nep-cba New Economics Papers
on Central Banking
Issue of 2023‒12‒04
fourteen papers chosen by
Sergey E. Pekarski, Higher School of Economics

  1. Central banks and policy communication: How emerging markets have outperformed the Fed and ECB By Tatiana Evdokimova; Piroska Nagy Mohacsi; Olga Ponomarenko; Elina Ribakova
  2. The Optimal Supply of Central Bank Reserves under Uncertainty By Gara Afonso; Gabriele La Spada; Thomas M. Mertens; John C. Williams
  3. Financing Modes and Lender Monitoring By Arturo Anton; Kaniska Dam; Rajdeep Sengupta
  4. Forceful or persistent: Wow the ECB's new inflation target affects households' inflation expectations By Hoffmann, Mathias; Mönch, Emanuel; Pavlova, Lora; Schultefrankenfeld, Guido
  5. Deposit insurance pricing and monetary policy transmission By Steve BILLON; Natalia ANDRIES
  6. Monetary Policy in the COVID Era and Beyond: the Fed vs the ECB By Carlo A. Favero; Ruben Fernandez-Fuertes
  7. Federal Reserve Balance-Sheet Policy in an Ample Reserves Framework: An Inventory Approach By Joseph G. Haubrich
  8. Monetary policy in Latin America: The easing cycle has begun By Alejandro Werner
  9. Dornbusch’s overshooting and the systematic component of monetary policy in SOE-SVARs By Nicolas Groshenny; Naveed Javed
  10. Developments in Corporate Bond Spreads at Issuance By Kaori Ochi; Mitsuhiro Osada
  11. The Effects of the Federal Reserve Chair’s Testimony on Interest Rates and Stock Prices By Matthew V. Gordon; Kurt Graden Lunsford
  12. Effects of bank capital requirements on lending by banks and non-bank financial institutions By Bednarek, Peter; Briukhova, Olga; Ongena, Steven; von Westernhagen, Natalja
  13. The Effect of the Countercyclical Capital Buffer on the Stability of the Housing Market By Julia Braun
  14. The Active Role of the Natural Rate of Unemployment during Cyclical Recoveries By Hall, Robert E.; Kudlyak, Marianna

  1. By: Tatiana Evdokimova (Joint Vienna Institute); Piroska Nagy Mohacsi (London School of Economics and Political Science); Olga Ponomarenko (Caplight); Elina Ribakova (Peterson Institute for International Economics)
    Abstract: This paper uses innovative natural language processing techniques to analyze central bank communication in emerging-market (EM) central banks and compare it with that of the Federal Reserve (Fed) and the European Central Bank (ECB). Once laggards of the central banking policy scene, EM central banks have made remarkable progress in improving their policy frameworks in the past two decades. They adopted many of the principles of advanced-economy (AE) central banks both in policy conduct and communication, but with modifications that reflect their specific circumstances of capital flow volatility, financial dollarization, and traditionally weaker credibility. The authors find that EM central banks' transparency has improved dramatically; their statements' readability has overall been better than in AEs; their focus on inflation has been sharper; and they have used data-shy "forward guidance" sparingly and flexibly. Worryingly though, most central banks do not communicate on inflationary pressures until after inflation already happens. EMs have outperformed AEs in two critical respects recently: addressing rising post-COVID inflationary pressures in a timely manner and, related, avoiding banking sector stress during the monetary policy tightening cycle. Systemic support in the form of currency swaps and repo operations by the Fed and the ECB with powerful signaling at times of acute market stress also helped. EM central banks have also started moving towards easing monetary policy already, ahead of the Fed and the ECB. Bringing down inflation fast and sustainably will be the ultimate test for the quality of EM central bank frameworks. The authors conclude with policy lessons for both EM and AE central banks. These include better forecasting and communication of inflation by the majority of central banks; more consistent delivery by EM central banks of communicated policy action; discarding pure "forward guidance" that hampers data dependency and thus fast policy action particularly at times of rapid change; consistent focus on supply-side factors of inflation; and for multiple-goal central banks, a clear choice and communication of policy priorities at times of possible conflict among some of the goals. The paper also suggests a more transparent communication of coordination with fiscal authorities that would improve the credibility of both the monetary and fiscal authorities.
    Keywords: central banking, monetary policy, emerging markets, Federal Reserve, ECB, communication, inflation-targeting, currency swaps, supply-side inflation, forward guidance, Chat GPT, AI
    JEL: B22 C55 E42 E52 E58
    Date: 2023–10
  2. By: Gara Afonso; Gabriele La Spada; Thomas M. Mertens; John C. Williams
    Abstract: This paper provides an analytically tractable theoretical framework to study the optimal supply of central bank reserves when the demand for reserves is uncertain and nonlinear. We fully characterize the optimal supply of central bank reserves and associated market equilibrium. We find that the optimal supply of reserves under uncertainty is greater than that absent uncertainty. With a sufficient degree of uncertainty, it is optimal to supply a level of reserves that is abundant (on the flat portion of the demand curve) absent shocks. The optimal mean spread between the market interest rate and administered rates under uncertainty may be higher or lower than that absent uncertainty. Our model is consistent with the observation that the variability of interest rate spreads is a function of the level of reserves.
    Keywords: monetary policy implementation; rate control; federal funds rate
    JEL: E52 E58 E41 E42
    Date: 2023–11–01
  3. By: Arturo Anton; Kaniska Dam; Rajdeep Sengupta
    Abstract: Shadow banks are widely believed to be a creation of financial regulation and regulatory arbitrage. We show that bank and nonbank modes of financing can emerge endogenously in a simple borrower-lender framework absent regulatory arbitrage or policy interventions. The coexistence of banks and shadow banks in the absence of regulatory intervention speaks to the importance of shadow banks as alternative modes of financial intermediation. We explore the scope of regulation in determining the size and location of shadow banking, as opposed to how regulation can be designed to curtail shadow bank activities.
    Keywords: banking and finance; monetary policy; shadow banks; regulatory arbitrage; financial regulations
    JEL: D82 G21 G28 G32 L25
    Date: 2023–11–07
  4. By: Hoffmann, Mathias; Mönch, Emanuel; Pavlova, Lora; Schultefrankenfeld, Guido
    Abstract: We study how households adjust their medium-term inflation expectations under the new ECB strategy. We find that survey respondents make little difference between the previous strategy of targeting inflation rates close to but below 2% and the new strategy with a symmetric 2% target. Yet, participants informed that the ECB might tolerate rates exceeding the target for some time, expect somewhat higher medium-term inflation. Respondents asked to assume inflation currently running below target place a significantly higher probability on outcomes above 2% in the medium term. Participants do not expect an undershooting when inflation is currently running above target.
    Keywords: Monetary Policy Strategy, Household Inflation Expectations, Randomized Control Trial, Survey Data
    JEL: F33 E31 E32
    Date: 2023
  5. By: Steve BILLON (LaRGE Research Center, Université de Strasbourg); Natalia ANDRIES (ERUDITE, Université Paris-Est)
    Abstract: This paper provides a theoretical model that examines the effect of deposit insurance pricing on monetary policy transmission. An increase in the key policy rate benefits bank deposits when the deposit insurance premium is lower than the fair value. This leads firms to withdraw from the capital market and boosts their demand for bank lending. Thus, a lower than the fair value deposit insurance premium strengthens the monetary policy transmission on bond returns and bank interest rates. In contrast, a fair valuation of risks ensures the neutrality of the deposit insurance on the interest rate pass-through.
    Keywords: Deposit insurance, Monetary policy transmission, Bank imperfect competition
    JEL: E52 G21 G22
    Date: 2023
  6. By: Carlo A. Favero; Ruben Fernandez-Fuertes
    Abstract: This study examines monetary policy during and post-COVID by analysing innovative specifications for monetary policy rules based on data from before the pandemic. It models trends in short-term rates using a stochastic trend, driven by potential output growth, demographic age distribution, and inflation expectations both the US and the Eurozone. The cyclical variations in shortterm rates are associated with monetary policy through the conventional Taylor rule indicators. Whilst the standard model is robust for the US both in and outof- sample, the Eurozone displays less consistent in-sample results and marked deviations in out-of-sample tests. Addressing the ECB’s concerns about bond market fragmentation doesn’t yield better results. Instead, a model in which the ECB follows the US example with caution and delay proves more effective.
    Keywords: Monetary Policy Rules, Trends and Cycles, Fed, ECB.
    JEL: E43 E52 G12
    Date: 2023
  7. By: Joseph G. Haubrich
    Abstract: I apply techniques from stochastic inventory theory to calibrate the optimal balance-sheet buffer needed to implement monetary policy in an ample reserves regime. I quantify the size of the buffer to be about $60 billion. This is small relative to the reserves needed for an ample reserves regime, even though the FOMC appears to act as if the cost of too few reserves is over 20 times as high as the cost of too many.
    Keywords: reserves; monetary policy
    JEL: E58 D25
    Date: 2023–11–08
  8. By: Alejandro Werner (Peterson Institute for International Economics)
    Abstract: Latin America's central banks acted promptly and decisively to contain the medium-term consequences of the global inflation shock. Since then, however, headline and core inflation have come down within the region, real growth has slowed, and the US Federal Reserve appears to have settled on a (however brief) pause of its own tightening cycle. Werner says the time has come for a gradual return to looser financial conditions in Latin America. Brazil, Chile, and Peru have already started the process of cutting rates, and there seems to be significant space to continue; Mexico should follow, with Colombia waiting for more clear signals.
    Date: 2023–11
  9. By: Nicolas Groshenny; Naveed Javed
    Date: 2023
  10. By: Kaori Ochi (Bank of Japan); Mitsuhiro Osada (Bank of Japan)
    Abstract: Firms' financing environment in terms of commercial paper, corporate bond, and bank lending is one of the spillover channels of monetary policy. In particular, this article overviews the recent developments in corporate bond spreads in the primary markets, focusing mainly on the period from mid-2022 to early 2023 when we witnessed the spread widening. A quantitative time-series analysis using issue-by-issue data suggests that the widening of corporate bond spreads was caused by (1) increased demand for working capital in response to rising commodity prices and (2) spillover effects of tightening foreign financial conditions, reflecting monetary policy tightening by foreign central banks, and was likely affected by (3) a decline in the degree of functionality of the Japanese government bond (JGB) market.
    JEL: G12 E44 E58
    Date: 2023–11–14
  11. By: Matthew V. Gordon; Kurt Graden Lunsford
    Abstract: We study how congressional testimony about monetary policy by the Chair of the Board of Governors of the Federal Reserve System affects interest rates and stock prices. First, we study testimony associated with the Federal Reserve’s Monetary Policy Reports (MPRs) to Congress. Testimony for a particular MPR is usually given on two days, one day for each chamber of Congress. We separately study the first day and second day of MPR testimony. We also study testimonies not associated with MPRs but that are still related to monetary policy. We find that first-day MPR testimonies cause the largest movements in interest rates and generate negative co-movement between interest rates and stock prices. Testimonies not associated with MPRs have similar but weaker effects. Second-day MPR testimonies cause the smallest movements in interest rates and generate no co-movement between interest rates and stock prices.
    Keywords: Eurodollar future; event study; forward guidance; S&P 500; Treasury note
    JEL: E43 E52 E58 G12 G14
    Date: 2023–11–13
  12. By: Bednarek, Peter; Briukhova, Olga; Ongena, Steven; von Westernhagen, Natalja
    Abstract: What is the impact of a sudden and sizeable increase in bank capital requirements on the lending activity by directly affected banks and by non-affected non-bank financial institutions (NBFIs)? To answer this question, we apply a difference-in-differences methodology around the capital exercise by the European Banking Authority (EBA) in 2011 with German credit register data. We find that insurance companies, financial enterprises, and factoring companies - but not leasing companies - and Non-EBA banks expand their corporate lending relative to EBA banks. In particular, NBFIs use the opportunity to expand their credit activities, in riskier and more competitive borrower segments, but NBFIs do not seem to rely on increased bank funding to finance this expansion.
    Keywords: non-bank financial intermediation, bank capital requirements, EBA capital exercise
    JEL: E50 G21 G23 G28 C33
    Date: 2023
  13. By: Julia Braun
    Abstract: After the great turmoil of the latest financial crisis, the criticism of the regulatory frameworks became increasingly stronger. The rules that banks needed to comply with are presumed to be procyclical and unable to prevent and mitigate the extent of strong financial and economic cycles. As a result, Basel III introduced a set of macroprudential tools to overcome these regulatory shortfalls. One tool that strives to counteract the issue of procyclicality is the countercyclical capital buffer (CCyB). This paper introduces a heterogeneous agent-based model that investigates the implication of the new regulatory measure. We develop a housing and a financial market where economic agents trade residential property that is financed by financial institutions. To examine the macroeconomic performance of the CCyB, we evaluate the dynamics of key stability indicators of the housing and the financial market under four different market conditions: in an undisturbed market and in times of three different structural shocks. Computational experiments reveal that the CCyB is effective in stabilizing the housing and the financial market in all market settings. But the extent of the stabilizing effect varies according to market conditions. In the shock scenarios, the CCyB performs better in dampening market fluctuations and increasing banking soundness. Although the new macroprudential tool helps to mitigate economic fluctuations and to stabilize market conditions in the aftermath of a crisis, it is not able to prevent any of the crises tested.
    Keywords: Agent-Based Model; Basel III; Countercyclical capital buffer; Housing market stability
    JEL: R3
    Date: 2023–01–01
  14. By: Hall, Robert E. (Stanford University); Kudlyak, Marianna (Federal Reserve Bank of San Francisco)
    Abstract: We propose that the natural rate of unemployment has an active role in the business cycle, in contrast to the prevailing view that the rate is essentially constant. We demonstrate that this tendency to treat the natural rate as near-constant would explain the surprisingly low slope of the Phillips curve. We show that the natural rate closely tracked the actual rate during the long recovery that began in 2009 and ended in 2020. We explain how the common finding of research in the Phillips-curve framework of low – often extremely low – response of inflation to unemployment could be the result of fairly close tracking of the natural rate and the actual rate in recoveries. Our interpretation of the data contrasts to that of most Phillips-curve studies, that conclude that inflation has little relation to unemployment. We suggest that the flat Phillips curve is an illusion caused by assuming that the natural rate of unemployment has little or no movement during recoveries.
    Keywords: business cycle, recovery, unemployment, recession, monetary policy, natural rate of unemployment, inflation anchor, NAIRU
    JEL: E32 J63 J64
    Date: 2023–11

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