-neighbour effect, in this paper, we investigate, whether exchange rate depreciation has a beggarthyself effect. Specifically, we explore the distributional consequences of Exchange rate movements. Using a heterogeneous panel cointegration approach, we find that, on average, small depreciations of the domestic currency decrease income inequality over the long-term. However, large depreciations in excess of 25%, increase income inequality over the long term. Large appreciations of the domestic currency also increase income inequality. Next, we identify 119 episodes of managed depreciations to better capture the distributional consequences of exchange rate movements. Managed depreciations are defined as situations in which the central bank intervenes to depreciate its domestic currency. Using the local projections (LP) approach, we find that managed depreciation shocks decrease income inequality. We find no evidence supporting the idea that exchange rate depreciation has a "beggar-thyself" effect with respect to income inequality, as it does not seem to increase inequality.
    Keywords: exchange rate depreciation, income inequality, competitive devaluation, managed depreciation, distributional effects
    JEL: F10 F30 F31 F43
    Date: 2023–04
  17. By: Csaba Burger (Magyar Nemzeti Bank (the Central Bank of Hungary)); Mihály Berndt (Clarity Consulting Kft)
    Abstract: Supervised machine learning methods, in which no error labels are present, are increasingly popular methods for identifying potential data errors. Such algorithms rely on the tenet of a ‘ground truth’ in the data, which in other words assumes correctness in the majority of the cases. Points deviating from such relationships, outliers, are flagged as potential data errors. This paper implements an outlier-based error-spotting algorithm using gradient boosting, and presents a blueprint for the modelling pipeline. More specifically, it underpins three main modelling hypotheses with empirical evidence, which are related to (1) missing value imputation, (2) the loss-function choice and (3) the location of the error. By doing so, it uses a cross sectional view on the loan-to-value and its related columns of the Credit Registry (Hitelregiszter) of the Central Bank of Hungary (MNB), and introduces a set of synthetic error types to test its hypotheses. The paper shows that gradient boosting is not materially impacted by the choice of the imputation method, hence, replacement with a constant, the computationally most efficient, is recommended. Second, the Huber-loss function, which is piecewise quadratic up until the Huber-slope parameter and linear above it, is better suited to cope with outlier values; it is therefore better in capturing data errors. Finally, errors in the target variable are captured best, while errors in the predictors are hardly found at all. These empirical results may generalize to other cases, depending on data specificities, and the modelling pipeline described underscores significant modelling decisions.
    Keywords: data quality, machine learning, gradient boosting, central banking, loss functions, missing values
    JEL: C5 C81 E58
    Date: 2023
  18. By: Armelius, Hanna (Confederation of Swedish Enterprise); Solberger, Martin (Department of Statistics, Uppsala University); Spånberg, Erik (Department of Statistics, Stockholm University); Österholm, Pär (Örebro University School of Business)
    Abstract: In this paper, the natural rate of interest in Denmark, Norway and Sweden are estimated. This is done by augmenting the Laubach and Williams (2003) framework with a dynamic factor model linked to eco-nomic indicators – a modelling choice which allows us to better identify business cycle fluctuations. We estimate the model using Bayesian methods on data ranging from 1990Q1 to 2022Q4. The results indi-cate that the natural rate has declined substantially and in all countries is at a low level at the end of the sample.
    Keywords: Monetary policy; Business cycle; Bayesian filter; Dynamic factor model
    JEL: E31 E43 E52
    Date: 2023–04–28

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