nep-cba New Economics Papers
on Central Banking
Issue of 2023‒06‒26
28 papers chosen by
Sergey E. Pekarski
Higher School of Economics

  2. Central bank communication and trust: an experimental study on the European Central Bank and the general public By Mochhoury, Sarah
  3. From Policy to Regime: the changing posture of the ECB between liquidity and collateral through the lens of Monetary Regime By Giordano, Matteo; Goghie, Alexandru-Stefan
  4. Has the reaction function of the European Central Bank changed over time? By Tatar, Balint
  5. Media Treatment of Monetary Policy Surprises and Their Impact on Firms’ and Consumers’ Expectations By Julien Pinter; Evžen Kocenda
  6. Decomposing the Monetary Policy Multiplier By Pietro Alessandrini; Òscar Jordà; Fabrizio Venditti
  7. Fifty shades of QE: Robust evidence By Fabo, Brian; Jancoková, Martina; Kempf, Elisabeth; Pástor, éLuboés
  8. Consumption categories, household attention, and inflation expectations: Implications for optimal monetary policy By Dietrich, Alexander M.
  9. Exchange Rate Misalignment and External Imbalances: What is the Optimal Monetary Policy Response? By Giancarlo Corsetti; Luca Dedola; Sylvain Leduc
  10. A Monetary Equilibrium with the Lender of Last Resort By Tarishi Matsuoka; Makoto Watanabe
  11. Fed Communication, News, Twitter, and Echo Chambers By Bennett Schmanski; Chiara Scotti; Clara Vega
  12. Money and output asymmetry: The Unintended consequences of central banks' obsession with inflation By Taniya Ghosh; Abhishek Gorsi
  13. Effectiveness of the Interest Rate Channel of Monetary Policy Transmission Mechanism in Sierra Leone By Jackson, Emerson Abraham; Barrie, Mohamed Samba; Tamuke, Edmund
  14. Mind Your Language: Market Responses to Central Bank Speeches By Maximilian Ahrens; Deniz Erdemlioglu; Michael McMahon; Christopher J. Neely; Xiye Yang
  15. CBDC: Lesson from a Historical Experience By Grodecka-Messi, Anna; Zhang, Xin
  16. Should inequality factor into central banks’ decisions? By Niels-Jakob H. Hansen; Alessandro Lin; Rui C. Mano
  17. Swiss National Bank: Is the recent loss a threat to monetary policy? A research note By Kämpf, Vanessa; Stadtmann, Georg; Zimmermann, Lilli
  18. MONEY VELOCITY, DIGITAL CURRENCY, AND INFLATION DYNAMICS By Danny Hermawan Adiwibowo; Aryo Sasongko; Denny Lie
  19. Post-COVID Inflation & the Monetary Policy Dilemma: An Agent-Based Scenario Analysis By Max Sina Knicker; Karl Naumann-Woleske; Jean-Philippe Bouchaud; Francesco Zamponi
  20. More than Words: Twitter Chatter and Financial Market Sentiment By Andrea Ajello; Diego Silva; Travis Adams; Francisco Vazquez-Grande
  21. The digital euro: A precautionary device, not a deus ex machina By Angeloni, Ignazio
  22. The Macroeconomic Stabilization of Tariff Shocks: What is the Optimal Monetary Response? By Giancarlo Corsetti; Paul Bergin
  23. A baseline stock-flow model for the analysis of macroprudential regulation guidelines and policies for Latin America and the Caribbean By Pérez Caldentey, Esteban; Nalin, Lorenzo; Rojas Rodríguez, Leonardo
  24. Climate-induced liquidity crises: interbank exposures and macroprudential implications By Paola D'Orazio; Jessica Reale; Anh Duy Pham
  25. Targeted Reserve Requirements for Macroeconomic Stabilization By Zheng Liu; Mark M. Spiegel; Jingyi Zhang
  26. Financial Stability and Financial Regulation under Diagnostic Expectations By Antoine Camous; Alejandro Van der Ghote
  27. Macroprudential regulation in Africa in the context of the COVID-19 pandemic By Chandrasekhar, C. P.
  28. Unconventional-Policy Spillovers of U.S. Interest on Reserves within Global Dollar-Denominated Retail Loan and Deposit Markets By Enzo Dia; David VanHoose

  1. By: Solikin M. Juhro (Bank Indonesia); Denny Lie (University of Sydney); Atet Rizki Wijoseno (University of North Carolina); Mohammad Aly Fikry (Bank Indonesia)
    Abstract: This paper seeks to answer the following policy-relevant questions: (i) does the complementarity between monetary and macroprudential policies depend on the monetary and fiscal policy stances, and (ii) what is the likely aggregate effect of a central bank digital currency (CBDC) issuance on the existing central bank policy mix (CBPM) framework. We analyze these questions within a medium-scale Dynamic Stochastic General Equilibrium (DSGE) model for Indonesia with a non-trivial fiscal policy and a parsimonious CBDC effect. On the first question, we find that monetaryfiscal policy stances do matter for whether a macroprudential policy rule stabilizes business cycle fluctuations and is welfare-improving. It is still the case, however, a passive monetary, active fiscal regime (PMAF) is sub-optimal compared to the active monetary, passive fiscal (AMPF) regime counterpart. On the second question, we find that a CBDC issuance lowers the transaction costs and its effects on aggregate economic variables are similar to the effects of a permanent technological progress.
    Keywords: integrated policy framework, central bank policy mix, DSGE model for Indonesia, monetary-fiscal policy coordination, macroprudential-fiscal policy coordination, central bank digital currency (CBDC)
    JEL: E12 E32 E58 E61 E63 F41
    Date: 2022
  2. By: Mochhoury, Sarah
    Abstract: While it has become clear that communication is a monetary policy tool for central banks, and extensive research has been conducted on central bank communication with financial markets, little is known so far on central bank communication with the general public. My research provides new insights into this field, confirming that the efforts of central banks to connect with a wider public are not in vain. In a randomised controlled trial, I focus on the determinants of trust in the European Central Bank (ECB) and on understanding of its communication about the Pandemic Emergency Purchase Programme, which was set up as part of the ECB’s response to the COVID-19 crisis. I find that the ECB’s simplified and relatable communication leads to greater trust in the central bank among the general public, as it has a positive impact on perceptions of the ECB among laypeople. The simplified content also proves to contribute to increased understanding of the central bank’s messages among the wider public. JEL Classification: C83, C93, D83, E52, E58
    Keywords: Behavioural economics, Central bank communication, European Central Bank, Experimental economics, Trust
    Date: 2023–06
  3. By: Giordano, Matteo; Goghie, Alexandru-Stefan
    Abstract: The evolution of the European Central Bank (ECB) and of the forms of monetary policy implemented in the Eurozone since its inception outline a more radical shift in the posture of the ECB rather than the simple recourse to new instruments of monetary policy. This paper explores the concept of monetary regime to understand under a systemic lens the changes occurred in the conventional and unconventional monetary policy operations, and how they have shaped the position of the ECB within the increasingly market-based financial system. We argue that the features of a monetary regime affect the processes of de- and re-politicization of the ECB. To do so, we explore three key but under-studied changes in the operations of the ECB: the shift from a corridor to a floor system with the fixed-rate full allotment (FRFA) procedure for its refinancing operations in 2008, the implementation of Securities Lending in the second half of the 2010s, and the introduction of the Transmission Protection Mechanism in 2022. These events, in turn, hinge on the evolving dynamics between liquidity and collateral, which not only define the frame of the monetary regime, but also allow for the central bank’s operations to have significant, though involuntary and indirect, fiscal consequences. Ultimately, this paper highlights the shift from monetary and fiscal concerns to financial ones, thus arguing that macroeconomic policies have become subordinated to financial logics that imply an increasing blurring of the separations between monetary and fiscal spheres.
    Date: 2023–05–26
  4. By: Tatar, Balint
    Abstract: I have assessed changes in the monetary policy stance in the euro area since its inception by applying a Bayesian time-varying parameter framework in conjunction with the Hamiltonian Monte Carlo algorithm. I find that the estimated policy response has varied considerably over time. Most of the results suggest that the response weakened after the onset of the financial crisis and while quantitative measures were still in place, although there are also indications that the weakening of the response to the expected inflation gap may have been less pronounced. I also find that the policy response has become more forceful over the course of the recent sharp rise in inflation. Furthermore, it is essential to model the stochastic volatility relating to deviations from the policy rule as it materially influences the results.
    Keywords: Monetary policy rules, Bayesian time-varying parameter estimation, unconventional monetary policy, Hamiltonian Monte Carlo
    JEL: E52 C11 C22 C51
    Date: 2023
  5. By: Julien Pinter; Evžen Kocenda
    Abstract: Do firms’ and consumers’ expectations react to central bank announcements? Past literature has come to divergent conclusions, but it has systematically ignored how media treat the announcements. This paper investigates the link between monetary policy announcements and expectations by taking into account their media treatment. We initially rely on the standard monetary policy surprise measures in the euro area to identify exogenous changes in monetary policy stances. We then analyze how the main general newspapers in France report on announcements. 85 % of the monetary policy surprises are either not associated with the newspapers reporting a change in the monetary policy stance or have a sign that is inconsistent with the media report. Only when we consider media-consistent monetary policy surprises do we find that consumers and firms respond to monetary policy announcements. We then build our own measure of media monetary policy surprises and confirm that these matter. Further analysis reveals that the tonality of the media reports on the economy drives the sign of consumers’ response.
    Keywords: firm expectations, consumer expectations, monetary policy surprises, European Central Bank, information effect
    JEL: D84 E02 E52 E31
    Date: 2023
  6. By: Pietro Alessandrini; Òscar Jordà; Fabrizio Venditti
    Abstract: Financial markets play an important role in generating monetary policy transmission asymmetries in the US. Credit spreads only adjust to unexpected increases in interest rates, causing output and prices to respond more to a monetary tightening than to an expansion. At a one year horizon, the ‘financial multiplier’ of monetary policy—defined as the ratio between the cumulative responses of employment and credit spreads—is zero for a monetary expansion, -2 for a monetary tightening, and -4 for a monetary tightening that takes place under strained credit market conditions. These results have important policy implications: the central bank may inadvertently over-tighten in times of financial uncertainty.
    Keywords: monetary policy; credit spreads; local projections; Kitagawa decomposition
    JEL: C13 C32 E32 E52
    Date: 2023–05–24
  7. By: Fabo, Brian; Jancoková, Martina; Kempf, Elisabeth; Pástor, éLuboés
    Abstract: Fabo, Jancoková, Kempf, and Pástor (2021) show that papers written by central bank researchers find quantitative easing (QE) to be more effective than papers written by academics. Weale and Wieladek (2022) show that a subset of these results lose statistical significance when OLS regressions are replaced by regressions that downweight outliers. We examine those outliers and find no reason to downweight them. Most of them represent estimates from influential central bank papers published in respectable academic journals. For example, among the five papers finding the largest peak effect of QE on output, all five are published in high-quality journals (Journal of Monetary Economics, Journal of Money, Credit and Banking, and Applied Economics Letters), and their average number of citations is well over 200. Moreover, we show that these papers have supported policy communication by the world's leading central banks and shaped the public perception of the effectiveness of QE. New evidence based on quantile regressions further supports the results in Fabo et al. (2021).
    Keywords: Economic research, quantitative easing, QE, central bank, career concerns
    JEL: A11 E52 E58 G28
    Date: 2023
  8. By: Dietrich, Alexander M.
    Abstract: What inflation measure should central banks target? This paper shows optimal monetary policy targets headline inflation if households pay limited attention to different consumption categories when forming inflation expectations. This result stands in contrast to standard rational expectations models, where optimal policy targets core inflation. The core inflation rate excludes volatile energy and food prices (non-core) from headline inflation. Using novel survey data on inflation expectations for disaggregated consumption categories, I find household expectations are disproportionately driven by beliefs about future non-core prices. I develop a sparsity-based rational inattention model to account for the empirical evidence. While forming inflation expectations, households pay attention to the volatile non-core components; the stable core inflation component receives little attention. Finally, I embed this framework into a multi-sector New Keynesian model to derive the optimal inflation target. In the model, targeting headline inflation is optimal, whereas a core inflation target would fail to stabilize the economy sufficiently.
    Keywords: Households expectations, Survey, Monetary policy, Behavioral macroeconomics
    JEL: C83 E31 E52 E70
    Date: 2023
  9. By: Giancarlo Corsetti; Luca Dedola; Sylvain Leduc
    Abstract: How should monetary policy respond to excessive capital inflows that appreciate the currency, widen the external deficit and cause overheating? Using the workhorse open-macro model, we derive a quadratic approximation of the utility-based global loss function in incomplete market economies, and solve for the optimal targeting rules under cooperation. The optimal monetary stance is expansionary if the exchange rate pass-through (ERPT) on import prices is complete, contractionary if nominal rigidities reduce the ERPT. Excessive capital inflows, however, may lead to currency undervaluation instead of overvaluation for some parameter values. The optimal stance is then invariably expansionary to support domestic demand.
    Keywords: Currency misalignments, trade imbalances, asset markets and risk sharing, optimal targeting rules, international policy cooperation, exchange rate pass-through
    Date: 2022–11
  10. By: Tarishi Matsuoka; Makoto Watanabe
    Abstract: This paper studies the role of a lender of last resort (LLR) in a monetary model where a shortage of a bank’s monetary reserves (a liquidity crisis) occurs endogenously. We show that discount window lending by the LLR is welfare-improving but reduces banks’ ex-ante incentive to hold monetary reserves, which increases the probability of a liquidity crisis, and can cause moral hazard in capital investment. We also analyze the combined effects of monetary and extensive LLR policies, such as a nominal interest rate, a lending rate, and a haircut.
    Keywords: monetary equilibrium, liquidity crisis, lender of last resort, moral hazard
    JEL: E40
    Date: 2023
  11. By: Bennett Schmanski; Chiara Scotti; Clara Vega
    Abstract: We estimate monetary policy surprises (sentiment) from the perspective of three different textual sources: direct central bank communication (FOMC statements and press conferences), news articles, and Twitter posts during FOMC announcement days. Textual sentiment across sources is highly correlated, but there are times when news and Twitter sentiment substantially disagree with the sentiment conveyed by the central bank. We find that sentiment estimated using news articles correlates better with daily U.S. Treasury yield changes than the sentiment extracted directly from Fed communication, and better predicts revisions in economic forecasts and FOMC decisions. Twitter sentiment is also useful, but slightly less so than news sentiment. These results suggest that news coverage and Tweets are not a simple echo chamber but they provide additional useful information. We use Sastry (2022)'s theoretical model to guide our empirical analysis and test three mechanisms that can explain what drives monetary policy surprises extracted from different sources: asymmetric information (central bank has better information than journalists and Tweeters), journalists (and Tweeters) have erroneous beliefs about the monetary policy rule, and the central bank and journalists (Tweeters) have different confidence in public information. Our empirical results suggest that the latter mechanism is the most likely mechanism.
    Keywords: Monetary policy; Public information; Price discovery
    JEL: C53 D83 E27 E37 E44 E47 E50 G10
    Date: 2023–05–26
  12. By: Taniya Ghosh (Indira Gandhi Institute of Development Research); Abhishek Gorsi (Indira Gandhi Institute of Development Research)
    Abstract: The study reexamines the relationship between money and output for the US, UK, and the Euro Area using quarterly data up to 2022. Modern central banks are focused on controlling inflation, and adjust their monetary policy and liquidity accordingly. However, it is common practise to overlook the precise effects of those actions on other variables. Unlike prior research, which has mainly focused on the linear relationship, this paper examines the asymmetric impact of money on output. The results show that a decrease in the amount of money has a much more adverse impact on output than an increase. Globally, during COVID-19, there was an infusion of liquidity that might have been useful in the short term, but the withdrawal of that excess liquidity, as been done currently by some major economies, may have long-term effects on those economies' output.
    Keywords: Monetarism, Monetary Aggregates, Monetary Policy, Money, Money-Income-Output, NARDL, Non-Linear Granger Causality
    JEL: E42 E52 E58 E64
    Date: 2023–05
  13. By: Jackson, Emerson Abraham; Barrie, Mohamed Samba; Tamuke, Edmund
    Abstract: The study investigated the effectiveness of the interest rate channel of monetary policy transmission to domestic price level in Sierra Leone using data from February 2011 to June 2022. Two VAR models are employed to analyze the relationship between the lending rate and credit to the private sector, exchange rate, money supply, and consumer price index. The results indicate that a one standard deviation shock to lending rates does not significantly affect credit to the private sector, suggesting that the lending rate channel has minimal impact. The impact of the lending rate on the exchange rate is also insignificant. However, the impact of the monetary policy rate on the lending rate is significant. Thus, while monetary policy rate is effectively transmitted to the lending rate, the lending rate does not effectively transmit to other monetary variables of interest, including credit to the private sector and the price level, implying that the role of the monetary policy rate in Sierra Leone is quite limited. Thus, there is a need for structural changes, including building financial inclusion to reduce the role of cash transactions.
    Keywords: Monetary Policy Transmission, Interest Rate Channel, Exchange Rate, Sierra Leone
    JEL: C32 E43 E52 O5
    Date: 2023–05–02
  14. By: Maximilian Ahrens; Deniz Erdemlioglu; Michael McMahon; Christopher J. Neely; Xiye Yang
    Abstract: Researchers have carefully studied post-meeting central bank communication and have found that it often moves markets, but they have paid less attention to the more frequent central bankers’ speeches. We create a novel dataset of US Federal Reserve speeches and use supervised multimodal natural language processing methods to identify how monetary policy news affect financial volatility and tail risk through implied changes in forecasts of GDP, inflation, and unemployment. We find that news in central bankers’ speeches can help explain volatility and tail risk in both equity and bond markets. We also find that markets attend to these signals more closely during abnormal GDP and inflation regimes. Our results challenge the conventional view that central bank communication primarily resolves uncertainty.
    Keywords: central bank communication; multimodal machine learning; natural language processing; speech analysis; high-frequency data; volatility; tail risk
    JEL: E50 E52 C45 C53 G10 G12 G14
    Date: 2023–05–31
  15. By: Grodecka-Messi, Anna (Monetary Policy Department, Central Bank of Sweden); Zhang, Xin (Research Department, Central Bank of Sweden)
    Abstract: Central banks have been considering the introduction of central bank digital currencies (CBDCs). The theoretical literature indicates that this may influence private banks’ lending activity and their profitability with implications for financial stability. To provide empirical evi dence on this debate, we study the effects of the arrival of a new central-bank issued currency on commercial banks in a historical setup. We use the opening of the Bank of Canada in 1935 as a natural experiment to provide evidence that banks mostly affected by the currency competition experienced lower profitability but did not decrease their lending compared to unaffected peers.
    Keywords: Money and Banking; Central Bank Digital Currencies; Central Banks; Bank Profitability; Bank Lending; Bank of Canada; Banknote Monopoly
    JEL: E42 E50 G21 G28 N22
    Date: 2023–06–01
  16. By: Niels-Jakob H. Hansen (International Monetary Fund); Alessandro Lin (Bank of Italy); Rui C. Mano (International Monetary Fund)
    Abstract: Inequality is increasingly a policy concern. It is well known that fiscal and structural policies can mitigate inequality. However, less is known about the potential role of monetary policy. This paper investigates how inequality matters for the conduct of monetary policy within a tractable Two-Agent New Keynesian model. We find some support for making consumption inequality an explicit target for monetary policy, particularly if central banks follow standard Taylor rules. Given the importance of labor income at the lower end of the income distribution, we also consider augmented Taylor rules targeting the labor share. We find that such a rule is preferable to targeting consumption inequality directly. However, under optimal monetary policy the gains from targeting inequality are smaller.
    Keywords: inequality, optimal monetary policy, Taylor rules
    JEL: E21 E32 E52
    Date: 2023–04
  17. By: Kämpf, Vanessa; Stadtmann, Georg; Zimmermann, Lilli
    Abstract: The Swiss National Bank (SNB) announced to refrain from profit distribution in 2022 owing to the accumulation of a huge financial loss. In this note we examine the key determinants of the SNB's loss and shed light on its implications to conduct monetary policy. In particular, we show that different accounting principles yield different results concerning the equity position of a central bank's balance sheet, yet not affecting the ability to run monetary policy.
    Keywords: Swiss National Bank, central bank, monetary policy
    JEL: E5 G15
    Date: 2023
  18. By: Danny Hermawan Adiwibowo (Bank Indonesia); Aryo Sasongko (Bank Indonesia); Denny Lie (University of Sydney)
    Abstract: This paper empirically investigates the impact of transaction cost-induced varia- tions in the velocity of money on infation dynamics in Indonesia, based on a struc- tural New Keynesian Phillips curve (NKPC) with an explicit money velocity term. This money velocity effect arises from the role of money, both in physical and digital forms, in reducing the aggregate transaction cost and facilitating purchases of goods and services. We fnd a signifcant aggregate impact: our preferred estimates suggest that a 10% reduction in money velocity, which may be facilitated by a new digital currency (e.g. CBDC) issuance, would reduce the infation rate by 1%, all else equal. Using the estimates and within a small-scale, structural New Keynesian model, we investigate the likely implications of a CBDC issuance on aggregate nominal and real fuctua- tions. A CBDC issuance that (conservatively) lowers the velocity of money by 5% is predicted to permanently raise the GDP level by 0.8% and lower the infation rate by 0.8%. Both nominal and real interest rates are also permanently lower. Shocks to the velocity of money are an important driver of aggregate fuctuations.
    Keywords: inflation dynamics, transaction cost, velocity of money, digital money, digital currency, digital payments, central bank digital currency (CBDC).
    JEL: E31 E32 E42 E52 E58
    Date: 2022
  19. By: Max Sina Knicker; Karl Naumann-Woleske; Jean-Philippe Bouchaud; Francesco Zamponi
    Abstract: The economic shocks that followed the COVID-19 pandemic have brought to light the difficulty, both for academics and policy makers, of describing and predicting the dynamics of inflation. This paper offers an alternative modelling approach. We study the 2020-2023 period within the well-studied Mark-0 Agent-Based Model, in which economic agents act and react according to plausible behavioural rules. We include in particular a mechanism through which trust of economic agents in the Central Bank can de-anchor. We investigate the influence of regulatory policies on inflationary dynamics resulting from three exogenous shocks, calibrated on those that followed the COVID-19 pandemic: a production/consumption shock due to COVID-related lockdowns, a supply-chain shock, and an energy price shock exacerbated by the Russian invasion of Ukraine. By exploring the impact of these shocks under different assumptions about monetary policy efficacy and transmission channels, we review various explanations for the resurgence of inflation in the United States, including demand-pull, cost-push, and profit-driven factors. Our main results are four-fold: (i)~without appropriate policy, the shocked economy can take years to recover, or even tip over into a deep recession; (ii)~the response to policy is non-monotonic, leading to a narrow window of ``optimal'' policy responses due to the trade-off between inflation and unemployment; (iii)~the success of monetary policy in curbing inflation is primarily due to expectation anchoring, rather than to direct impact of interest rate hikes; (iv)~the two most sensitive model parameters are those describing wage and price indexation. The results of our study have implications for Central Bank decision-making, and offers an easy-to-use tool that may help anticipate the consequences of different monetary and fiscal policies.
    Date: 2023–06
  20. By: Andrea Ajello; Diego Silva; Travis Adams; Francisco Vazquez-Grande
    Abstract: We build a new measure of credit and financial market sentiment using Natural Language Processing on Twitter data. We find that the Twitter Financial Sentiment Index (TFSI) correlates highly with corporate bond spreads and other price- and survey-based measures of financial conditions. We document that overnight Twitter financial sentiment helps predict next day stock market returns. Most notably, we show that the index contains information that helps forecast changes in the U.S. monetary policy stance: a deterioration in Twitter financial sentiment the day ahead of an FOMC statement release predicts the size of restrictive monetary policy shocks. Finally, we document that sentiment worsens in response to an unexpected tightening of monetary policy.
    Keywords: Financial Market Sentiment; Monetary policy; Natural Language Processing; Stock Returns; Twitter
    JEL: D53 C58 C55 E52
    Date: 2023–05–23
  21. By: Angeloni, Ignazio
    Abstract: There is much discussion today about a possible digital euro (PDE). Is this attention exaggerated? Are "central bank digital currencies" (CBDCs) "a solution in search of a problem", as some have argued? This article summarizes the main facts about the PDE and concludes that, if the decision on adoption had to be taken today, the arguments against would outweigh those in favor. However, there may be future circumstances in which having a CBDC ready for use can indeed be useful. Therefore, preparing is a good thing, even if the odds of its usefulness in normal conditions are slim.
    Keywords: Digital, Euro, Financial Stability, Monetary Policy, Central Bank, CBDC, Banks
    Date: 2023
  22. By: Giancarlo Corsetti; Paul Bergin
    Abstract: In the wake of Brexit and Trump trade war, central banks face the need to reconsider the role ofmonetary policy in managing the inflationary-recessionary effects of hikes in tariffs. Using a NewKeynesian model enriched with global value chains and firm dynamics, we show that the optimalmonetary response is expansionary. It supports activity and producer prices at the expense ofaggravating short-run headline inflation---contrary to the prescription of the standard Taylor rule. Thisholds all the more when the home currency is dominant in pricing of international trade.
    Keywords: Tariff shock, tariff war, optimal monetary policy, production chains
    Date: 2023–03
  23. By: Pérez Caldentey, Esteban; Nalin, Lorenzo; Rojas Rodríguez, Leonardo
    Date: 2023–01–27
  24. By: Paola D'Orazio (Chair of Economics, Faculty of Economics and Business Administration, Technische Universitaet Chemnitz); Jessica Reale (Institute for Macroeconomics, Faculty of Economics and Management, Ruhr-Universitaet Bochum); Anh Duy Pham (Department of Computer Science, Hochschule Bonn-Rhein-Sieg)
    Abstract: Although climate-induced liquidity risks can cause significant disruptions and instabilities in the financial sector, they are frequently overlooked in current debates and policy discussions. This paper proposes a macro-financial agent-based integrated assessment model to investigate the transmission channels of climate risks to financial instability and study the emergence of liquidity crises through interbank market dynamics. Our simulations show that the financial system could experience serious funding and market liquidity shortages due to climate-induced liquidity crises. Our investigation contributes to our understanding of the impact - and possible solutions - to climate-induced liquidity crises, besides the issue of asset stranding related to transition risks usually considered in the existing studies.
    Keywords: Agent-Based Modeling, Climate Risks, Prudential Regulation, Interbank Market, Liquidity Crises
    Date: 2023–06
  25. By: Zheng Liu; Mark M. Spiegel; Jingyi Zhang
    Abstract: We study the effectiveness of targeted reserve requirements (RR) as a policy tool for macroeconomic stabilization. Targeted RR adjustments were implemented in China during both the 2008-09 global financial crisis and the recent COVID-19 pandemic. We develop a model in which firms with idiosyncratic productivity can borrow from two types of banks---local or national---to finance working capital. National banks provide liquidity services, while local banks have superior monitoring technologies, such that both types coexist. Relationship banking is modeled in terms of a fixed cost of switching lenders, and banks choose to switch only under sufficiently large shocks. Reducing RR on local banks boosts leverage and aggregate output, whereas reducing RR on national banks has an ambiguous output effect. Following a large recessionary shock, a targeted RR policy that reduces RR for local banks relative to national banks can lower costs of switching lenders, stabilizing macroeconomic fluctuations. However, targeting RR in that manner also boosts local bank leverage, increasing risks of default and related liquidation losses. Our model's mechanism is supported by bank-level empirical evidence.
    Keywords: reserve requirements; macroeconomic stabilization; bank sizes
    JEL: E32 E52 E21
    Date: 2023–05–08
  26. By: Antoine Camous; Alejandro Van der Ghote
    Abstract: This paper studies the implications of “diagnostic†expectations—an empirically relevant form of non-rational extrapolation in expectation formation (Bordalo, Gennaioli and Shleifer (2018))—for financial stability and the appropriate conduct of financial regulation. We find that interactions between diagnostic expectations and financial frictions intensify instability in financial markets relative to the rational expectations benchmark. We also find that diagnostic expectations command tighter financial regulation, regardless of the degree of diagnostic expectations of the regulator.
    Keywords: financial frictions, financial amplifications, diagnostic expectations, financial regulation
    JEL: E44 E60 E70 G20 G40
    Date: 2023–05
  27. By: Chandrasekhar, C. P.
    Date: 2023–01–27
  28. By: Enzo Dia; David VanHoose
    Abstract: A linchpin of the Federal Reserve’s unconventional policies has been payment of interest on reserves, of which 16 to 44 percent have been held by foreign banks with U.S. subsidiaries, at a rate typically several basis points higher than other funds rates. This paper constructs a model with competition among domestic banks, foreign banks with domestic subsidiaries, and other foreign banks in dollar-denominated common and local retail markets for loans and deposits. The paper shows that the interest rate that the interest rate on reserves influences not only loan and deposit rates domestically but also in Eurodollar-denominated foreign retail markets. The paper also explores implications for steady-state adjustments and dynamic responses of balance sheets and retail rates to parameter changes and exogenous shocks.
    Keywords: Interest on reserves, Eurodollar, Loan markets, Spillovers
    JEL: G21 G28 E43
    Date: 2022

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