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on Monetary Economics |
| By: | Ignazio Angeloni (Dipartimento del Tesoro, Mnistero dell'Economia e delle Finanze.); Michael Ehrmann (Directorate General Research, European Central Bank, Kaiserstrasse, 29, 60311, Frankfurt am Main, Germany.) |
| Abstract: | We build a stylised 12-country model of the euro area and use it to analyse why differences in national inflation and growth rates arise within the European monetary union. We find that inflation persistence is a key potential explanatory factor. Other more frequently mentioned reasons, like country-specific shocks or differences in the monetary transmission mechanism across countries, count less. We also look at how a monetary policy geared to area-wide average inflation affects these differentials. Our model suggests that area-wide inflation stability and low inflation differentials are complementary. |
| Keywords: | Currency union; inflation differentials; inflation persistence; euro area. |
| JEL: | E31 E32 E52 F42 |
| Date: | 2004–09 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040388&r=mon |
| By: | Federico Ravenna (Economics Department, 401 E2 Building, University of California, Santa Cruz, CA 95064, US) |
| Abstract: | This paper shows that the credibility gain from permanently committing to a fixed exchange rate by joining the European Monetary Union can outweigh the loss from giving up independent monetary policy. When the central bank enjoys only limited credibility a pegged exchange rate regime yields a lower loss compared to an inflation targeting policy, even if this policy ranking would be reversed in a fullcredibility environment. There exists an initial stock of credibility that must be achieved for a policy-maker to adopt inflation targeting over a strict exchange rate targeting regime. Full credibility is not a precondition, but exposure to foreign and financial shocks and high steady state inflation make joining the EMU relatively more attractive for a given level of credibility. The theoretical results are consistent with empirical evidence we provide on the relationship between credibility and monetary regimes using a Bank of England survey of 81 central banks. |
| Keywords: | Inflation targeting; Credibility; Open Economy; Exchange Rate. Regimes, Monetary Policy |
| JEL: | E52 E31 F02 F41 |
| Date: | 2005–08 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050516&r=mon |
| By: | Günter Coenen (Directorate General Research, European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany.) |
| Abstract: | This paper investigates the performance of optimised interest rate rules when there is uncertainty about a key determinant of the monetary transmission mechanism, namely the degree of persistence characterising the inflation process. The paper focuses on the euro area and utilises two variants of an estimated small-scale macroeconomic model featuring distinct types of staggered contracts specifications which induce quite different degrees of inflation persistence. The paper shows that a cautious monetary policy-maker is welladvised to design and implement interest rate policies under the assumption that inflation persistence is high when uncertainty about the prevailing degree of inflation persistence is pervasive. |
| Keywords: | Macroeconomic modelling; staggered contracts; inflation persistence; monetary policy rules; robustness; euro area. |
| JEL: | E31 E52 E58 E61 |
| Date: | 2003–11 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20030290&r=mon |
| By: | Günter Coenen (European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt/Main, Germany.); Volker Wieland (Professur für Geldtheorie und -politik, Johann-Wolfgang-Goethe Universität, Mertonstrasse 17, D-60325 Frankfurt am Main, Germany.) |
| 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; nominal rigidities; exchange rates. |
| JEL: | E31 E52 E58 E61 |
| Date: | 2004–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040350&r=mon |
| By: | Andreas Schabert (University of Amsterdam, Department of Economics, Roeterstraat 11, 1018 WB Amsterdam,The Netherlands) |
| Abstract: | In this paper, we analyze the relation between interest rate targets and money supply in a (bubble-free) rational expectations equilibrium of a standard cash-in-advance model. We examine contingent monetary injections aimed to implement interest rate sequences that satisfy interest rate target rules. An interest rate target with a positive inflation feedback in general corresponds to money growth rates rising with inflation. When prices are not completely flexible, this implies that a non-destabilizing money supply cannot implement a forward-looking and active interest rate rule. This principle also applies for an alternative model version with an interest elastic money demand. The implementation of a Taylor-rule then requires a money supply that leads to explosive or oscillatory equilibrium sequences. In contrast, an inertial interest rate target can be implemented by a non-destabilizing money supply, even if the inflation feedback exceeds one, which is often found in interest rate rule regressions. |
| Keywords: | Interest rate rules; contingent money supply; macroeconomic stability; policy equivalence; interest rate inertia. |
| JEL: | E52 E41 E32 |
| Date: | 2005–05 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050483&r=mon |
| By: | Hans Peter Grüner (University of Mannheim, IZA, Bonn, and CEPR, London. Postal Address: University of Mannheim, Department of Economics, L7, 3-5, D-68131 Mannheim, Germany); Bernd Hayo (Philipps-University Marburg and ZEI, University of Bonn; Postal Address: Philipps-University Marburg, Department of Economics, (FB02), Universitaetsstr. 24, D-35032 Marburg, Germany); Carsten Hefeker (University of Siegen,HWWA, Hamburg, and CESifo, Munich; Postal Address:HWWA Institute of International Economics, Neuer Jungfernstieg 21, 20347 Hamburg, Germany) |
| Abstract: | Recent theoretical research has studied extensively the link between wage setting and monetary policymaking in unionized economies. This paper addresses the question of the role of monetary uncertainty from both an empirical and theoretical point of view. Our analysis is based on a simple model that derives the influence of monetary uncertainty on unionized wage setting. We construct an indicator of monetary policy uncertainty and test our model with data for the G5 countries. The central finding is that monetary policy uncertainty has a negative impact on nominal wage growth in countries where wage setting is relatively centralized. This result is consistent with recent theoretical approaches to central bank transparency and wage setting. |
| Keywords: | Monetary policy uncertainty; centralized wage setting; union behavior. |
| JEL: | E58 |
| Date: | 2005–06 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050490&r=mon |
| By: | Ulrich Bindseil (DG Human Resources, Budget and Organisation, European Central Bank) |
| Abstract: | Before 1914, there was little doubt that central bank policy meant first of all control of short term interest rates. This changed dramatically in the early 1920s with the birth of “reserve position doctrine” (RPD) in the US, according to which a central bank should, via open market operation, steer some reserve concept, which would impact via the money multiplier on monetary aggregates and ultimate goals. While the Fed returned to an unambiguous steering of short term interest rates only in the 1990s, for example the Bank of England never adopted RPD. This paper explains the astonishing rise and fall of RPD. The endurance of RPD is explained by a symbiosis of central bankers who may have partially sympathised with RPD since it masked their responsibility for short term interest rates, and academics who were too eager to simplify away some key features of money markets and central bank operations. |
| Keywords: | operational target of monetary policy, monetary policy instruments, monetary policy implementation, instruments’ choice problem |
| JEL: | E43 E52 B22 |
| Date: | 2004–06 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040372&r=mon |
| By: | Annick Bruggeman (National Bank of Belgium, Boulevard de Berlaimont 14, B-1000 Brussels, Belgium); Gonzalo Camba-Méndez (European Central Bank, Kaiserstraße 29, D-60311 Frankfurt am Main, Germany); Björn Fischer (European Central Bank, Kaiserstraße 29, D-60311 Frankfurt am Main, Germany); João Sousa (Bank of Portugal, Rua Francisco Ribeiro 2, P-1100-150, Lisboa, Portugal) |
| Abstract: | The quantity theory of money predicts a positive relationship between monetary growth and inflation over long-run horizons. However, in the short-run, transitory shocks to either money or inflation can obscure the inflationary signal stemming from money. The spectral analysis of time series provides filtering tools for removing fluctuations associated with certain frequency movements. However, use of these techniques in isolation is often criticised as being an oversimplistic statistical exercise potentially void of economic content. The objective of this paper is to develop ‘structural’ filtering techniques that rely on the use of spectral analysis in combination with a structural economic model with well identified shocks. A ‘money augmented’ Phillips curve that links inflation to money tightness and demand shocks of medium to long-term persistence is presented. It is shown that medium to long-term movements in inflation are mostly associated with the estimated monetary indicators. |
| Keywords: | Inflation; Money. |
| JEL: | E31 E50 C32 |
| Date: | 2005–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050470&r=mon |
| By: | Lars E. O. Svensson (Department of Economics, Fischer Hall, Princeton University, Princeton, NJ 08544-1021, United States) |
| Abstract: | “Forecast targeting,” forward-looking monetary policy that uses central-bank judgment to construct optimal policy projections of the target variables and the instrument rate, may perform substantially better than monetary policy that disregards judgment and follows a given instrument rule. This is demonstrated in a few examples for two empirical models of the U.S. economy, one forward looking and one backward looking. A practical finite-horizon approximation is used. Optimal policy projections corresponding to the optimal policy under commitment in a timeless perspective can easily be constructed. The whole projection path of the instrument rate is more important than the current instrument setting. The resulting reduced-form reaction function for the current instrument rate is a very complex function of all inputs in the monetary-policy decision process, including the central bank’s judgment. It cannot be summarized as a simple reaction function such as a Taylor rule. Fortunately, it need not be made explicit. |
| Keywords: | Inflation targeting; optimal monetary policy; forecasts. |
| JEL: | E42 E52 E58 |
| Date: | 2005–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050476&r=mon |
| By: | James Yetman (School of Economics and Finance, University of Hong Kong, Pokfulam Road, Hong Kong.) |
| Abstract: | Price level targeting has been proposed as an alternative to inflation targeting that may confer benefits if a central bank sets policy under discretion, even if society’s loss function is specified in terms of inflation (instead of price level) volatility. This paper demonstrates the sensitivity of this argument. If even a small portion of agents use a rule-of-thumb to form inflation expectations, or does not fully understand the nature of the target, price level targeting may in fact impose costs on society rather than benefits. While rational expectations and perfect credibility are generally beneficial with either a price level or an inflation target, an inflation target is more robust to alternative assumptions. These results suggest that caution should be exercised in considering a price level target as the basis for monetary policy, unless society has preferences specified in terms of price level, rather than inflation, volatility. |
| Keywords: | Price Level Targeting; Inflation Targeting; Credibility; Free Lunch; Discretion. |
| JEL: | E52 |
| Date: | 2003–11 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20030284&r=mon |
| By: | Rangan Gupta (University of Connecticut and University of Pretoria) |
| Abstract: | The paper develops a short-run model of a small open financially repressed economy characterized by unorganized money markets, capital good imports, capital mobility, wage indexation, and flexible exchange rates. The analysis shows that financial liberalization, in the form of an increased rate of interest on deposits and tight monetary policy, unambiguously and unconditionally causes deflation. Moreover, the results do not depend on the degree of capital mobility and structure of wage setting. The paper recommends that a small open developing economy should deregulate interest rates and tighten monetary policy if reducing inflation is a priority. The pre-requisite for such a policy, however, requires the establishment of a flexible exchange rate regime. |
| Keywords: | Financial Liberalization; Inflation; Small open economy. |
| JEL: | E31 E44 E52 F41 |
| Date: | 2005–07 |
| URL: | http://d.repec.org/n?u=RePEc:uct:uconnp:2005-39&r=mon |
| By: | Tomasz Lyziak (National Bank of Poland, Bureau of Macroeconomic Research, ul. ?wi?tokrzyska 11/21, 00-919 Warsaw, Poland.) |
| Abstract: | Inflation expectations constitute a subject of particular contemporary interest to central banks, especially those pursuing a monetary policy based on a strategy of direct inflation targeting. Macroeconomic theory indicates that the transmission of monetary policy impulses and their impact on the real and nominal sectors of the economy bear a close relationship to properties of inflation expectations. Qualitative data on inflation expectations, as obtained from surveys, can be quantified with the use of probability or regression methods. This paper presents the results of two versions of the probability method, implemented in order to estimate numerical measures of Polish consumer inflation expectations, based on the monthly Ipsos-Demoskop survey. In addition, the unbiasedness and macroeconomic efficiency of Polish consumer inflation expectations are tested, as are the way in which these are formed. The pattern of responses to the survey question and quantified measures of Polish consumer inflation expectations are also compared with the respective findings for the euro area. |
| Keywords: | Inflation expectations; Surveys; Rationality; Poland; Euro Area. |
| JEL: | C42 D12 D84 E58 |
| Date: | 2003–11 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20030287&r=mon |
| By: | Susan Athey (Stanford University and National Bureau of Economic Research,Stanford University, Stanford, CA 94305-6072, USA.); Andrew Atkeson (University of California, Los Angeles,CA, USA. Federal Reserve Bank of Minneapolis, and National Bureau of Economic Research.); Patrick J. Kehoe (Federal Reserve Bank of Minneapolis, University of Minnesota, and National Bureau of Economic Research) |
| Abstract: | How much discretion should the monetary authority have in setting its policy? This question is analyzed in an economy with an agreed-upon social welfare function that depends on the randomly fluctuating state of the economy. The monetary authority has private information about that state. In the model, well-designed rules trade off society’s desire to give the monetary authority discretion to react to its private information against society’s need to guard against the time inconsistency problem arising from the temptation to stimulate the economy with unexpected inflation. Although this dynamic mechanism design problem seems complex, society can implement the optimal policy simply by legislating an inflation cap that specifies the highest allowable inflation rate. The more severe the time inconsistency problem, the more tightly the cap constrains policy and the smaller is the degree of discretion. As this problem becomes sufficiently severe, the optimal degree of discretion is none. |
| Keywords: | Rules vs. discretion; time inconsistency; optimal monetary policy; inflation targets; inflation caps. |
| JEL: | E5 E6 E52 E58 E61 |
| Date: | 2004–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040338&r=mon |
| By: | Julius Moschitz (Universitat Autònoma de Barcelona, Dept. d’Economia i d’Història Econòmica, 08193 Bellaterra, Barcelona, Spain.) |
| Abstract: | The overnight interest rate is the price paid for one day loans and defines the short end of the yield curve. It is the equilibrium outcome of supply and demand for bank reserves. This paper models the intertemporal decision problems in the reserve market for both central and commercial banks. All important institutional features of the euro area reserve market are included. The model is then estimated with euro area data. A permanent change in reserve supply of one billion euro moves the overnight rate by eight basis points into the opposite direction, hence, there is a substantial liquidity effect. Most of the predictable patterns for the mean and the volatility of the overnight rate are related to monetary policy implementation, but also some calendar day effects are present. Banks react sluggishly to new information. Implications for market efficiency, endogeneity of reserve supply and underbidding are studied. |
| Keywords: | Money markets; EONIA rate; Liquidity effect; Central bank operating procedures. |
| JEL: | E52 E58 E43 |
| Date: | 2004–09 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040393&r=mon |
| By: | Klaus Adam (European Central Bank, DG Research); 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. |
| Keywords: | nonlinear optimal policy, zero interest rate bound, commitment, liquidity trap, New Keynesian. |
| JEL: | C63 E31 E52 |
| Date: | 2004–07 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040377&r=mon |
| By: | Maarten Dossche (National Bank of Belgium, Boulevard de Berlaimont 14, 1000 Brussels, Belgium); Gerdie Everaert (SHERPPA, Ghent University, Hoveniersberg 24, 9000 Ghent, Belgium) |
| Abstract: | Time series estimates of inflation persistence incur an upward bias if shifts in the inflation target of the central bank remain unaccounted for. Using a structural time series approach we measure different sorts of inflation persistence allowing for an unobserved time-varying inflation target. Unobserved components are identified using Kalman filtering and smoothing techniques. Posterior densities of the model parameters and the unobserved components are obtained in a Bayesian framework based on importance sampling. We find that inflation persistence, expressed by the half-life of a shock, can range from 1 quarter in case of a cost-push shock to several years for a shock to long-run inflation expectations or the output gap. |
| Keywords: | Inflation persistence; inflation target; Kalman filter; Bayesian analysis. |
| JEL: | C11 C13 C22 C32 E31 |
| Date: | 2005–06 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050495&r=mon |
| By: | Klaus Adam (European Central Bank, DG Research); Roberto M. Billi (Center for Financial Studies) |
| Abstract: | We determine optimal discretionary monetary policy in a New-Keynesian model when nominal interest rates are bounded below by zero. Nominal interest rates should be lowered faster in response to adverse shocks than in the case without bound. Such ‘preemptive easing’ is optimal because expectations of a possibly binding bound in the future amplify the effects of adverse shocks. Calibrating the model to the U.S. economy we find the easing effect to be quantitatively important. Moreover, the lower bound binds rather frequently and imposes significant welfare losses. Losses increase further when inflation is partly determined by lagged inflation in the Phillips curve. Targeting positive inflation rates reduces the frequency of a binding lower bound, but tends to reduce welfare compared to a target rate of zero. The welfare gains from policy commitment, however, appear significant and are much larger than in the case without lower bound. |
| Keywords: | nonlinear policy; zero lower bound; liquidity trap. |
| JEL: | C63 E31 E52 |
| Date: | 2004–08 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040380&r=mon |
| By: | Sami Vähämaa (University of Vaasa, Department of Accounting and Finance, P.O. Box 700, FIN-65101 Vaasa, Finland;) |
| Abstract: | This paper uses data on German government bond futures options to examine the behaviour of market expectations around monetary policy actions of the European Central Bank (ECB). In particular, this paper focuses on the asymmetries in bond market expectations, as measured by the skewness of option-implied probability distributions of future bond yields. The results show that market expectations are systematically asymmetric around monetary policy actions of the ECB. Around monetary policy tightening, option-implied yield distributions are positively skewed, indicating that market participants attach higher probabilities for sharp yield increases than for sharp decreases. Correspondingly, around loosening of the policy, implied yield distributions are negatively skewed, suggesting that markets assign higher probabilities for sharp yield decreases than for increases. Furthermore, the results indicate that market expectations are significantly altered around monetary policy actions, as asymmetries in market expectations tend to increase before changes in the monetary policy stance, and to decrease afterwards. |
| Keywords: | Market expectations; Asymmetries; Implied skewness; Monetary policy. |
| JEL: | E44 E52 G10 G13 |
| Date: | 2004–03 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040315&r=mon |
| By: | Bjørn-Roger Wilhelmsen (Norges Bank, Bankplassen 2, 0107 Oslo, Norway); Andrea Zaghini (Banca d’Italia, Servizio Studi, Via Nazionale 91, 00184 Roma, Italy) |
| Abstract: | The paper evaluates the ability of market participants to anticipate monetary policy decisions in the euro area and in 13 other countries. First, by looking at the magnitude and the volatility of the changes in the money market rates we show that the days of policy meetings are special days for financial markets. Second, we find that the predictability of the ECB’s monetary policy is fully comparable (and sometimes slightly better) to that of the FED and the Bank of England. Finally, an econometric analysis of the ability of market participants to incorporate in the current money rates the expected changes in the key policy rate shows that in the euro area policy decisions are anticipated well in advance. |
| Keywords: | Monetary policy; Predictability; Money market rates. |
| JEL: | E4 E5 G1 |
| Date: | 2005–07 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050504&r=mon |
| By: | Gregory Gadzinski (GREQAM, Université de la Mediterraneé.); Fabrice Orlandi (Corresponding author: DG Economics, EU Countries Division, Forecasting and Monitoring Unit; European Central Bank, Kaiserstrasse 29, D-60311, Frankfurt am Main, Germany.) |
| Abstract: | In this paper we report results on inflation persistence using 79 inflation series covering the EU countries, the euro area and the US for five different inflation variables. The picture that emerges is one of moderate inflation persistence across the board. In particular we find euro area inflation persistence to be broadly in line with US inflation persistence. The issue of allowing for intercept dummies in the underlying inflation models is found to be of paramount importance to avoid overestimation of the level of persistence. The use of alternative measures of persistence is found to be commendable on the grounds that they complement each other in practice. |
| Keywords: | Inflation dynamics; structural change; median unbiased estimates. |
| JEL: | E31 E52 C22 C12 |
| Date: | 2004–11 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040414&r=mon |
| By: | Vítor Gaspar (European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt/Main, Germany.); Gabriel Pérez Quirós (Banco de España and CEPR); Hugo Rodríguez Mendizábal (Universitat Autònoma de Barcelona and CENTRA) |
| Abstract: | The purpose of this paper is to study the determinants of equilibrium in the market for daily funds. We use the EONIA panel database which includes daily information on the lending rates applied by contributing commercial banks. The data clearly shows an increase in both the time series volatility and the cross section dispersion of rates towards the end of the reserve maintenance period. These increases are highly correlated. With respect to quantities, we find that the volume of trade as well as the use of the standing facilities are also larger at the end of the maintenance period. Our theoretical model shows how the operational framework of monetary policy causes a reduction in the elasticity of the supply of funds by banks throughout the reserve maintenance period. This reduction in the elasticity together with market segmentation and heterogeneity are able to generate distributions for the interest rates and quantities traded with the same properties as in the data. |
| Keywords: | Overnight interest rate; Monetary policy instruments; Eonia panel. |
| JEL: | E52 E58 |
| Date: | 2004–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040351&r=mon |
| By: | Paolo Surico (Istituto di Economia Politica, Università Bocconi,Via Gobbi 5, 20136 Milan, Italy.) |
| Abstract: | This paper offers an alternative explanation for the behavior of postwar US inflation by measuring a novel source of monetary policy time-inconsistency due to Cukierman (2002). In the presence of asymmetric preferences, the monetary authorities end up generating a systematic inflation bias through the private sector expectations of a larger policy response in recessions than in booms. Reduced-form estimates of US monetary policy rules indicate that while the inflation target declines from the pre- to the post-Volcker regime, the average inflation bias, which is about one percent before 1979, tends to disappear over the last two decades. This result can be rationalized in terms of the preference on output stabilization, which is found to be large and asymmetric in the former but not in the latter period. |
| Keywords: | Asymmetric preferences; time-inconsistency; average inflation bias; US inflation. |
| JEL: | E52 E58 |
| Date: | 2003–11 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20030291&r=mon |
| By: | Marcel Fratzscher (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.) |
| Abstract: | This paper deals with the very short-term influence of "oral interventions" on the exchange rate of major currencies. The paper finds that official communication, as reported by wire services, are effective in influencing the US dollar-euro and yen-US dollar exchange rates in the desired direction on intervention days. Oral interventions are found to be substantially more effective if they deviate from the prevalent policy "mantra". They also tend to reduce market volatility whereas actual interventions raise volatility. A key result of the paper is that oral interventions are effective independently from the stance and direction of monetary policy as well as the occurrence of actual interventions. This suggests that oral interventions might constitute, on a short-term basis, an effective and largely autonomous policy tool. |
| Keywords: | communication; exchange rate; intervention; policy; United States; euro area; Japan. |
| JEL: | E61 E58 F31 |
| Date: | 2004–05 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040363&r=mon |
| By: | Keith Küster (Johann-Wolfgang-Goethe Universität, Mertonstrasse 17, D-60325 Frankfurt am Main, Germany); Volker Wieland (Professur für Geldtheorie und -politik, Johann-Wolfgang-Goethe Universität, Mertonstrasse 17, D-60325 Frankfurt am Main, Germany) |
| Abstract: | In this paper, we examine the cost of insurance against model uncertainty for the Euro area considering four alternative reference models, all of which are used for policy-analysis at the ECB. We find that maximal insurance across this model range in terms of a Minimax policy comes at moderate costs in terms of lower expected performance. We extract priors that would rationalize the Minimax policy from a Bayesian perspective. These priors indicate that full insurance is strongly oriented towards the model with highest baseline losses. Furthermore, this policy is not as tolerant towards small perturbations of policy parameters as the Bayesian policy rule. We propose to strike a compromise and use preferences for policy design that allow for intermediate degrees of ambiguity-aversion. These preferences allow the specification of priors but also give extra weight to the worst uncertain outcomes in a given context. |
| Keywords: | Model uncertainty; robustness; monetary policy rules; minimax; euro area. |
| JEL: | E52 E58 E61 |
| Date: | 2005–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050480&r=mon |
| By: | Claudio Morana (University of Piemonte Orientale, Faculty of Economics, Via Perrone 18, I-28100, Novara, Italy) |
| Abstract: | In the paper we propose a new methodological approach to core inflation estimation,based on a frequency domain principal components estimator, suited to estimate systems of fractionally cointegrated processes. The proposed core inflation measure is the scaled common persistent factor in inflation and excess nominal money growth and bears the interpretation of monetary inflation. The proposed measure is characterised by all the properties that an “ideal” core inflation process should show, providing also a superior forecasting performance relative to other available measures. |
| Keywords: | Long memory; Common factors; Fractional cointegration; Markov switching; Core inflation; Euro area. |
| JEL: | C22 E31 E52 |
| Date: | 2004–02 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040305&r=mon |
| By: | Jürgen Wiemers; Ulrike Neyer |
| Abstract: | The interbank money market plays a key role in the execution of monetary policy. Hence, it is important to know the functioning of this market and the determinants of the interbank money market rate. In this paper, we develop an interbank money market model with a heterogeneous banking sector. We show that besides for balancing daily liquidity fluctuations banks participate in the interbank market because they have different marginal costs of obtaining funds from the central bank. In the euro area, which we refer to, these cost differences occur because banks have different marginal cost of collateral which they need to hold to obtain funds from the central bank. Banks with relatively low marginal costs act as intermediaries between the central bank and banks with relatively high marginal costs. The necessary positive spread between the interbank market rate and the central bank rate is determined by transaction costs and credit risk in the interbank market, total liquidity needs of the banking sector, costs of obtaining funds from the central bank, and the distribution of the latter across banks. |
| Date: | 2003–11 |
| URL: | http://d.repec.org/n?u=RePEc:iwh:dispap:182&r=mon |
| By: | Björn Fischer (European Central Bank, Kaiserstr. 29, D-60311 Frankfurt am Main, Germany); Petra Köhler (European Central Bank, Kaiserstr. 29, D-60311 Frankfurt am Main, Germany); Franz Seitz (Fachhochscule Amberg-Weiden) |
| Abstract: | The present paper analyses currency in circulation in the euro area since the beginning of the 1980s. After a comprehensive literature review on this topic we present some stylised facts on currency holdings in the euro area countries as well as at an aggregate euro area level. The next chapter develops a theoretical model, which extends traditional money demand models to also incorporate arguments for the informal economy and foreign demand for specific currencies. In the empirical sections we first estimate the demand for euro legacy currencies in total and for small and large denominations within a cointegration framework. We find significant differences between the determinants of holdings of small and large denominations as well as overall currency demand. While small-value banknotes are mainly driven by domestic transactions, the demand for large-value banknotes depends on a short-term interest rate, the exchange rate of the euro as a proxy for foreign demand and inflation variability. Large-value banknotes seem to be therefore used to an important extent as a store of value domestically and abroad. As monetary policy is mainly interested in getting information on the demand for currency used for domestic transactions we also try several approaches in this direction. All the methods applied result in rather low levels of transaction balances used within the euro area of around 25% to 35% of total currency. After this we deal with possibly changing cost-benefit-considerations of the use of cash due to the introduction of euro notes and coins. Overall, there seems no evidence so far of a substantial decline of the demand for currency in the euro area. The analysis of currency in circulation and in particular estimates on the share of currency which is likely to be used for domestic transactions therefore help to explain monetary developments and are informative for monetary policy. |
| Keywords: | currency in circulation; Cointegration; Purposes of holding currency |
| JEL: | E41 E52 E58 |
| Date: | 2004–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040330&r=mon |
| By: | Ulrich Bindseil (European Central Bank, Kaiserstrasse 29, D-60311, Frankfurt am Main, Germany.); Andres Manzanares (European Central Bank, Kaiserstrasse 29, D-60311, Frankfurt am Main, Germany.); Benedict Weller (European Central Bank, Kaiserstrasse 29, D-60311, Frankfurt am Main, Germany.) |
| Abstract: | This paper explores the role of central bank capital in ensuring that central banks focus on price stability in monetary policy decisions. The paper goes beyond the existing literature on this topic by developing a simple, but comprehensive, model of the relationship between a central bank's balance sheet structure and its inflation performance. The first part of the paper looks at solvency, i.e. under which conditions the "economic" capital (i.e. the discounted long term P&L) of a central bank always remains positive, despite adverse shocks, assuming a stability oriented monetary policy. The second part shows that in practice, capital is important for central banks beyond the issue of positive economic capital, when taking realistic assumptions regarding central bank independence. Capital thus remains a key tool to ensure that central banks are unconstrained in their focus on price stability in monetary policy decisions. |
| Keywords: | Central Bank Capital; Central Bank Independence. |
| JEL: | E42 E58 |
| Date: | 2004–09 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040392&r=mon |
| By: | Robert G. King (Boston University,Postal: 270 Bay State Road, Boston, MA 02215, USA.); Alexander L.Wolman (Federal Reserve Bank of Richmond P.O. Box 27622 Richmond VA 23261, USA.) |
| Abstract: | In a plain-vanilla New Keynesian model with two-period staggered price-setting, discretionary monetary policy leads to multiple equilibria. Complementarity between 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: | 2004–05 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040343&r=mon |
| By: | Christian Ewerhart (Institute for Empirical Research in Economics (IEW), University of Zurich, Bluemlisalpstrasse 10, CH-8006 Zurich, Switzerland.); Nuno Cassola (European Central Bank, Postfach 160319, 60311 Frankfurt am Main, Germany); Steen Ejerskov (European Central Bank, Postfach 160319, 60311 Frankfurt am Main, Germany); Natacha Valla (Banque de France, Paris, France) |
| Abstract: | On several occasions during the period 2001-2003, the European Central Bank (ECB) decided to deviate from its “neutral” benchmark allotment rule, with the effect of not alleviating a temporary liquidity shortage in the banking system. This is remarkable because it implied the possibility of short-term interest rates raising significantly above the main policy rate. In the present paper, we show that when the monetary authority cares for both liquidity and interest rate conditions, the optimal allotment policy may entail a discontinuous reaction to initial conditions. More precisely, we prove that there is a threshold level for the accumulated aggregate liquidity position in the banking system prior to the last operation in a given maintenance period, so that the benchmark allotment is optimal whenever liquidity conditions are above the threshold, and a tight allotment is optimal whenever liquidity conditions are below the threshold. |
| Keywords: | euro; monetary policy instruments; operational framework; refinancing operations. |
| JEL: | E43 E52 |
| Date: | 2003–12 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20030295&r=mon |
| By: | Michele Ca’ Zorzi (European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany.); Roberto A. De Santis (European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany.); Fabrizio Zampolli |
| Abstract: | This paper examines the welfare implications of a country joining a currency union as opposed to operating in a flexible exchange rate regime. At the country level, the suboptimal response to domestic and foreign shocks and the inability of setting inflation at the desired level may be offset by a positive impact on potential output. We show that for entry to be welfare enhancing, the potential output gain must be the larger, the smaller the country, the larger the difference between the standard deviation of supply shocks across the participating countries, the smaller the correlation of countries’ supply shocks and the larger the variance of real exchange rate shocks. |
| Keywords: | Balassa-Samuelson Effect; Currency Union; Monetary Policy; Welfare. |
| JEL: | E52 E58 F33 F40 |
| Date: | 2005–02 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050445&r=mon |
| By: | Fabrice Collard (CNRS-GREMAQ, Manufacture des Tabacs, bât. F, 21 allée de Brienne, 31000 Toulouse, France.); Harris Dellas (Department of Economics, University of Bern, CEPR, IMOP. Address:VWI, Gesellschaftsstrasse 49, CH 3012 Bern, Switzerland.) |
| Abstract: | Was the high inflation of the 1970s mostly due to incomplete information about the structure of the economy (an unavoidable mistake as suggested by Orphanides, 2000)? Or, to weak reaction to expected inflation and/or excessive policy activism that led to indeterminacies (a policy mistake, a scenario suggested by Clarida, Gali and Gertler, 2000)? We study this question within the NNS model with policy commitment and imperfect information, requiring that the model have satisfactory overall empirical performance. We find that both explanations do a good job in accounting for the great inflation. Even with the commonly used specification of the interest policy rule, high and persistent inflation can occur following a significant productivity slowdown if policymakers significantly and persistently underestimate ”core” inflation. |
| Keywords: | Inflation; imperfect information; Kalman filter; policy rule; indeterminacy. |
| JEL: | E32 E52 |
| Date: | 2004–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040336&r=mon |
| By: | Carl E.Walsh (Professor, University of California, Santa Cruz and Visiting Scholar, Federal Reserve Bank of San Francisco. Corresponding address: Department of Economics, University of California, Santa Cruz, CA 95064, USA) |
| Abstract: | In this paper, I evaluate the performance deterioration that occurs when the central bank employs an optimal targeting rule that is based on incorrect parameter values. I focus on two parameters — the degree of inflation inertia and the degree of price stickiness. I explicitly account for the effects of the structural parameters on the objective function used to evaluate outcomes, as well as on the model’s behavioral equations. The costs of using simple rules relative to the costs of parameter misspecification are also assessed. |
| Keywords: | Monetary Policy, Robustness, Misspecification. |
| JEL: | E52 E58 |
| Date: | 2005–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050477&r=mon |
| By: | Flandreau, Marc; Komlos, John |
| Abstract: | A natural experiment with an exchange-rate band in Austria-Hungary in the early 20th century provides a rare opportunity to discuss critical aspects of the theory of target zones. Providing a new derivation of the target zone model as a set of nested hypotheses, the inference is drawn that policy credibility and market efficiency were paramount in the success of the Austro-Hungarian experience. |
| Keywords: | Austria-Hungary; covered interest parity; credibility; market efficiency hypothesis; monetary model; monetary policy; target zone |
| JEL: | F31 N32 |
| Date: | 2005–08 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:5199&r=mon |
| By: | Patrick Lünnemann (Banque centrale du Luxembourg, Monetary, Economic & Statistics Department, 2, Boulevard Royal, L-2983 Luxembourg, Luxembourg.); Thomas Y. Mathä (Banque centrale du Luxembourg, Monetary, Economic & Statistics Department, 2, Boulevard Royal, L-2983 Luxembourg, Luxembourg.) |
| Abstract: | This paper analyses the degree of inflation persistence in the EU15, the euro area and each of its member states using disaggregate price indices from the Harmonised Index of Consumer Prices. Our results reveal substantial heterogeneity across countries and indices. The overall results, based on both parametric and non-parametric persistence measures, suggest a very moderate degree of median and mean inflation persistence. For most price indices we are able to reject the unit root hypothesis, as well as the notion of disaggregate inflation exhibiting a high degree of persistence. Durable goods and services tend to be relatively less persistent than other indices. Aggregation effects, both across indices and countries, tend to be present. We find structural breaks both owing to the change in the monetary regime and to the modified treatment of sales in the official HICP series. The latter tends to reduce the measured degree of inflation persistence. |
| Keywords: | Inflation persistence; Mean reversion; Aggregation effect; Structural breaks. |
| JEL: | E31 C21 C22 C14 |
| Date: | 2004–11 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040415&r=mon |
| By: | Michael Ehrmann (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Marcel Fratzscher (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.) |
| Abstract: | This paper investigates whether the degree of interdependence between the United States and the euro area economies has changed with the advent of EMU. It addresses this issue from the perspective of financial markets by analysing the effects of monetary policy and macroeconomic news on daily interest rates. First, the paper finds that the interdependence of money markets has increased strongly around EMU. Although spillover effects from the United States to the euro area remain stronger than in the opposite direction, US markets have started reacting to euro area developments since the onset of EMU. Second, certain US macroeconomic news affect euro area money markets, especially in recent years. Finally, we show that US macroeconomic news have become good leading indicators for economic developments in the euro area, indicating that the higher money market interdependence is at least partly explained by the increased real integration of the two economies. |
| Keywords: | interdependence; announcements; news; money markets; real-time data; United States; euro area. |
| JEL: | E43 E52 F42 |
| Date: | 2004–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040342&r=mon |
| By: | Laurent Bilke (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany) |
| Abstract: | This paper uses disaggregated CPI time series to show that a break in the mean of French inflation occurred in the mid-eighties and that the 1983 monetary policy shift mostly accounted for it. CPI average yearly growth declined from nearly 11% before the break date (May 1985) to 2.1% after. No other break in the 1973-2004 sample period can be found. Controlling for this mean break, both aggregate and sectoral inflation persistence are stable and low, with the unit root lying far in the tail of the persistence estimates. However, persistence differs dramatically across sectors. Finally, the duration between two price changes (at the firm level) appears positively related with inflation persistence (at the aggregate level). |
| Keywords: | Multiple breaks test; inflation persistence; monetary policy; sectoral prices. |
| JEL: | E31 C12 C22 |
| Date: | 2005–03 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050463&r=mon |
| By: | Danny Pitzel; Lenno Uusküla |
| Abstract: | Several papers have looked at the relationship between country-specific factors and the strength of monetary transmission. Cecchetti (1999) concentrated on legal aspects, De Grauwe and Storti (2004) more on the financial structure of the economy. The objective of this paper is to measure how financial development variables influence the strength of monetary transmission in European countries. This paper employs a meta-analysis technique that has gained much popularity in recent years. According to the results, monetary transmission in Europe is strongly influenced by financial depth and structure. |
| Keywords: | monetary transmission, financial depth, meta-analysis |
| JEL: | E3 E4 E5 E6 |
| URL: | http://d.repec.org/n?u=RePEc:eea:boewps:wp2005-10&r=mon |
| By: | Patrick Lünnemann (Banque centrale du Luxembourg, Monetary, Economic & Statistics Department, 2, Boulevard Royal, L-2983, Luxembourg, Luxembourg); Thomas Y. Mathä (Banque centrale du Luxembourg, Monetary, Economic & Statistics Department, 2, Boulevard Royal, L-2983, Luxembourg, Luxembourg) |
| Abstract: | This paper analyses the degree of price rigidity and of inflation persistence across different product categories with particular focus on regulated prices and services for the individual EU15 countries, as well as for the EU15 and the euro area aggregates. We show that services and HICP sub-indices considered being subject to price regulation exhibit larger degrees of nominal price rigidities, with less frequent but larger price index changes as well as stronger asymmetries between price index increases and decreases. With regard to what extent services and regulated prices contribute to the degree of overall inflation persistence, we find that, for most of the EU15 countries as well as for the EU15 and the euro area aggregates, excluding services from the full HICP results in a reduction in the measured degree of inflation persistence; for regulated indices such an effect is also discernible, albeit to a lesser extent. |
| Keywords: | Price rigidity; inflation persistence; regulated prices; services. |
| JEL: | E31 C22 C23 C43 |
| Date: | 2005–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050466&r=mon |
| By: | João Sousa (Banco de Portugal,Av. Almirante Reis 71, P-1150-012 Lisbon, Portugal.); Andrea Zaghini (European Central Bank, Directorate Monetary Policy, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany.) |
| Abstract: | This paper analyses the international transmission of monetary shocks with a special focus on the effects of foreign money ("global liquidity") on the euro area. We estimate structural VAR models for the euro area and the global economy including a global liquidity aggregate. The impulse responses obtained show that a positive shock to extra-euro area liquidity leads to permanent increases in the euro area M3 aggregate and the price level, a temporary rise in real output and a temporary appreciation of the real effective exchange rate of the euro. Moreover, we find that innovations in global liquidity play an important role in explaining price and output fluctuations in the euro area and in the global economy. |
| Keywords: | Monetary policy; Structural VAR; International spillovers. |
| JEL: | E52 F01 |
| Date: | 2004–02 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040309&r=mon |
| By: | Alistair Dieppe (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Keith Küster (Chair for Monetary Theory and Policy, Johann Wolfgang Goethe-University Postbox 94, D-60054 Frankfurt/Main.); Peter McAdam (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.) |
| Abstract: | In this paper, we analyze optimal monetary policy rules in a model of the euro area, namely the ECB’s Area Wide Model, which embodies a high degree of intrinsic persistence and a limited role for forward-looking expectations. These features allow us, in large measure, to differentiate our results from many of those prevailing in New Keynesian paradigm models. Specifi- cally, our exercises involve analyzing the performance of various generalized Taylor rules both from the literature and optimized to the reference model. Given the features of our modelling framework, we find that optimal policy smoothing need only be relatively mild. Furthermore, there is substantial gain from implementing forecast-based as opposed to outcome-based policies with the optimal forecast horizon for inflation ranging between two and three years. Benchmarking against fully optimal policies, we further highlight that the gain of additional states in the rule may compensate for a reduction of communicability. Thus, the paper contributes to the debate on optimal monetary policy in the euro area, as well as to the conduct of monetary policy in face of substantial persistence in the transmission mechanism. |
| Keywords: | euro area; monetary policy rule; optimization. |
| JEL: | E4 E5 |
| Date: | 2004–05 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040360&r=mon |
| By: | Ricardo de O. Cavalcanti; Andrés Erosa; Tod Temzelides (University of Pittsburg.) |
| Abstract: | We build on our earlier model of money in which bank liabilities circulate as medium of exchange, and investigate the provision of liquidity for a range of central-bank regulations dealing with the potential of bank failure. In our model, banks issue inside money under fractional reserves, facing the event of excess redemptions. They monitor the float of their money issue and make reserve-management decisions which affect aggregate liquidity conditions. Numerical examples demonstrate bank failure when returns to banking are low. Central-bank interventions, injecting more funds or making interest payments proportional to holdings of reserves, may improve banks’ returns and society’s welfare, followed by a reduction in bank failure. |
| Keywords: | Private money creation; liquidity. |
| JEL: | E4 E5 |
| Date: | 2004–09 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040394&r=mon |
| By: | Michael Ehrmann (European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany); Marcel Fratzscher (European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany) |
| Abstract: | The paper assesses the communication strategies of the Federal Reserve, the Bank of England and the European Central Bank and their effectiveness. We find that the effectiveness of communication is not independent from the decisionmaking process in the committee. The paper shows that the Federal Reserve has been pursuing a rather individualistic communication strategy amid a collegial approach to decision-making, while the Bank of England is using a collegial communication strategy and highly individualistic decision-making. The ECB has chosen a collegial approach both in its communication and in its decisionmaking. Assessing these strategies, we find that predictability of policy decisions and the responsiveness of financial markets to communication are equally good for the Federal Reserve and the ECB. This suggests that there may not be a single best approach to designing a central bank communication and decisionmaking strategy. |
| Keywords: | Communication; monetary policy; committee; effectiveness; strategies; Federal Reserve; Bank of England; European Central Bank. |
| JEL: | E43 E52 E58 G12 |
| Date: | 2005–05 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050488&r=mon |
| By: | Carlos Andrés Amaya |
| Abstract: | This paper is concerned with interest rate setting by commercial banks and how the transmission of monetary policy is re°ected in these rates. For this purpose we study the case of the Colombian banking industry for the period 1996-2004. Using microdata, the Certi¯cate of Deposit(CD) market and the credit market are studied for a balanced panel of 21 and 16 banks, respectively. The paper motivates the discussion with a theoretical model that explains how banks set their interest rates and how these are a®ected by the policy rate. Overcoming some of the empirical di±culties presented in other studies, this paper deals with them by performing panel unit root tests and panel cointegration tests. The results suggest that the transmission of the policy rate to the CD rate and the credit rate is on average high and quick. Additionally, rates react strongly to in°ation shocks, specially credit rates. Finally, the evidence presented shows the importance of banks' characteristics and in°ation as long-run drivers of interest rates. |
| Keywords: | Banks, Monetary Policy, Interest Rates, Panel Data |
| JEL: | C33 E43 E52 E58 |
| URL: | http://d.repec.org/n?u=RePEc:bdr:borrec:352&r=mon |
| By: | Gonzalo Camba-Méndez (Corresponding author. European Central Bank, Kaiserstrasse 29, D-60311, Frankfurt am Main, Germany.); George Kapetanios (Department of Economics, Queen Mary, University of London, Mile End Road, London E1 4N, United Kingdom.) |
| Abstract: | Standard measures of prices are often contaminated by transitory shocks. This has prompted economists to suggest the use of measures of underlying inflation to formulate monetary policy and assist in forecasting observed inflation. Recent work has concentrated on modelling large datasets using factor models. In this paper we estimate factors from datasets of disaggregated price indices for European countries. We then assess the forecasting ability of these factor estimates against other measures of underlying inflation built from more traditional methods. The power to forecast headline inflation over horizons of 12 to 18 months is adopted as a valid criterion to assess forecasting. Empirical results for the five largest euro area countries as well as for the euro area are presented. |
| Keywords: | Core Inflation; Dynamic Factor Models; Forecasting. |
| JEL: | E31 C13 C32 |
| Date: | 2004–11 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040402&r=mon |
| By: | Lawrence Christiano (Department of Economics, Northwestern University, 2001 Sheridan Road, Evanston, Illinois 60208, USA); Roberto Motto (European Central Bank, Kaiserstr. 29, D-60311 Frankfurt am Main, Germany); Massimo Rostagno (European Central Bank, Kaiserstr. 29, D-60311 Frankfurt am Main, Germany) |
| Abstract: | We evaluate the Friedman-Schwartz hypothesis that a more accommodative monetary policy could have greatly reduced the severity of the Great Depression. To do this, we first estimate a dynamic, general equilibrium model using data from the 1920s and 1930s. Although the model includes eight shocks, the story it tells about the Great Depression turns out to be a simple and familiar one. The contraction phase was primarily a consequence of a shock that induced a shift away from privately intermediated liabilities, such as demand deposits and liabilities that resemble equity, and towards currency. The slowness of the recovery from the Depression was due to a shock that increased the market power of workers. We identify a monetary base rule which responds only to the money demand shocks in the model. We solve the model with this counterfactual monetary policy rule. We then simulate the dynamic response of this model to all the estimated shocks. Based on the model analysis, we conclude that if the counterfactual policy rule had been in place in the 1930s, the Great Depression would have been relatively mild. |
| Keywords: | General equilibrium; Lower bound; Deflation; Shocks |
| JEL: | E31 E40 E51 E52 E58 N12 |
| Date: | 2004–03 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040326&r=mon |
| By: | Antonella Trigari (IGIER, Bocconi University, Italy) |
| Abstract: | In order to explain the joint fluctuations of output, inflation and the labor market, this paper first develops a general equilibrium model that integrates a theory of equilibrium unemployment into a monetary model with nominal price rigidities. Then, it estimates a set of structural parameters characterizing the dynamics of the labor market using an application of the minimum distance estimation. The estimated model can explain the cyclical behavior of employment, hours per worker, job creation and job destruction conditional on a shock to monetary policy. Moreover, allowing for variation of the labor input at the extensive margin leads to a significantly lower elasticity of marginal costs with respect to output. This helps to explain the sluggishness of inflation and the persistence of output after a monetary policy shock. The ability of the model to account for the joint dynamics of output and inflation rely on its ability to explain the dynamics in the labor market. |
| Keywords: | Business Cycles, Search and Matching Models, Monetary Policy, Inflation. |
| JEL: | E32 J41 J64 E52 E31 |
| Date: | 2004–02 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040304&r=mon |
| By: | George Hondroyiannis (Economic Research Department, Bank of Greece); Sophia Lazaretou (Economic Research Department, Bank of Greece) |
| Abstract: | The paper estimates inflation persistence in Greece from 1975 to 2003, a period of high variation in inflation and changes in policy regimes. Two empirical methodologies, univariate autoregressive (AR) modelling and second-generation random coefficient (RC) modelling, are employed to estimate inflation persistence. The empirical results from all the procedures suggest that inflation persistence was high during the inflationary period and the first six years of the disinflationary period, while it started to decline after 1997, when inflationary expectations seem to have been stabilised, and thus, monetary policy was effective at reducing inflation. Empirical findings also detect a sluggish response of inflation to changes in monetary policy. This observed delay seems to have changed little over time. |
| Keywords: | CPI inflation, persistence, structural change. |
| JEL: | E31 E37 |
| Date: | 2004–06 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040370&r=mon |
| By: | Florin O. Bilbiie (Nuffield College, University of Oxford, New Road, Oxford, OX1 1NF, United Kingdom.) |
| Abstract: | When enough agents do not participate in asset markets, the slope of the aggregate demand curve is reversed. Monetary policy should be passive, to ensure equilibrium determinacy and to minimize variations in output and inflation. This paper presents evidence that asset markets participation in the US was limited over the Great Inflation period and the slope of the IS curve had the ’wrong’ sign. Our results may help explain the ’Great Inflation’ and give optimism for FED policy. If the economy was characterized by a relatively higher degree of financial frictions over that period: (i) policy implied a determinate equilibrium and ruled out sunspot fluctuations; (ii) policy was closer to optimal than conventional wisdom dictates; (iii) responses and variability of macroeconomic variables conditional upon fundamental shocks are close to their estimated counterparts for a wide range of reasonable parameterizations. Notably, ’cost-push’ shocks are enough to generate a Great Inflation. |
| Keywords: | The Great Inflation; monetary policy rules; Taylor Principle; real (in)determinacy; limited asset markets participation. |
| JEL: | E31 E32 E44 E58 E65 |
| Date: | 2004–11 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040408&r=mon |
| By: | Olli Castrén (External Developments Division, DG-Economics, European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.) |
| Abstract: | This paper uses data on currency options prices for the exchange rates of the three largest new EU member states Poland, Czech Republic and Hungary vis-à-vis the euro and the US dollar to estimate the risk-neutral density (RND) functions and the density interval bands. Analysing the RNDs, we find that only some of the implied moments on the Polish zloty exchange rate systematically move around policy events, while the implied moments on the RNDs on the Czech koruna and Hungarian forint show more systematic changes. Regarding the HUF/EUR currency pair, monetary policy news have a significant impact on all moments, while changes in implied standard deviation signal a higher probability of interest rate changes by the Hungarian central bank. The more marked results for HUF/EUR exchange rate could reflect the fixed exchange rate regime prevailing throughout the sample period. |
| Keywords: | Foreign exchange rate market sentiment; monetary policy news; currency options data. |
| JEL: | E52 F31 G15 |
| Date: | 2005–02 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050440&r=mon |
| By: | Albert Marcet (Institut d’Anàlisi Econòmica (CSIC), and Departament d’Economia i Empresa,Universitat Pompeu Fabra, C/ Ramon Trias Fargas, 23-25, 08005, Barcelona, Spain;); Juan Pablo Nicolini (Universidad Torcuato Di Tella, C/Miñones 2177, C1428ATG Buenos Aires, Argentina) |
| Abstract: | This paper studies the short run correlation of inflation and money growth. We study whether a model of learning does better or worse than a model of rational expectations, and we focus our study on countries of high inflation. We take the money process as an exogenous variable, estimated from the data through a switching regime process. We find that the rational expectations model and the model of learning both offer very good explanations for the joint behavior of money and prices. |
| Keywords: | Inflation and money growth; switching regimes; quasi-rationality. |
| JEL: | D83 E17 E31 |
| Date: | 2005–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050469&r=mon |
| By: | Schadler, Susan; Drummond, Paulo Flavio Nacif; Kuijs, Louis; Murgasova, Zuzana; van Elkan, Rachel |
| Abstract: | Upon entry into the European Union (EU), countries become members of the Economic and Monetary Union (EMU), with a derogation from adopting the euro as their currency (that is, each country joining the EU commits to replace its national currency with the euro, but can choose when to request permission to do so). For most of these countries, adopting the euro will entail major economic change. This paper examines likely economic developments and policy challenges for the five former transition countries in central Europe--the Czech Republic, Hungary, Poland, the Slovak Republic, and Slovenia--that joined the EU in May 2004 and operate independent monetary policies but have not yet achieved policy convergence with the rest of the euro area. |
| Date: | 2005 |
| URL: | http://d.repec.org/n?u=RePEc:imf:imfocp:234&r=mon |
| By: | Ulrich Bindseil (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Gonzalo Camba-Mendez (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Astrid Hirsch (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Benedict Weller (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.) |
| Abstract: | This paper explains to what extent excess reserves are and should be relevant today in the implementation of monetary policy, focusing on the specific case of the operational framework of the Eurosystem. In particular, this paper studies the impact that changes to the operational framework for monetary policy implementation have on the level and volatility of excess reserves. A ‘transaction costs’ model that replicates the rather specific intra-reserve maintenance period pattern of excess reserves in the euro area is developed. Simulation results presented not only show that excess reserves may increase considerably under some changes to the operational framework, but also that their volatility and hence unpredictability could. |
| Keywords: | excess reserves; monetary policy implementation; liquidity management. |
| JEL: | E52 E58 |
| Date: | 2004–05 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040361&r=mon |
| By: | Fabio Moneta (Finance Department, Carroll School of Management, Boston College, 140 Commonwealth Avenue, Chestnut Hill, MA 02467-3808.) |
| Abstract: | This paper studies the informational content of the slope of the yield curve as a predictor of recessions in the euro area. In particular, the historical predictive power of ten yield spreads, for different segments of the yield curve, is tested using a probit model. The yield spread between the ten-year government bond rate and the threemonth interbank rate outperforms all the other spreads in predicting recessions in the euro area. The result is confirmed when the autoregressive series of the state of the economy is added in the same model. The forecast accuracy of the spread between 10-year and 3-month interest rates is explored in an exercise of out-of-sample forecasting. This yield spread appears to contain information which goes beyond the information already available in the history of output, providing further evidence of the potential usefulness of this indicator for monetary policy purposes. |
| Keywords: | Probit model; forecasting; recessions; yield curve. |
| JEL: | E44 E52 C53 |
| Date: | 2003–12 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20030294&r=mon |
| By: | Sandrine Corvoisier (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt, Germany); Benoît Mojon (European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany.) |
| Abstract: | In most OECD countries, we cannot reject up to three breaks in the mean of inflation: one break in the late 1960’s-early 1970’s, one in the early-mid 1980’s and another break in the early 1990’s. These breaks tend to be associated more often to breaks in the mean of nominal variables than to the one of real variables, which reinforces the view that they are monetary phenomena. We also show that ignoring breaks in the mean of inflation clearly lead to overrate inflation persistence in standard bi-variate models of inflation. The response of inflation to shocks in these models is markedly faster with breaks than without breaks. Finally, controlling for breaks in the mean of inflation weakens the effects on inflation of M3 growth and of the real unit labour cost towards insignificance while the effects of the output gaps on inflation are more robust. |
| Keywords: | Structural breaks; inflation persistence. |
| JEL: | E31 E52 C32 |
| Date: | 2005–03 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050451&r=mon |
| By: | Giovanni Lombardo (Deutsche Bundesbank, Postfach 100602, D-60006 Frankfurt am Main, Germany.); Alan Sutherland (Department of Economics, University of St Andrews, St Andrews, Fife, KY16 9AL, UK.) |
| Abstract: | A two-country sticky-price model is used to analyse the interactions between fiscal and monetary policy. The role of an ‘activist’ fiscal policy as a stabilisation tool is considered and a measure of the welfare gains from international fiscal policy cooperation is derived. It is found that welfare gains from fiscal cooperation do exist provided monetary policy is set cooperatively. There are also welfare gains from fiscal policy cooperation in a monetary union. However, it is found that a ‘non-activist’ fiscal policy can be better than non-cooperative fiscal policy when the international correlation of shocks is strongly negative. And non-cooperative fiscal policy can be better than cooperative fiscal policy if monetary policy is not set cooperatively. |
| Keywords: | Fiscal and monetary policy; policy coordination. |
| JEL: | E52 E58 F42 |
| Date: | 2003–11 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20030289&r=mon |
| By: | Ulrich Bindseil (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Tobias Linzert (Goethe University Frankfurt, Department of Economics, Mertonstr. 17-21, 60054 Frankfurt am Main, Germany.); Dieter Nautz (Goethe University Frankfurt, Department of Economics, Mertonstr. 17-21, 60054 Frankfurt am Main, Germany.) |
| Abstract: | This paper employs individual bidding data to analyze the empirical performance of the longer term refinancing operations (LTROs) of the European Central Bank (ECB). We investigate how banks’ bidding behavior is related to a series of exogenous variables such as collateral costs, interest rate expectations, market volatility and to individual bank characteristics like country of origin, size, and experience. Panel regressions reveal that a bank’s bidding depends on bank characteristics. Yet, different bidding behavior generally does not translate into differences concerning bidder success. In contrast to the ECB’s main refinancing operations, we find evidence for the winner’s curse effect in LTROs. Our results indicate that LTROs do neither lead to market distortions nor to unfair auction outcomes. |
| Keywords: | Monetary Policy Instruments of the ECB; Auctions; Winner’s Curse; Panel Analysis of Bidding Behavior. |
| JEL: | E52 D44 |
| Date: | 2004–05 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040359&r=mon |
| By: | Daniel L. Thornton |
| Abstract: | The Fed's ability to control the federal funds rate stems from its ability to alter the supply of liquidity in the overnight market through open market operations. This paper uses daily data compiled by the author from the records of the Trading Desk of the Federal Reserve Bank of New York over the period March 1, 1984, through December 31, 1996, to analyze the Desk's use of its operating procedure in implementing monetary policy, and the extent to which open market operations affect the federal funds rate-the liquidity effect. I find that operating procedure was used to guide daily open market operations; however, there is little evidence of a liquidity effect at the daily frequency and even less evidence at lower frequencies. Consistent with the absence of a liquidity effect, open market operations appear to be a relatively unimportant source of liquidity to the federal funds market. |
| Keywords: | Federal funds rate ; Open market operations |
| Date: | 2005 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedlwp:2005-063&r=mon |
| By: | Christian Ewerhart (Institute for Empirical Research in Economics (IEW)); Nuno Cassola (European Central Bank, DG Market Operations); Steen Ejerskov (Danmarks Nationalbank, Economics); Natacha Valla (Banque de France (Bank of France)) |
| Abstract: | We model the interbank market for overnight credit with heterogeneous banks and asymmetric information. An unsophisticated bank just trades to compensate its liquidity imbalance, while a sophisticated bank will exploit its private information about the liquidity situation in the market. It is shown that with positive probability, the liquidity effect (Hamilton, 1997) is reversed, i.e., a liquidity drainage from the banking system may generate an overall decrease in the market rate. The phenomenon does not disappear when the number of banks increases. We also show that private information mitigates the effect of an unexpected liquidity shock on the market rate, suggesting a conservative information policy from a central bank perspective. |
| Keywords: | Liquidity effect, asymmetric information, monetary policy implementation. |
| JEL: | G14 G21 E52 |
| Date: | 2004–07 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040378&r=mon |
| By: | Olli Castrén (DG Economics, European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany.); Tuomas Takalo (Research Department, Bank of Finland, P.O. Box 160, Fin-00101 Helsinki, Finland.); Geoffrey Wood (Cass Business School, City University, 106 Bunhill Row, London EC7 8TZ, United Kingdom.) |
| Abstract: | It is commonly thought that an open economy can accommodate output shocks through either exchange rate or real sector adjustments. We formalise this notion by incorporating labour market rigidities into an “escape clause” model of currency crises. We show that the absence of structural reform makes a currency peg more fragile and undermines the credibility of the monetary authority in a dynamic setting. The fragility is captured by a devaluation premium in expectations that increases the average inflation rate when the currency peg is more vulnerable to “busts” than “booms”. This interaction between macroeconomic and microeconomic rigidities suggests that a policy reform can only be consistent if it renders either exchange rates or labour markets flexible. |
| Keywords: | Exchange rate policy; labour market flexibility; structural reform. |
| JEL: | E42 F33 D84 |
| Date: | 2004–11 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040406&r=mon |
| By: | Don H. Kim; Jonathan H. Wright |
| Abstract: | This paper reviews a simple three-factor arbitrage-free term structure model estimated by Federal Reserve Board staff and reports results obtained from fitting this model to U.S. Treasury yields since 1990. The model ascribes a large portion of the decline in long-term yields and distant-horizon forward rates since the middle of 2004 to a fall in term premiums. A variant of the model that incorporates inflation data indicates that about two-thirds of the decline in nominal term premiums owes to a fall in real term premiums, but estimated compensation for inflation risk has diminished as well. |
| Date: | 2005 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedgfe:2005-33&r=mon |
| By: | Andreas Schabert (University of Amsterdam, Department of Economics, Roeterstraat 11, 1018 WB Amsterdam,The Netherlands.); Christian Stoltenberg (Humboldt University Berlin, Department of Economics, D-10178 Berlin, Germany) |
| Abstract: | This paper examines how money demand induced real balance effects contribute to the determination of the price level, as suggested by Patinkin (1949,1965), and if they affect conditions for local equilibrium uniqueness and stability. There exists a unique price level sequence that is consistent with an equilibrium under interest rate policy, only if beginning-of-period money enters the utility function. Real money can then serve as a state variable, implying that interest rate setting must be passive for unique, stable, and non-oscillatory equilibrium sequences. When end-ofperiod money provides utility, an equilibrium is consistent with infinitely many price level sequences, and equilibrium uniqueness requires an active interest rate setting. The stability results are, in general, independent of the magnitude of real balance effects, and apply also when prices are sticky. In contrast, under a constant money growth policy, equilibrium sequences are (likely to be) locally stable and unique for all model variants. |
| Keywords: | Real balance effects; predetermined money; price level determination; real determinacy; monetary policy rules. |
| JEL: | E32 E41 E52 |
| Date: | 2005–03 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050458&r=mon |
| By: | Klaus Adam (European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany) |
| Abstract: | This paper presents experimental evidence from a monetary sticky price economy in which output and inflation depend on expected future inflation. With rational inflation expectations, the economy does not generate persistent deviations of output and inflation in response to a monetary shock. In the experimental sessions, however, output and inflation display considerable persistence and regular cyclical patterns. Such behavior emerges because subjects’ inflation expectations fail to be captured by rational expectations functions. Instead, a Restricted Perceptions Equilibrium (RPE), which assumes that agents use optimal but ’simple’ forecast functions, describes subjects’ inflation expectations surprisingly well and explains the observed behavior of output and inflation. |
| Keywords: | Experiments; Output and Inflation Dynamics; Restricted Perceptions Equilibrium; Rational Expectations. |
| JEL: | E32 E37 C91 |
| Date: | 2005–06 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050492&r=mon |
| By: | Joseph G. Pearlman (London Metropolitan University – Department of Economics, Finance and International Business (EFIB), 84 Morgate, London EC2M 6SQ, United Kingdom.) |
| Abstract: | We investigate the role of economic transparency within the framework of one of Townsend’s models of ‘forecasting the forecasts of others’. The equilibrium has the property that ‘higher order beliefs’ are coordinated into a finite-dimensional setup that is amenable to address monetary policy issues. We focus here on the role of public information about the money supply, and find that it should be fully revealing. |
| Keywords: | Transparency; central banks; asymmetric information; public information. |
| JEL: | D82 E58 |
| Date: | 2005–03 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050455&r=mon |
| By: | Andrew T. Levin (Federal Reserve Board of Governors); Fabio M. Natalucci (Federal Reserve Board of Governors); Jeremy M. Piger (Federal Reserve Bank of St. Louis, Research Department) |
| Abstract: | We find evidence that adopting an explicit inflation objective plays a role in anchoring long-run inflation expectations and in reducing the intrinsic persistence of inflation. For the period 1994-2003, private-sector long-run inflation forecasts exhibit significant correlation with lagged inflation for a number of industrial economies, including the United States. In contrast, this correlation is largely absent for the five countries that maintained explicit inflation objectives over this period, indicating that these central banks have been reasonably successful in delinking expectations from realized inflation. We also show that the null hypothesis of a random walk in core CPI inflation can be clearly rejected for four of these five countries, but not for most of the other industrial countries. Finally, we provide some evidence concerning the initial effects of the adoption of explicit inflation objectives in a number of emerging-market economies. |
| Keywords: | Inflation expectations, Consensus Forecasts, inflation persistence. |
| JEL: | E31 E52 E58 |
| Date: | 2004–08 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040383&r=mon |
| By: | Timothy Cogley (Department of Economics, University of California, Davis, O ne Shields Avenue, CA 95615, USA); Thomas J. Sargent (Corresponding author: Department of Economics, New York University, 269 Mercer Street, 7th Floor, New York,) |
| Abstract: | Previous studies have interpreted the rise and fall of U.S. in ation after World War II in terms of the Fed's changing views about the natural rate hypothesis but have left an important question unanswered. Why was the Fed so slow to implement the low-in ation policy recommended by a natural rate model even after economists had developed statistical evidence strongly in its favor? Our answer features model uncertainty. Each period a central bank sets the systematic part of the in ation rate in light of updated probabilities that it assigns to three competing models of the Phillips curve. Cautious behavior induced by model uncertainty can explain why the central bank presided over the in ation of the 1970s even after the data had convinced it to place much the highest probability on the natural rate model. |
| Keywords: | Natural unemployment rate; Phillips curve; Bayes' law; anticipated utility; robustness. |
| JEL: | E31 E58 E65 |
| Date: | 2005–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050478&r=mon |
| By: | Robert-Paul Berben (De Nederlandsche Bank, Monetary and Economic Policy Department, Westeinde 1, P.O. Box 98, 1017 ZN Amsterdam, Netherlands.); Alberto Locarno (Banca d´Italia,Via Nazionale 91, 00184 Rome, Italy.); Julian Morgan (European Central Bank, Kaiserstrasse 29, D-60311, Frankfurt am Main, Germany.); Javier Valles (Banco de España, Research Department, Alcalá 50, 28014 Madrid, Spain.) |
| Abstract: | This paper examines possible explanations for observed differences in the transmission of euro area monetary policy in central bank large-scale macroeconomic models. In particular it considers the extent to which these differences are due to differences in the underlying economies or (possibly unrelated) differences in the modelling strategies adopted for each country. It finds that, against most yardsticks, the cross-country variations in the results are found to be plausible in the sense that they correspond with other evidence or observed characteristics of the economies in question. Nevertheless, the role of differing modelling strategies may also play a role. Important features of the models - for instance in the treatment of expectations or wealth - can have a major bearing on the results that may not necessarily reflect differences in the underlying economies. |
| Keywords: | Monetary transmission; macroeconometric models; euro area differences. |
| JEL: | C53 E52 E37 |
| Date: | 2004–10 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040400&r=mon |
| By: | Lorenzo Cappiello (European Central Bank); Stéphane Guéné (European Central Bank) |
| Abstract: | This paper studies the role of inflation in the determination of financial asset prices. We estimate an Intertemporal Capital Asset Pricing Model à la Merton (1973), with inflation as an independent source of risk, for France and Germany. Our study also allows us to evaluate how the different nature of the French and German monetary policies before 1999 as well as the convergence process towards the single currency might have affected the role of inflation in the pricing of financial assets. We find that inflation is a significant explanatory factor for the pricing of stocks and government bonds in the two countries. Moreover, while there seems to be no clear structural break in the impact of inflation on asset prices after Stage Three of Economic and Monetary Union, such an impact has been increasingly similar in the two countries after 1999. |
| Keywords: | Intertemporal CAPM, business cycles, GARCH-in-Mean |
| JEL: | C32 C61 E44 G12 |
| Date: | 2005–02 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050436&r=mon |
| By: | Juan de Dios Tena; Francesco Giovannoni |
| Abstract: | This paper studies the effect of market structure and macroeconomic uncertainty on the transmission of monetary policy. We motivate our analysis with a simple model which predicts that: 1) investment and production in more concentrated sectors are more affected by demand changes and 2) high uncertainty makes investment and production more sensitive to demand changes. The empirical analysis estimates the effect of monetary shocks on sectoral output for different sectors in the US using different structural vector autoregressive VAR approaches. The results are largely consistent with the proposed theory. |
| Keywords: | Market concentration, macroeconomic uncertainty, monetary policy transmission, vector autoregressive models. |
| JEL: | E22 E32 E52 D43 |
| Date: | 2005–08 |
| URL: | http://d.repec.org/n?u=RePEc:bri:uobdis:05/576&r=mon |
| By: | Liam Graham (Corresponding author : Department of Economics, University of Warwick, Coventry, CV4 7AL, UK.); Dennis J. Snower (Department of Economics, Birkbeck College, University of London, 7 Gresse Street, London W1P 2LL, UK.) |
| Abstract: | We analyse the effects of money growth within a standard New Keynesian framework and show that the interaction between staggered nominal contracts and money growth leads to a long-run trade-off between output and money growth. We explore the microeconomic mechanisms that lead to this trade-off, and show that it remains even when the contract length is endogenised. |
| Keywords: | Inflation; unemployment; Phillips curve; nominal inertia; monetary policy; dynamic general equilibrium. |
| JEL: | E20 E40 E50 |
| Date: | 2004–11 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040412&r=mon |
| By: | Nicoletta Batini (Research Adviser, MPC Unit, Bank of England,Threadneedle Street, London EC2R 8AH, United Kingdom.); Paul Levine (Professor of Economics, University of Surrey, Guildford, Surrey GU2 7XH, United Kingdom.); Joseph Pearlman (Professor of Economics, London Metropolitan University, 31 Jewry St, London EC3N 2EY, United Kingdom.) |
| Abstract: | We examine the performance of forward-looking inflation-forecast-based rules in open economies. In a New Keynesian two-bloc model, a methodology first employed by Batini and Pearlman (2002) is used to obtain analytically the feedback parameters/horizon pairs associated with unique and stable equilibria. Three key findings emerge: first, indeterminacy occurs for any value of the feedback parameter on inflation if the forecast horizon lies too far into the future. Second, the problem of indeterminacy is intrinsically more serious in the open economy. Third, the problem is compounded further in the open economy when central banks respond to expected consumer, rather than producer price inflation. |
| Keywords: | Taylor rules; inflation-forecast-based rules; indeterminacy; open economy. |
| JEL: | E52 E37 E58 |
| Date: | 2004–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040340&r=mon |
| By: | Marco Del Negro (Research Department, Federal Reserve Bank of Atlanta, 1000 Peachtree St NE, Atlanta GA 30309-4470, USA); Frank Schorfheide (Department of Economics, 3718 Locust Walk, University of Pennsylvania, Philadelphia, PA 19104-6297, USA) |
| Abstract: | This paper proposes a novel method for conducting policy analysis with potentially misspecified dynamic stochastic general equilibrium (DSGE) models and applies it to a New Keynesian DSGE model along the lines of Christiano, Eichenbaum, and Evans (JPE 2005) and Smets and Wouters (JEEA 2003). Specifically, we are studying the effects of coefficient changes in interest-rate feedback rules on the volatility of output growth, inflation, and nominal rates. The paper illustrates the sensitivity of the results to assumptions on the policy invariance of model misspecifications. |
| Keywords: | Bayesian Analysis; DSGE Models; Model Misspecification. |
| JEL: | C32 |
| Date: | 2005–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050475&r=mon |
| By: | Zheng Liu (Department of Economics, Emory University,Atlanta, GA 30322, USA, and CIRPÉE, Canada); Evi Pappa (Department of Economics,The London School of Economics and Political Science, Houghton Street, London WC2A 2AE, UK, and IGIER – Bocconi University and CEP, Italy) |
| Abstract: | This paper presents a new argument for international monetary policy coordination based on considerations of structural asymmetries across countries. In a two-country world with a traded and a non-traded sector in each country, optimal independent monetary policy cannot replicate the natural-rate allocations. There are potential welfare gains from coordination since the planner under a cooperating regime internalizes a terms-of-trade externality that independent central banks tend to overlook. Yet, with symmetric structures across countries, the gains are quantitatively small. If the size of the traded sector differs across countries, the gains can be sizable and increase with the degree of asymmetry. The planner's optimal policy not only internalizes the terms-of-trade externality, it also creates a terms-of-trade bias in favor the country with a larger traded sector. Further, the planner tries to balance the terms-of-trade bias against the need to stabilize fluctuations in the terms-of-trade gap. |
| Keywords: | International Policy Coordination; Optimal Monetary Policy; Asymmetric Structures; Terms-of-Trade Bias. |
| JEL: | E52 F41 F42 |
| Date: | 2005–08 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050514&r=mon |
| By: | Michael Ehrmann (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Marcel Fratzscher (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.) |
| Abstract: | This paper assesses the change in Federal Reserve policy introduced in 1999, with the publication of statements about the outlook for monetary policy (and later about the balance of risks) immediately after each FOMC meeting. We find that markets anticipated monetary policy decisions equally well under this new disclosure regime than before, but arrived at their expectations in different ways. Under the new regime, markets extract information from the statements, whereas before, they needed to revert to other types of Fed communication in the inter-meeting periods, and come to their own assessment of the implications of macroeconomic data releases. Taken together, these findings suggest that the Fed's new disclosure practice may indeed have improved transparency in the sense that information is now released to the markets at an earlier time and with clearer signals, but that the Fed can extract less information from observing market reactions to macroeconomic data releases. |
| Keywords: | Transparency; monetary policy; announcements; communication; disclosure. |
| JEL: | E43 E52 E58 G12 |
| Date: | 2005–03 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050457&r=mon |
| By: | Carsten Detken (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Frank Smets (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.) |
| Abstract: | The paper aims at deriving some stylised facts for financial, real, and monetary policy developments during asset price booms. We observe various macroeconomic variables in a pre-boom, boom and post-boom phase. Not all booms lead to large output losses. We analyse the differences between highcost and low-cost booms. High-cost booms are clearly those in which real estate prices and investment crash in the post-boom periods. In general it is difficult to distinguish a high-cost from a low-cost boom at an early stage. However, high-cost booms seem to follow very rapid growth in the real money and real credit stocks just before the boom and at the early stages of a boom. There is also evidence that high-cost booms are associated with significantly looser monetary policy conditions over the boom period, especially towards the late stage of a boom. We finally discuss the results with regard to the theoretical literature. |
| Keywords: | asset price booms; asset price bubbles; optimal monetary policy; over-investment; real estate prices. |
| JEL: | E44 E52 E58 |
| Date: | 2004–05 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040364&r=mon |
| By: | Alessandro Calza (European Central Bank, Postfach 160319, 60066 Frankfurt am Main, Germany); João Sousa (Economic and Research Department, Banco de Portugal,Av. Almirante Reis nº 71, 1150-012 Lisbon, Portugal) |
| Abstract: | This paper investigates whether output and inflation respond asymmetrically to credit shocks in the euro area. The methodology, based on a non-linear VAR system, follows work by Balke (2000) for the US. The results reveal evidence of threshold effects related to credit conditions in the economy. Consistent with this finding, the impulse responses show some signs of asymmetric responses over the lending cycle. |
| Keywords: | Credit; euro area; asymmetric shocks; non-linearities. |
| JEL: | E51 C15 C32 |
| Date: | 2005–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050481&r=mon |
| By: | Marcin Przybyla (EU Countries Division, Directorate General Economics, European Central Bank, Kaiserstrasse 29, 60311 Frankfurt, Germany); Moreno Roma (Corresponding author: European Central Bank, Directorate General Economics, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany.) |
| Abstract: | In this paper we explore the link between the intensity of product market competition and inflation rates across EU countries and sectors. We consider long-term averages of inflation rates in order to remove the cyclical behavior of inflation over time and as alternative proxies of competition we use the level of mark-up, profit margin, the profit rate and a survey based “intensity of competition” variable. Results for both aggregate and sectoral panels show that the extent of product market competition, as proxied by the level of mark-up in particular, is an important driver of inflation. Notwithstanding some caveats associated with the measurement of the proxies of competition used, our findings suggest that higher product market competition reduces average inflation rates for a prolonged period of time. Moreover, results both at the aggregate and sectoral level are generally confirmed by a wide set of robustness tests. |
| Keywords: | Inflation; Competition; Estimation and Panel Data Analysis. |
| JEL: | C21 C23 E31 |
| Date: | 2005–03 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050453&r=mon |
| By: | Andrea Ferrero (Department of Economics, New York University, 269 Mercer Street – 7th floor, New York, NY 10003, USA) |
| Abstract: | This paper addresses the question of the joint conduct of fiscal and monetary policy in a currency union. The problem is studied using a two-country DSGE framework with staggered price setting, monopolistic competition in the goods market, distortionary taxation and nominal debt. The two countries form a currency union but retain fiscal policy independence. The policy problem can be cast in terms of a tractable linear-quadratic setup. The stabilization properties and the welfare implications of the optimal commitment plan are compared with the outcome obtained under simple implementable rules. The central result is that fiscal policy plays a key role to smooth appropriately the impact of idiosyncratic exogenous shocks. Fiscal rules that respond to a measure of real activity have the potential to approximate accurately the optimal plan and lead to large welfare gains as compared to balanced budget rules. Monetary policy shall focus on maintaining price stability. |
| Keywords: | Currency Union; Optimal Policy; Flexibility; Welfare. |
| JEL: | E63 F33 F42 |
| Date: | 2005–07 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050502&r=mon |
| By: | Leif Danziger |
| Abstract: | With fixed costs of price and quantity adjustment, output effects of inflation depend on the elasticity of the firm’s marginal real revenue. If the elasticity always exceeds minus unity, then output decreases with inflation, while if the elasticity is always less than minus unity, then output increases with inflation. In the special case that the elasticity always equals minus unity, then output is independent of inflation. This is the case if demand is derived from a log-quadratic utility function. |
| JEL: | E31 |
| Date: | 2005 |
| URL: | http://d.repec.org/n?u=RePEc:ces:ceswps:_1538&r=mon |
| By: | Andrew T. Levin (Federal Reserve Board, Stop 70,Washington, DC 20551 USA,); Jeremy M. Piger (Federal Reserve Bank of St. Louis, P.O. Box 442, St. Louis, MO 63166 USA,) |
| Abstract: | We apply both classical and Bayesian econometric methods to characterize the dynamic behavior of inflation for twelve industrial countries over the period 1984-2003, using four different price indices for each country. In particular, we estimate a univariate autoregressive (AR) model for each series, and consider the possibility of a structural break at an unknown date. For many of these countries, we find strong evidence for a break in the intercept of the AR equation in the late 1980s or early 1990s. Allowing for a break in intercept, the inflation measures generally exhibit relatively low inflation persistence. Evidently, high inflation persistence is not an inherent characteristic of industrial economies. |
| Keywords: | Inflation dynamics; Bayesian econometrics; Largest autoregressive root. |
| JEL: | C11 C22 E31 |
| Date: | 2004–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040334&r=mon |
| By: | Christian Ewerhart (Postal address for correspondence: Institute for Empirical Research in Economics, Winterthurerstrasse 30, CH-8006 Zurich, Switzerland;.); Nuno Cassola (European Central Bank, Kaiserstrasse 29, D-60311, Frankfurt am Main, Germany.); Steen Ejerskov; Natacha Valla |
| Abstract: | In certain market environments, a large investor may benefit from building up a futures position first and trading subsequently in the spot market (Kumar and Seppi, 1992). The present paper identifies a variation of this type of manipulation that might occur in money markets with an interest rate corridor. We show that manipulation involving the use of central bank facilities would be observable only sporadically. The probability of manipulation decreases when the central bank uses an active liquidity management. Manipulation can also be reduced by widening the interest rate corridor. |
| Keywords: | Money market; corridor system; manipulation. |
| JEL: | D84 E52 |
| Date: | 2004–10 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040399&r=mon |
| By: | Gabe de Bondt (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Benoit Mojon (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Natacha Valla (Banque de France, B.P. 140-01, 75049 Paris Cedex 01, France.) |
| Abstract: | This paper analyses the pricing of bank loans and deposits in euro area countries. We show that retail bank interest rates adjust not only to changes in short-term interest rates but also to long-term interest rates. This result, which is arguably intuitive for long-term retail bank rates, is also confirmed for bank interest rates on short-term instruments. The transmission of changes in short-term market interest rates along the yield curve is found to be a key factor explaining the sluggishness of retail bank interest rates. We also show that in the cases where we cannot reject that the adjustment of retail rates has changed since the introduction of the euro, this adjustment has become faster. |
| Keywords: | Retail bank interest rates; market interest rates; euro area countries. |
| JEL: | E43 G21 |
| Date: | 2005–09 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050518&r=mon |
| By: | Günter Coenen (Corresponding author: Directorate General Research, European Central Bank, Kaiserstrasse 29, D-60311, Frankfurt am Main, Germany.); Andrew T. Levin (Federal Reserve Board,Washington, DC 20551 USA) |
| Abstract: | We formulate a generalized price-setting framework that incorporates staggered contracts of multiple durations and that enables us to directly identify the influences of nominal vs. real rigidities. Using German macroeconomic data over the period 1975Q1 through 1998Q4 to estimate this framework, we find that the data is well-characterized by a truncated Calvostyle distribution with an average duration of about two quarters. We also find that new contracts exhibit very low sensitivity to marginal cost, corresponding to a relatively high degree of real rigidity. Finally, our results indicate that backward-looking behavior is not needed to explain the aggregate data, at least in an environment with a stable monetary policy regime and a transparent and credible inflation objective. |
| Keywords: | Overlapping contracts; nominal rigidity; real rigidity; inflation persistence; simulation-based indirect inference. |
| JEL: | E31 E52 |
| Date: | 2004–11 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040418&r=mon |
| By: | Carlos Robalo Marques (Bank of Portugal) |
| Abstract: | This paper addresses some issues concerning the definition and measurement of inflation persistence in the context of the univariate approach. First, it is stressed that any estimate of persistence should be seen as conditional on the given assumption for the long run level of inflation and that such long run level should be allowed to vary through time. Second, a non-parametric measure of persistence is suggested which explores the relation between persistence and mean reversion. Third, inflation persistence in the U.S. and the Euro Area is re-evaluated allowing for a time varying mean and it is found that estimates of persistence crucially depend on the function used to proxy the mean of inflation. In particular, the widespread belief that inflation has been more persistent in the sixties and seventies than in the last twenty years is shown to obtain only for the U.S. and for the special case of a constant mean. |
| Keywords: | Inflation persistence; univariate approach; time varying mean; mean reversion. |
| JEL: | E31 C22 E52 |
| Date: | 2004–06 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040371&r=mon |
| By: | Cyril Monnet (DG-Research, European Central Bank) |
| Abstract: | In this paper I show that a lax anti-counterfeiting policy is inconsistent with price stability. I use a deterministic matching model with no commitment and no enforcement. An intrinsically worthless but perfectly durable object called a ‘note’ can be produced by banks at a given cost, but also by nonbanks at a (possibly) higher cost. Counterfeiting occurs when nonbanks produce notes in equilibrium. When it is cheap for nonbanks to produce notes, or the technology used to detect counterfeits is poor, counterfeits are circulating in equilibrium and trade is only implemented with a growing stock of notes (thus creating inflation). Finally, I show that the highest welfare level is achieved when counterfeiting is costly, or when the detection of counterfeits is of high quality. |
| Keywords: | Counterfeiting; Inflation; Money; Limited Commitment. |
| JEL: | D8 E5 |
| Date: | 2005–08 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050512&r=mon |
| By: | Christopher Bowdler (Nuffield College New Road Oxford OX1 1NF, United Kingdom); Eilev S. Jansen |
| Abstract: | Equilibrium correction models of the price level are often used to model inflation. Such models assume that the long-run markup of prices over costs is fixed, but this may not be true for the Euro area economy, which has undergone major structural reforms over the last 25 years. We allow for shifts in the markup factor through estimating an equation that includes a timevarying intercept. The model fits the data better than a linear alternative, and suggests that a reduction in the price-cost markup contributed to disinflation in the Euro area during the 1980s. |
| Keywords: | Inflation; Price-cost markup; Cointegration; Time-varying intercept; Dynamic modelling. |
| JEL: | C22 C32 E31 |
| Date: | 2004–02 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040306&r=mon |
| By: | Mattias Villani (Sveriges Riksbank, Research Department, SE-103 37 Stockholm, Sweden, and Department of Statistics, Stockholm University.); Anders Warne (European Central Bank, Postfach 160319, 60311 Frankfurt am Main, Germany) |
| Abstract: | Structural VARs have been extensively used in empirical macroeconomics during the last two decades, particularly in analyses of monetary policy. Existing Bayesian procedures for structural VARs are at best confined to a severly limited handling of cointegration restrictions. This paper extends the Bayesian analysis of structural VARs to cover cointegrated processes with an arbitrary number of cointegrating relations and general linear restrictions on the cointegration space. A reference prior distribution with an optional small open economy effect is proposed and a Gibbs sampler is derived for a straightforward evaluation of the posterior distribution. The methods are used to analyze the effects of monetary policy in Sweden. |
| Keywords: | Structural; Vector autoregression; Monetary policy; Impulse responses; Counterfactual experiments. |
| JEL: | C11 C32 E52 |
| Date: | 2003–12 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20030296&r=mon |
| By: | Michel Beine; Paul De Grauwe; Marianna Grimaldi |
| Abstract: | In this paper we investigate the effects of central bank interventions (CBI) in a noise trading model with chartists and fundamentalists. We first estimate a model in which chartists extrapolate past returns and fundamentalists forecast a mean reverting dynamics of the exchange rate towards a fundamental value. Then, we investigate the role of central bank interventions in explaining the switching properties between the two types of agents. We find evidence that in the medium run, interventions increase the proportion of fundamentalists and therefore exert some stabilizing influence on the exchange rate. |
| JEL: | F31 F33 |
| Date: | 2005 |
| URL: | http://d.repec.org/n?u=RePEc:ces:ceswps:_1520&r=mon |
| By: | Ramón Adalid (Directorate General Statistics, European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany); Günter Coenen (Directorate General Research, European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany); Peter McAdam (Directorate General Research, European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany); Stefano Siviero (Economic Research Department, Banca d’Italia, Rome, Italy) |
| Abstract: | In this paper, we examine the performance and robustness of optimised interest-rate rules in four models of the euro area which differ considerably in terms of size, degree of aggregation, relevance of forward-looking behavioural elements and adherence to micro-foundations. Our findings are broadly consistent with results documented for models of the U.S. economy: backward-looking models require relatively more aggressive policies with at most moderate inertia; rules that are optimised for such models tend to perform reasonably well in forward-looking models, while the reverse is not necessarily true; and, hence, the operating characteristics of robust rules (i.e., rules that perform satisfactorily in all models) are heavily weighted towards those required by backward-looking models. |
| Keywords: | Macroeconomic modelling; model uncertainty; monetary policy rules; robustness; euro area. |
| JEL: | E31 E52 E58 E61 |
| Date: | 2005–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050479&r=mon |
| By: | Michael Ehrmann (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt, Germany); Marcel Fratzscher (European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany.); Roberto Rigobon (Massachusetts Institute of Technology, Cambridge MA 02142-1347, USA.) |
| Abstract: | The paper presents a framework for analyzing the degree of financial transmission between money, bond and equity markets and exchange rates within and between the United States and the euro area. We find that asset prices react strongest to other domestic asset price shocks, and that there are also substantial international spillovers, both within and across asset classes. The results underline the dominance of US markets as the main driver of global financial markets - US financial markets explain, on average, more than 25% of movements in euro area financial markets, whereas euro area markets account only for about 8% of US asset price changes. The international propagation of shocks is strengthened in times of recession, and has most likely changed in recent years - prior to EMU, the paper finds smaller international spillovers. |
| Keywords: | International financial markets; integration; transmission; financial market linkages; identification; heteroskedasticity; asset pricing; United States; euro area. |
| JEL: | E44 F3 C5 |
| Date: | 2005–03 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050452&r=mon |
| By: | Nicholai Benalal (European Central Bank, Directorate General Economics); Juan Luis Diaz del Hoyo (European Central Bank, Directorate General Economics); Bettina Landau (European Central Bank, Directorate General Economics); Moreno Roma (European Central Bank, Directorate General Economics); Frauke Skudelny (European Central Bank, Directorate General Economics) |
| Abstract: | In this paper we investigate whether the forecast of the HICP components (indirect approach) improves upon the forecast of overall HICP (direct approach) and whether the aggregation of country forecasts improves upon the forecast of the euro-area as a whole, considering the four largest euro area countries. The direct approach provides clearly better results than the indirect approach for 12 and 18 steps ahead for the overall HICP, while for shorter horizons the results are mixed. For the euro area HICP excluding unprocessed food and energy (HICPX), the indirect forecast outperforms the direct whereas the differences are only marginal for the countries. The aggregation of country forecasts does not seem to improve upon the forecast of the euro area HICP and HICPX. This result has however to be taken with caution as differences appear to be rather small and due to the limited country coverage. |
| Keywords: | Forecasting short-term inflation, HICP sub-components/aggregation, Bayesian VARs, Model Selection |
| JEL: | C11 C32 C53 E31 E37 |
| Date: | 2004–07 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040374&r=mon |
| By: | Alfred A. Haug (Department of Economics, York University); William G. Dewald (Ohio State University, Department of Economics.) |
| Abstract: | We study how fluctuations in money growth correlate with fluctuations in real and nominal output growth and inflation. We pick cycles from each time series that last 2 to 8 (business cycles) and 8 to 40 (longer-term cycles) years, using band-pass filters. We employ a data set from 1880 to 2001 for eleven countries, without gaps. Fluctuations in money growth do not play a systematic and important role at the business cycle frequency. However, money growth leads or contemporaneously affects nominal output growth and inflation in the longer run. This result holds despite differences in policies and institutions across countries. |
| Keywords: | Band-pass filters; 2 to 8 year cycles; 8 to 40 year cycles. |
| JEL: | E3 |
| Date: | 2004–08 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040382&r=mon |
| By: | Paul De Grauwe (Kathoelike Universiteit Leuven, International Economics, aamsestraat 69, 3000 Leuven, Belgium); Francesco Paolo Mongelli (European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany) |
| Abstract: | This paper brings together several strands of the literature on the endogenous effects of monetary integration, i.e., whether sharing a single currency may set in motion forces bringing countries closer together. The start of EMU has spurred a new interest in this debate. Four areas are analysed: the endogeneity of economic integration, in which we look primarily at evidence on prices and trade; the endogeneity of financial integration or equivalently of insurance schemes based on capital markets; the endogeneity of symmetry of shocks; and the endogeneity of product and labour market flexibility. We present diverse arguments and, where possible, explore the incipient empirical literature focussing on the euro area. Our preliminary conclusion is one of moderate optimism. The different endogeneities that exist in the dynamics towards optimum currency areas are at work. How strong these endogeneities are and how quickly they will do their work remains to be seen. |
| Keywords: | Optimum Currency Area; Economic and Monetary Integration; EMU. |
| JEL: | E42 F13 F33 F42 |
| Date: | 2005–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050468&r=mon |
| By: | Michael Ehrmann (European Central Bank); Marcel Fratzscher (European Central Bank) |
| Abstract: | This paper analyses the link between economic fundamentals and exchange rates by investigating the importance of real-time data. We find that such economic news in the United States, Germany and the euro area have indeed been a driving force behind daily US dollar – euro/DEM exchange rate developments in the period 1993-2003. The larger importance of US macroeconomic news is at least partly explained by their earlier release time compared to corresponding German and euro area news. The exchange rate is also shown to respond more strongly to news in periods of large market uncertainty and when negative or large shocks occur. Overall, the model based on real-time data is capable of explaining about 75% of the monthly directional changes of the US dollar-euro exchange rate, although it does not explain well the magnitude of the exchange rate changes. |
| Keywords: | exchange rates; fundamentals; announcements; news; real-time data; United States; euro area; interdependence; US dollar euro; EMU. |
| JEL: | F31 F42 E52 |
| Date: | 2004–05 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040365&r=mon |
| By: | Pierpaolo Benigno (New York University, Department of Economics, 269 Mercer Street, New York, NY 10003, USA.); Michael Woodford (Columbia University, Department of Economics, 420 W. 118th Street, New York, NY 10027, USA.) |
| Abstract: | We propose an integrated treatment of the problems of optimal monetary and fiscal policy, for an economy in which prices are sticky and the only available sources of government revenue are distorting taxes. Our linear-quadratic approach allows us to nest both conventional analyses of optimal monetary stabilization policy and analyses of optimal tax-smoothing as special cases of our more general framework. We show how a linear-quadratic policy problem can be derived which yields a correct linear approximation to the optimal policy rules from the point of view of the maximization of expected discounted utility in a dynamic stochastic general-equilibrium model. Finally, we derive targeting rules through which the monetary and fiscal authorities may implement the optimal equilibrium. |
| Keywords: | Loss function, output gap, tax smoothing, targeting rules. |
| JEL: | E52 E61 E63 |
| Date: | 2004–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040345&r=mon |
| By: | Paul McNelis (Department of Economics, Georgetown University,Washington, DC 20057); Peter McAdam (European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt/Main, Germany.) |
| Abstract: | This paper applies linear and neural network-based “thick” models for forecasting inflation based on Phillips–curve formulations in the USA, Japan and the euro area. Thick models represent “trimmed mean” forecasts from several neural network models. They outperform the best performing linear models for “real-time” and “bootstrap” forecasts for service indices for the euro area, and do well, sometimes better, for the more general consumer and producer price indices across a variety of countries. |
| Keywords: | Neural Networks; Thick Models; Phillips curves; real-time forecasting; bootstrap. |
| JEL: | C12 E31 |
| Date: | 2004–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040352&r=mon |
| By: | Robert-Paul Berben (Monetary and Economic Policy Department, Bank of the Netherlands,Westeinde 1, P.O. Box 98, 1017 ZN Amsterdam, NL.); Ricardo Mestre (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Julian Morgan (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Theodoros Mitrakos (Bank of Greece, 21 E.Venizelos Avenue, 10250 Athens, Greece.); Nikolaos G. Zonzilos (Bank of Greece, 21 E.Venizelos Avenue, 10250 Athens, Greece.) |
| Abstract: | This paper analyses the response of inflation in the euro area to five macroeconomic shocks through the use of results derived from Eurosystem large-scale macroeconomic models. The main finding is that only a fiscal shock, and to a lesser extent a TFP shock, generate marked inflation persistence. In contrast, an indirect tax and an oil price shock appear much less persistent and a social security shock generates less inflation persistence in the majority of the countries (although some weak persistence was observed at the euro area level). The paper also considers evidence on the sources of persistence, which indicates that it is crucially affected by the responsiveness of wages to employment, by the sluggishness in the adjustments of the demand components, and by the speed of adjustment of employment to output and wage changes. |
| Keywords: | Inflation persistence; large-scale macroeconomic models; impulse response function. |
| JEL: | C53 E31 E52 |
| Date: | 2005–09 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050521&r=mon |
| By: | Michael Ehrmann (European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt/Main, Germany;); Marcel Fratzscher (European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt/Main, Germany;) |
| Abstract: | This paper analyses the effects of US monetary policy on stock markets. We find that, on average, a tightening of 50 basis points reduces returns by about 3%. Moreover, returns react more strongly when no change had been expected, when there is a directional change in the monetary policy stance and during periods of high market uncertainty. We show that individual stocks react in a highly heterogeneous fashion and relate this heterogeneity to financial constraints and Tobin's q. First, we show that there are strong industry-specific effects of US monetary policy. Second, we find that for the individual stocks comprising the S&P500 those with low cashflows, small size, poor credit ratings, low debt to capital ratios, high price-earnings ratios or high Tobin's q are affected significantly more. The use of propensity score matching allows us to distinguish between firmand industry-specific effects, and confirms that both play an important role. |
| Keywords: | monetary policy; stock market; credit channel; Tobin’s q; financial constraints; S&P500; propensity score matching. |
| JEL: | G14 E44 E52 |
| Date: | 2004–05 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040354&r=mon |
| By: | Astrid Van Landschoot (National Bank of Belgium and Ghent University.) |
| Abstract: | In this paper, we investigate the determinants of the Euro term structure of credit spreads. More specifically, we analyze whether the sensitivity of credit spread changes to financial and macroeconomic variables depends on bond characteristics such as rating and maturity. According to the structural models and empirical evidence on credit spreads, we find that changes in the level and the slope of the default-free term structure, the market return, implied volatility, and liquidity risk significantly influence credit spread changes. The effect of these factors strongly depends on bond characteristics, especially the rating and to a lesser extent the maturity. Bonds with lower ratings are more affected by financial and macroeconomic news. Furthermore, we find that liquidity risk significantly increases credit spreads, especially on lower rated bonds. |
| Keywords: | Credit risk; Structural models; Nelson-Siegel. |
| JEL: | C22 E47 G15 |
| Date: | 2004–10 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040397&r=mon |
| By: | Andreas Beyer (European Central Bank, Kaiserstr. 29, D-60311 Frankfurt am Main, Germany); Roger E. A. Farmer (UCLA, Dept. of Economics, 8283 Bunche Hall, Box 951477, Los Angeles, CA 90095-147,USA) |
| Abstract: | We study identification in a class of three-equation monetary models. We argue that these models are typically not identified. For any given exactly identified model, we provide an algorithm that generates a class of equivalent models that have the same reduced form. We use our algorithm to provide four examples of the consequences of lack of identification. In our first two examples we show that it is not possible to tell whether the policy rule or the Phillips curve is forward or backward looking. In example 3 we establish an equivalence between a class of models proposed by Benhabib and Farmer [1] and the standard new-Keynesian model. This result is disturbing since equi- libria in the Benhabib-Farmer model are typically indeterminate for a class of policy rules that generate determinate outcomes in the new-Keynesian model. In example 4, we show that there is an equivalence between determi- nate and indeterminate models even if one knows the structural equations of the model. |
| Keywords: | Identification; Indeterminacy; Transparency; New-Keynesian model. |
| JEL: | C39 C62 D51 E52 E58 |
| Date: | 2004–03 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040323&r=mon |
| By: | Attila Rátfai (Central European University, Department of Economics) |
| Abstract: | By placing store-level price data into bivariate Structural VAR models of inflation and relative price asymmetry, this study evaluates the quantitative importance of idiosyncratic pricing shocks in short-run aggregate price change dynamics. Robustly to alternative definitions of the relative price, identification schemes dictated by two-sided (S,s) pricing theory and measures of asymmetry in the relative price distribution, idiosyncratic shocks explain about 25 to 30 percent of the forecast error variance in inflation at the 12-month horizon. While the contemporaneous correlation between inflation and relative price asymmetry is positive, idiosyncratic shocks lead to a substantial build-up in inflation only after two to five months following the initial disturbance. |
| Keywords: | (S,s) Pricing, Relative Price, Inflation, Structural VAR |
| JEL: | E31 |
| Date: | 2004–01 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040301&r=mon |
| By: | Huw Dixon (Corresponding author: Department of Economics and Related Studies, University of York, York, YO10 5DD, United Kingdom); Engin Kara (Department of Economics and Related Studies, University of York, York, YO10 5DD, United Kingdom) |
| Abstract: | In this paper we develop the Generalized Taylor Economy (GTE) in which there are many sectors with overlapping contracts of different lengths. In economies with the same average contract length, monetary shocks will be more persistent when longer contracts are present. We are able to solve the puzzle of why Calvo contracts appear to be more persistent than simple Taylor contracts: it arises because of the distribution of contract lengths. When we choose a GTE with the same distribution of completed contract lengths as the Calvo, the economies behave in a similar manner. |
| Keywords: | Persistence; Taylor contract; Calvo. |
| JEL: | E50 E24 E32 E52 |
| Date: | 2005–05 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20050489&r=mon |
| By: | Charles Goodhart |
| Abstract: | No abstract available. |
| Date: | 2005–10 |
| URL: | http://d.repec.org/n?u=RePEc:fmg:fmgdps:dp546&r=mon |
| By: | Eilev S. Jansen (Norges Bank, Norwegian University of Science and Technology) |
| Abstract: | The paper presents an incomplete competition model (ICM), where inflation is determined jointly with unit labour cost growth. The ICM is estimated on data for the Euro area and evaluated against existing models, i.e. the implicit inflation equation of the Area Wide model (AWM) - cf. Fagan, Henry and Mestre (2001) - and estimated versions of the (single equation) P* model and a hybrid New Keynesian Phillips curve. The evidence from these comparisons does not invite decisive conclusions. There is, however, some support in favour of the (reduced form) AWM inflation equation. It is the only model that encompasses a general unrestricted model and it forecast encompasses the competitors when tested on 20 quarters of one step ahead forecasts. |
| Keywords: | Bayesian Analysis; DSGE Models; Model Misspecification. |
| JEL: | C32 |
| Date: | 2004–03 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20040322&r=mon |