nep-ifn New Economics Papers
on International Finance
Issue of 2016‒04‒09
five papers chosen by
Vimal Balasubramaniam
University of Oxford

  1. Capital Inflow Transmission of Monetary Policy to Emerging Markets By Adugna Olani
  2. Stitching together the global financial safety net By Edd Denbee; Carsten Jung; Francesco Paternò
  3. The Billion Prices Project: Using Online Prices for Measurement and Research By Alberto Cavallo; Roberto Rigobon
  4. The Risk Anomaly Tradeoff of Leverage By Malcolm Baker; Mathias F. Hoeyer; Jeffrey Wurgler
  5. Monetary transmission in developing countries: Evidence from India By Prachi Mishra; Peter Montiel; Rajeswari Sengupta

  1. By: Adugna Olani (Queen's University)
    Abstract: In this paper, I examine the effects of advanced economies' conventional monetary policy on gross foreign direct and portfolio investment inflows to emerging economies. I use structural vector autoregressions to analyse and compare the response of each inflow category to world interest rate and emerging economies' monetary and exchange rate shocks. Gross foreign direct inflows respond slowly to shocks while gross portfolio reacts on impact. Furthermore, the reaction of foreign direct investment to the shocks is not as high. These results suggest that monetary and exchange rate policies of emerging economies influence portfolio inflows more than they impact foreign direct investment in ows. These results also imply the existence of fundamental differences in capital flow categories beyond what we know to date. I address the "push" and "pull" debate in categories capital flows by quantitatively comparing the forecast error variance decomposition. I do not find evidence of "push" over "pull" factors in either class of inflows.
    Keywords: Monitary Policy, Capital Flows, Emerging Markets, Exchange Rate, Interest Rates
    JEL: E52 F32 E43 E58 F37
    Date: 2016–03
  2. By: Edd Denbee (Bank of England); Carsten Jung (Bank of England); Francesco Paternò (Bank f Italy)
    Abstract: Financial globalisation brings a number of benefits but can also increase the risk of financial crisis. In recent years, to reduce these risks to stability, countries have reformed financial regulation, enhanced frameworks for central bank liquidity provision and developed new elements, and increased the resources of the global financial safety net (GFSN). The traditional GFSN consisted of countries’ own foreign exchange reserves with the IMF acting as a backstop. But since the global financial crisis there have been a number of new arrangements added to the GFSN, in particular the expansion of swap lines between central banks and regional financing arrangements (RFAs). The new look GFSN is more fragmented than in the past, with multiple types of liquidity insurance and individual countries and regions having access to different size and types of financial safety nets. This paper finds that the components of the GFSN are not fully substitutable. We argue that while swap lines and RFAs can play an important role in the GFSN they are not a substitute for having a strong, well resourced, IMF at the centre of it. By running a series of stress scenarios we find that for all but the most severe crisis scenarios, the current resources of the GFSN are likely to be sufficient. However, this finding relies upon the IMF’s overall level of resources (including both permanent and temporary) being maintained at their current leveland masks some vulnerabilities at the country level.
    Keywords: balance of payments, global financial safety net, IMF, foreign exchange reserves, regional financing arrangements, swap lines
    JEL: F33 E58
    Date: 2016–03
  3. By: Alberto Cavallo; Roberto Rigobon
    Abstract: New data-gathering techniques, often referred to as “Big Data” have the potential to improve statistics and empirical research in economics. In this paper we describe our work with online data at the Billion Prices Project at MIT and discuss key lessons for both inflation measurement and some fundamental research questions in macro and international economics. In particular, we show how online prices can be used to construct daily price indexes in multiple countries and to avoid measurement biases that distort evidence of price stickiness and international relative prices. We emphasize how Big Data technologies are providing macro and international economists with opportunities to stop treating the data as “given” and to get directly involved with data collection.
    JEL: E31 F3 F4
    Date: 2016–03
  4. By: Malcolm Baker; Mathias F. Hoeyer; Jeffrey Wurgler
    Abstract: Higher-beta and higher-volatility equities do not earn commensurately higher returns, a pattern known as the risk anomaly. In this paper, we consider the possibility that the risk anomaly represents mispricing and develop its implications for corporate leverage. The risk anomaly generates a simple tradeoff theory: At zero leverage, the overall cost of capital falls as leverage increases equity risk, but as debt becomes riskier the marginal benefit of increasing equity risk declines. We show that there is an interior optimum and that it is reached at lower leverage for firms with high asset risk. Empirically, the risk anomaly tradeoff theory and the traditional tradeoff theory are both consistent with the finding that firms with low-risk assets choose higher leverage. More uniquely, the risk anomaly theory helps to explain why leverage is inversely related to systematic risk, holding constant total risk; why leverage is inversely related to upside risk, not just downside risk; why numerous firms maintain low or zero leverage despite high marginal tax rates; and, why other firms maintain high leverage despite little tax benefit.
    JEL: G32
    Date: 2016–03
  5. By: Prachi Mishra; Peter Montiel; Rajeswari Sengupta (Indira Gandhi Institute of Development Research)
    Abstract: There are strong a priori reasons to believe that monetary transmission may be weaker and less reliable in low- than in high-income countries. This is as true in India as it is elsewhere. While its floating exchange rate gives the RBI monetary autonomy, the country's limited degree of integration with world financial markets and RBI's interventions in the foreign exchange markets limit the strength of the exchange rate channel of monetary transmission. The country lacks large and liquid secondary markets for debt instruments, as well as a well-functioning stock market. This means that monetary policy effects on aggregate demand would tend to operate primarily through the bank-lending channel. Yet the formal banking sector is small, and does not intermediate for a large share of the economy. Moreover, there is evidence both that the costs of financial intermediation are high and that the banking system may not be very competitive. The presence of all of these factors should tend to weaken the process of monetary transmission in India. This paper examines what the empirical evidence has to say about the strength of monetary transmission in India, using the structural vector autoregression (SVAR) methods that have been applied broadly to investigate this issue in many countries, including high-,middle-, and low-income ones. We estimate a monthly VAR with data from April 2001 to December 2014. Applying a variety of methods to identify exogenous movements in the policy rate in the data, we find consistently that positive shocks to the policy rate result in statistically significant effects (at least at confidence levels typically used in such applications) on the bank-lending rate in the direction predicted by theory. Specifically, a tightening of monetary policy is associated with an increase in bank lending rates, consistent with evidence for the first stage of transmission in the bank-lending channel. While passthrough from the policy rate to bank lending rates is in the right (theoretically-expected) direction, the passthrough is incomplete. When the monetary policy variable is ordered first, effects on the real effective exchange rate are also in the theoretically expected direction on impact, but are extremely weak and not statistically significant, even at the 90 percent confidence level, for any of the four monetary policy variants that we investigate. Finally, we are unable to uncover evidence for any effect of monetary policy shocks on aggregate demand, as recorded either in the industrial production (IIP) gap or the inflation rate. None of these effects is estimated with strong precision, which may reflect either instability in monetary transmission or the limitations of the empirical methodology. Overall, the empirical tests yield a mixed message on the effectiveness of monetary policy in India, but perhaps one that is more favourable than is typical of many countries at similar income levels.
    Keywords: monetary policy, bank lending, exchange rate, interest rate, institutions
    JEL: E5 E4 F4
    Date: 2016–03

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