nep-mon New Economics Papers
on Monetary Economics
Issue of 2005‒07‒18
eleven papers chosen by
Bernd Hayo
Philipps-University Marburg

  1. Endogenous Central Bank Credibility in a Small Forward-Looking Model of the U.S. Economy By René Lalonde
  2. Estimating the natural interest rate for the euro area and Luxembourg By Ladislav Wintr; Paolo Guarda; Abdelaziz Rouabah
  3. Forecasting the Term Structure of Government Bond Yields By Francis X. Diebold; Canlin Li
  4. Optimal Monetary Policy under Commitment with a Zero Bound on Nominal Interest Rates By Klaus Adam; Roberto M. Billi
  5. Exchange-Rate Policy and the Zero Bound on Nominal Interest By Günter Coenen; Volker Wieland
  6. Are Stationary Hyperinflation Paths Learnable? By Klaus Adam; George W. Evans; Seppo Honkapohja
  7. Monetary Discretion, Pricing Complementarity and Dynamic Multiple Equilibria By Robert G. King; Alexander L. Wolman
  8. Modeling Bond Yields in Finance and Macroeconomics By Francis X. Diebold; Monika Piazzesi; Glenn D. Rudebusch
  9. Assessing Central Bank Credibility During the ERM Crises: Comparing Option and Spot Market-Based Forecasts By Markus Haas; Stefan Mittnik; Bruce Mizrach
  10. Long-Run Determinants of Inflation Differentials in a Monetary Union By Filippo Altissimo; Pierpaolo Benigno; Diego Rodriguez Palenzuela
  11. Refocusing the ECB on Output Stabilization and Growth through Inflation Targeting? By Joreg Bibow

  1. By: René Lalonde
    Abstract: The linkages between inflation and the economy's cyclical position are thought to be strongly affected by the credibility of monetary authorities. The author complements existing research by estimating a small forward-looking model of the U.S. economy with endogenous central bank credibility. His work differs from the existing literature in several ways. First, he endogenizes and estimates credibility parameters, allowing inflation expectations to be a mix of backward- and forward-looking agents. Second, his models include both outcome- and action-based credibility. Third, he estimates a non-linear relation between policy credibility and divergences of inflation from target, which is also assumed to change over history. Finally, the author's non-linear time-varying credibility indexes do not rely on a two-regime definition, but on a continuum of credibility regimes. The author finds strong, stable, and statistically significant outcome- and action-credibility effects that generate important inflation inertia. According to his results, the value of the endogenous credibility indexes has risen steadily across the different monetary policy regimes.
    Keywords: Transmission of monetary policy; Econometric and statistical methods; Inflation and prices
    JEL: E52 C32
    Date: 2005
  2. By: Ladislav Wintr; Paolo Guarda; Abdelaziz Rouabah
    Abstract: Le taux d?intérêt naturel est le taux d?intérêt réel compatible à la fois avec l?absence d?écart de production (le PIB est à son niveau potentiel) et avec la stabilité des prix. Cette étude fournit des estimations du taux d?intérêt naturel pour la zone euro et pour le Luxembourg. Théoriquement, le taux d?intérêt naturel est susceptible de servir de référence pour la politique monétaire. Quand le taux d?intérêt réel est plus élevé que le taux d?intérêt naturel, la politique monétaire est restrictive. A l?opposé, la politique monétaire est expansive quand le taux d?intérêt réel est inférieur au taux d?intérêt naturel. Ainsi, la banque centrale pourrait fixer le taux d?intérêt nominal de manière à faire évoluer les taux d?intérêt réels à court terme vers un niveau inférieur ou supérieur au taux d?intérêt naturel selon la nature des chocs déstabilisateurs. En pratique, le taux d?intérêt naturel est estimé avec un degré d?incertitude important et il est sujet à de multiples révisions dues à la publication de nouvelles données. Ces limitations réduisent l?utilité du taux d?intérêt naturel dans la conduite de la politique monétaire. Cependant, le taux d?intérêt naturel peut fournir une indication sur l?orientation de la politique monétaire relative aux périodes antérieures. De plus, le taux d?intérêt naturel estimé pour un pays à l?intérieur de la zone euro peut fournir des renseignements sur l?impact de la politique monétaire commune sur l?économie nationale en question. Dans notre contribution, l?estimation du niveau du taux d?intérêt naturel pour la zone euro et pour le Luxembourg est basée sur l?approche semi-structurelle proposée par Laubach et Williams (2003). Cette approche s?appuie sur un petit modèle macroéconomique combinant une équation d?offre agrégée (courbe de Phillips) et une équation de demande agrégée (courbe IS). Le filtre de Kalman sert à estimer les variables inobservables, tels que le taux d?intérêt naturel, l?écart de production, et la croissance potentielle, en tenant compte de l?évolution des variables observées, en l?occurrence la production, l?inflation, et le taux d?intérêt réel. Ainsi, le taux d?intérêt naturel et la croissance potentielle sont estimés de manière simultanée. Pour la zone euro, les résultants suggèrent une certaine stabilité du taux d?intérêt naturel depuis 1970 et confirment qu?il a baissé au cours de la dernière décennie. Pour le Luxembourg, le taux d?intérêt naturel estimé est beaucoup plus élevé, signe d?une croissance potentielle plus importante. Les résultats laissent présager que la politique monétaire commune a eu un impact expansif sur les périodes récentes, particulièrement au Luxembourg.
    Date: 2005–06
  3. By: Francis X. Diebold (University of Pennsylvania, and NBER); Canlin Li (University of California)
    Abstract: Despite powerful advances in yield curve modeling in the last twenty years, comparatively little attention has been paid to the key practical problem of forecasting the yield curve. In this paper we do so. We use neither the no-arbitrage approach, which focuses on accurately fitting the cross section of interest rates at any given time but neglects time-series dynamics, nor the equilibrium approach, which focuses on time-series dynamics (primarily those of the instantaneous rate) but pays comparatively little attention to fitting the entire cross section at any given time and has been shown to forecast poorly. Instead, we use variations on the Nelson-Siegel exponential components framework to model the entire yield curve, period-by-period, as a three-dimensional parameter evolving dynamically. We show that the three time-varying parameters may be interpreted as factors corresponding to level, slope and curvature, and that they may be estimated with high efficiency. We propose and estimate autoregressive models for the factors, and we show that our models are consistent with a variety of stylized facts regarding the yield curve. We use our models to produce term-structure forecasts at both short and long horizons, with encouraging results. In particular, our forecasts appear much more accurate at long horizons than various standard benchmark forecasts.
    Keywords: Term structure, yield curve, factor model, Nelson-Siegel curve
    JEL: G1 E4 C5
    Date: 2004–01–09
  4. By: Klaus Adam (CEPR, London, European Central Bank); Roberto M. Billi (Center for Financial Studies)
    Abstract: We determine optimal monetary policy under commitment in a forwardlooking New Keynesian model when nominal interest rates are bounded below by zero. The lower bound represents an occasionally binding constraint that causes the model and optimal policy to be nonlinear. A calibration to the U.S. economy suggests that policy should reduce nominal interest rates more aggressively than suggested by a model without lower bound. Rational agents anticipate the possibility of reaching the lower bound in the future and this amplifies the effects of adverse shocks well before the bound is reached. While the empirical magnitude of U.S. mark-up shocks seems too small to entail zero nominal interest rates, shocks affecting the natural real interest rate plausibly lead to a binding lower bound. Under optimal policy, however, this occurs quite infrequently and does not require targeting a positive average rate of inflation. Interestingly, the presence of binding real rate shocks alters the policy response to (non-binding) mark-up shocks.
    Keywords: nonlinear optimal policy, zero interest rate bound, commitment, liquidity trap, New Keynesian
    JEL: C63 E31 E52
    Date: 2004–01–13
  5. By: Günter Coenen (Directorate General Research, European Central Bank); Volker Wieland (Professur für Geldtheorie und -politik, Johann-Wolfgang-Goethe Universität)
    Abstract: In this paper, we study the effectiveness of monetary policy in a severe recession and deflation when nominal interest rates are bounded at zero. We compare two alternative proposals for ameliorating the effect of the zero bound: an exchange-rate peg and price-level targeting. We conduct this quantitative comparison in an empirical macroeconometric model of Japan, the United States and the euro area. Furthermore, we use a stylized micro-founded two-country model to check our qualitative findings. We find that both proposals succeed in generating inflationary expectations and work almost equally well under full credibility of monetary policy. However, price-level targeting may be less effective under imperfect credibility, because the announced price-level target path is not directly observable.
    Keywords: monetary policy rules, zero-interest-rate bound, liquidity trap, rational expectations, nominal rigidities, exchange rates
    JEL: E31 E52 E58 E61
    Date: 2004–01–14
  6. By: Klaus Adam (CEPR, London, University of Frankfurt); George W. Evans (University of Oregon, United States); Seppo Honkapohja (Cambridge University, United Kingdom)
    Abstract: Earlier studies of the seigniorage inflation model have found that the high-inflation steady state is not stable under adaptive learning. We reconsider this issue and analyze the full set of solutions for the linearized model. Our main focus is on stationary hyperinflationary paths near the high-inflation steady state. The hyperinflationary paths are stable under learning if agents can utilize contemporaneous data. However, in an economy populated by a mixture of agents, some of whom only have access to lagged data, stable inflationary paths emerge only if the proportion of agents with access to contemporaneous data is sufficiently high.
    Keywords: Indeterminacy, inflation, stability of equilibria, seigniorage
    JEL: C62 D83 D84 E31
    Date: 2004–01–15
  7. By: Robert G. King (Boston University); Alexander L. Wolman (Federal Reserve Bank of Richmond)
    Abstract: In a plain-vanilla New Keynesian model with two-period staggered price-setting, discretionary monetary policy leads to multiple equilibria. Complementarity between the pricing decisions of forward-looking firms underlies the multiplicity, which is intrinsically dynamic in nature. At each point in time, the discretionary monetary authority optimally accommodates the level of predetermined prices when setting the money supply because it is concerned solely about real activity. Hence, if other firms set a high price in the current period, an individual firm will optimally choose a high price because it knows that the monetary authority next period will accommodate with a high money supply. Under commitment, the mechanism generating complementarity is absent: the monetary authority commits not to respond to future predetermined prices. Multiple equilibria also arise in other similar contexts where (i) a policymaker cannot commit, and (ii) forward-looking agents determine a state variable to which future policy responds.
    Keywords: Monetary Policy, Discretion, Time-Consistency, Multiple Equilibria, Complementarity
    JEL: E5 E61 D78
    Date: 2004–01–22
  8. By: Francis X. Diebold (Department of Economics, University of Pennsylvania, Philadelphia, PA 19104); Monika Piazzesi (Graduate School of Business, University of Chicago, Chicago IL 60637); Glenn D. Rudebusch (Economic Research, Federal Reserve Bank of San Francisco, 101 Market Street, San Francisco CA 94105)
    Abstract: From a macroeconomic perspective, the short-term interest rate is a policy instrument under the direct control of the central bank. From a finance perspective, long rates are risk-adjusted averages of expected future short rates. Thus, as illustrated by much recent research, a joint macro-finance modeling strategy will provide the most comprehensive understanding of the term structure of interest rates. We discuss various questions that arise in this research, and we also present a new examination of the relationship between two prominent dynamic, latent factor models in this literature: the Nelson-Siegel and affine no-arbitrage term structure models.
    Keywords: Term structure, yield curve, Nelson-Siegel model, affine equilibrium model
    JEL: G1 E4 E5
    Date: 2005–01–03
  9. By: Markus Haas (University of Munich); Stefan Mittnik (University of Munich); Bruce Mizrach (Rutgers University)
    Abstract: Financial markets embed expectations of central bank policy into asset prices. This paper compares two approaches that extract a probability density of market beliefs. The first is a simulatedmoments estimator for option volatilities described in Mizrach (2002); the second is a new approach developed by Haas, Mittnik and Paolella (2004a) for fat-tailed conditionally heteroskedastic time series. In an application to the 1992-93 European Exchange Rate Mechanism crises, that both the options and the underlying exchange rates provide useful information for policy makers.
    Keywords: Options; Implied Probability Densities; GARCH; Fat-tails; Exchange Rate Mechanism
    JEL: G12 G14 F31
    Date: 2005–01–09
  10. By: Filippo Altissimo; Pierpaolo Benigno; Diego Rodriguez Palenzuela
    Abstract: This paper analyzes the long-run determinants of inflation differentials in a monetary union. First, we aim at establishing some stylized facts relating the regional dispersion in headline inflation rates in the euro area as well as in the main components of the consumer price index. We find that a relatively large proportion of it occurs in the Service category of the EU's harmonized consumer price index (HICP). We then lay out a model of a monetary union with fully flexible prices, the long-run properties of which are analyzed. Our model departs in several respect from the Balassa-Samuelson hypotheses. Our results are in contrast with the result that movements in the real exchange rate are mainly driven by regionally asymmetric productivity shocks in the traded sectors. Our results point instead to relative variations in productivity in the non-traded sector as the primary cause of price and inflation differentials, with shocks to productivity in the traded sector being largely absorbed by movements in the terms of trade in the regional economies. These shocks are also found to largely drive the variability of real wages at the country level.
    JEL: E31 F41
    Date: 2005–07
  11. By: Joreg Bibow (The Levy Economics Institute)
    Abstract: Challenging the conventional wisdom that structural problems are to blame for the euro area’s protracted domestic demand stagnation, this paper sets out to shed some fresh light on the role of the ECB in the ongoing EMU crisis. Contrary to the widely held interpretation of the ECB as an inflation targeter—and a rather soft one, too—it is argued that the key characteristic of the ECB is the pronounced asymmetry in its policy approach and mindset. Curiously, this asymmetry has not only given rise to an antigrowth bias, but to upward price pressures and distortions as well. There is a link between stagnation and inflation persistence that owes to the ECB’s failure to internalize the euro area’s fiscal regime. This raises the question as to whether inflation targeting would have led to better results, or could do so in future.
    Keywords: Monetary policy, European Central Bank, inflation targeting, inflation persistence, tax-push inflation, antigrowth bias.
    JEL: E31 E42 E58 E61
    Date: 2005–07–15

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