nep-mon New Economics Papers
on Monetary Economics
Issue of 2005‒10‒15
fourteen papers chosen by
Bernd Hayo
Philipps-University Marburg

  1. The Mystic of Central Bank Speak By Petra M. Geraats
  2. Optimal Monetary Policy Rules in A Simple Stochastic Macro Model: China's Evidence By Shengzu Wang; Shen Guo
  3. "The Bank of Japan's Monetary Policy and Bank Risk Premiums in the Money Market" By Naohiko Baba; Motoharu Nakashima; Yousuke Shigemi; Kazuo Ueda
  4. Evaluating a Central Bank’s Recent Forecast Failure By Nymoen, Ragnar
  5. Optimal Monetary Policy Rules from a Timeless Perspective By Tatiana Damjanovic; Vladislav Damjanovic; Charles Nolan
  6. "The Bank of Japan's Struggle with the Zero Lower Bound on Nominal Interest Rates: Exercises in Expectations Management" By Kazuo Ueda
  7. "Monetary Shocks in a Model with Loss of Skills" By Julen Esteban Pretel; Elisa Faraglia
  8. "Interaction between Monetary and Fiscal Policy and the Policy Mix, Theoretical Consideration and Japanese Experience" By Yasushi Iwamoto
  9. Fiscal Hedging and the Yield Curve By Hanno Lustig; Christopher Sleet; Sevin Yeltekin
  10. ASEAN Monetary Cooperationation: Issues and Prospects By Arief Ramayandi
  11. Modern Forecasting Models in Action: Improving Macroeconomic Analyses at Central Banks By Adolfson, Malin; Andersson, Michael K.; Lindé, Jesper; Villani, Mattias; Vredin, Anders
  12. Vulnerability to Shocks in EMU: 1991-2004 By Carmen Díaz-Roldán; Oscar Bajo-Rubio
  13. Exchange Rate Pass-through in a Small Open Economy By Pål Boug, Ådne Cappelen and Torbjørn Eika
  14. Currency crises in Asia: A multivariate logit approach By Jacobs, Jan P.A.M.; Kuper, Gerard H.; Lestano

  1. By: Petra M. Geraats
    Abstract: Despite the recent trend towards greater transparency of monetary policy, in many respects central bankers still prefer to speak with mystique. This paper shows that the resulting perception of ambiguity could be desirable. Under the plausible assumption that there is imperfect common knowledge about the degree of central bank transparency, economic outcomes are affected by both the actual and perceived degree of transparency. It is shown that actual transparency is beneficial but that it may be useful to create the perception of opacity. The optimal communication strategy for the central bank is to provide clarity about the inflation target and to communicate information about the output target and supply shocks with perceived ambiguity. In this respect, the central bank benefits from sustaining transparency misperceptions, which helps to explain the mystique of central bank speak.
    Keywords: Transparency, monetary policy, communication, transparency misperceptions.
    JEL: E52 E58 D82
    Date: 2005–10
  2. By: Shengzu Wang (McGill University); Shen Guo (Concordia University)
    Abstract: In this paper we apply a simple macro model to explore and evaluate certain optimal monetary policy rules for China's economy. To be more consistent with the central bank (the People's Bank of China)'s behaviour, we use money supply as a monetary policy instrument rather than the commonly used interest rate. Policy rules are optimal in terms of minimizing the predetermined loss functions, and the parameters of these rules are determined by stochastic simulation. Different forms of policy rule and loss function are considered, especially for exchange rate volatility and money supply volatility. The optimality of monetary policy rules is evaluated by comparing the shifts of policy frontiers.
    Keywords: Monetary Policy Rule, Loss Function, Stochastic Simulation, Policy Frontier, China
    JEL: C15 E47 E52
    Date: 2005–10–08
  3. By: Naohiko Baba (Financial Markets Department and Institute for Monetary and Economics Studies, Bank of Japan); Motoharu Nakashima (Financial Markets Department, Bank of Japan); Yousuke Shigemi (Secretariat of the Policy Board); Kazuo Ueda (Faculty of Economics, University of Tokyo)
    Abstract: Using the interest rates on Negotiable Certificate of Deposit issued by individual banks, we first show that under the Bank of Japan's Zero Interest Rate Policy and Quantitative Monetary Easing Policy, not just the levels of money market rates but also the dispersion of rates across banks have fallen to near zero. We next show that the fall in the dispersion of the rates is not fully explained by a fall in the dispersion of credit ratings of the banks. We also present some evidence on the role of the Bank of Japan's monetary policy in reducing risk premiums.
    Date: 2005–09
  4. By: Nymoen, Ragnar (Dept. of Economics, University of Oslo)
    Abstract: Failures are not rare in economic forecasting, probably due to the high incidence of shocks and regime shifts in the economy. Thus, there is a premium on adaptation in the forecast process, in order to avoid sequences of forecast failure. This paper evaluates a sequence of inflation forecasts in the Norges Bank Inflation Report, and we present automatized forecasts which are unaffected by forecast failure. One conclusion is that the Norges Bank fan-charts are too narrow, giving an illusion of very precise forecasts. The automatized forecasts show more adaptation once shocks have occurred than is the case for the official forecasts. On the basis of the evidence, the recent inflation forecast failure appears to have been largely avoidable. The central bank’s understanding of the nature of the transmission mechanism and of the strenght and nature of the disinflationly shock that hit the economy appear to have played a major role in the recent forecast failure.
    Keywords: Inflation forecasts; Monetary policy; Forecast uncertainty; Fan-charts; Structural change; Econometric models.
    JEL: C32 C53 E37 E44 E47 E52 E58
    Date: 2005–08–10
  5. By: Tatiana Damjanovic; Vladislav Damjanovic; Charles Nolan
    Abstract: The timelessly optimal monetary policy proposed by Woodford (2003) may be dominated by alternative timeless policies. We provide a formal justification for these alternative policies. We demonstrate why discount rates do not matter and establish that optimizing over the unconditional expectation of the policy criterion function recovers these alternative strategies.
    Keywords: Time consistency, unconditional expectation, timeless perspective, optimal monetary policy.
    JEL: C61 E30 E52 E58 E61
    Date: 2005–10
  6. By: Kazuo Ueda (Faculty of Economics, University of Tokyo)
    Abstract: This paper reviews and evaluates the Bank of Japan (BOJ)'s monetary policy during the period 1998-2005. In doing so, it pays particular attention to the development of academic thinking on what central banks can do at or near zero interest rates and its relationship with the actual policy measures adopted by the BOJ. The paper argues that the BOJ has done most of the things recommended by academic economists. The most important of these is expectations management as crystallized in the so-called zero interest rate policy. The academic origin of this policy can be found in the seminal work of Krugman. The paper points out, however, that this fact, unfortunately, remained unnoticed by many, and explores reasons behind. The paper then goes on to survey the empirical literature on the effects of the measures adopted by the BOJ. The literature has found that the zero interest rate policy has had significant effects on the term structure of interest rates and supported the economy. Finally, the paper discusses possible reasons for the failure of such measures to stop the deflation of the economy within a short period of time. It points out some difficulties inherent in the expectations management approach and problems created by the impaired financial system.
    Date: 2005–09
  7. By: Julen Esteban Pretel (Faculty of Economics, University of Tokyo); Elisa Faraglia (London Business School)
    Abstract: This paper studies the effects of a monetary shock on real and nominal variables, such as output, inflation and especially unemployment, within a framework which combines a New Keynesian business cycle model model with microfounded labor market in the style of the search and matching literature. We assume that unemployed workers can lose their skill over time and show that this mechanism helps explain the slugish response of unemployment to monetary shocks observed in the data, while also replicating the behavior of output, inflation and employment.
    Date: 2005–09
  8. By: Yasushi Iwamoto (Faculty of Economics, University of Tokyo)
    Abstract: Interactions between monetary and fiscal policy depend on the specification of policy variables that fiscal policy uses. However, a general rule is that when monetary policy is capable of dealing with sticky price adjustment, a primary concern of fiscal authority should be to remedy the resource allocation. My regression study using cross-country data shows that in a majority of OECD countries fiscal policy relies on the automatic stabilizer. Japan is a unique case in that it relies heavily on discretionary fiscal policy. However, Japanese policymakers have recently changed their thinking regarding fiscal policy.
    Date: 2005–09
  9. By: Hanno Lustig; Christopher Sleet; Sevin Yeltekin
    Abstract: We identify a novel, fiscal hedging motive that helps to explain why governments issue more expensive, long-term debt. We analyze optimal fiscal policy in an economy with distortionary labor income taxes, nominal rigidities and nominal debt of various maturities. The government in our model can smooth labor tax rates by changing the real return it pays on its outstanding liabilities. These changes require state contingent inflation or adjustments in the nominal term structure. In the presence of nominal pricing rigidities and a cash in advance constraint, these changes are themselves distortionary. We show that long term nominal debt can help a government hedge fiscal shocks by spreading out and delaying the distortions associated with increases in nominal interest rates over the maturity of the outstanding long-term debt. After a positive spending shock, the government raises the yield curve and steepens it.
    JEL: E4 E6 G1
    Date: 2005–10
  10. By: Arief Ramayandi (AJRC - Australia-Japan Research Centre)
    Abstract: Among other things, the 1997–98 East Asian financial crisis has led to questioning within the Association of Southeast Asian Nations (ASEAN) about whether the region needs a common currency. This paper aims to discuss the underlying economic issues and prospects, from both a theoretical and a practical point view. The analysis focuses only on the five largest ASEAN nations. Standard criteria suggested by the theory of Optimal Currency Areas are reviewed and applied to the region. The paper then provides a discussion on possible steps that can be pursued to realise currency union.
    Keywords: East Asian Financial crisis, monetary cooperation, ASEAN, Optimal Currency Areas, currency union
    JEL: E42 E52 E61
    Date: 2005–06
  11. By: Adolfson, Malin (Research Department, Central Bank of Sweden); Andersson, Michael K. (Monetary Policy Department, Central Bank of Sweden); Lindé, Jesper (Research Department, Central Bank of Sweden); Villani, Mattias (Research Department, Central Bank of Sweden); Vredin, Anders (Monetary Policy Department, Central Bank of Sweden)
    Abstract: There are many indications that formal methods based on economic research are not used to their full potential by central banks today. For instance, Christopher Sims published a review in 2002 where he argued that central banks use models that ”are now fit to data by ad hoc procedures that have no grounding in statistical theory”. There is no organized resistance against formal models at central banks, but the proponents of such models have not always been able to present convincing evidence of the models’ advantages. In this paper we demonstrate how BVAR and DSGE models can be used to shed light on questions that policy makers deal with in practice. We compare the forecast performance of BVAR and DSGE models with the Riksbank’s official, more subjective forecasts. We also use the models to interpret the low inflation rate in Sweden in 2003 - 2004.
    Keywords: Bayesian inference; DSGE models; Forecasting; Monetary policy; Subjective forecasting; Vector autoregressions
    JEL: E37 E47 E52
    Date: 2005–09–01
  12. By: Carmen Díaz-Roldán; Oscar Bajo-Rubio
    Abstract: In this paper we analyze the nature of the shocks hitting the EMU member countries over the period 1991-2004, as well as for the two subperiods before and after 1999, i.e., the start of EMU. To this end, we first evaluate the relative importance of symmetric vs. asymmetric shocks, and then extract their temporary component. Our final aim would be assessing the vulnerability of the EMU countries to temporary and asymmetric shocks, which would be the most harmful case for the operation of a monetary union.
  13. By: Pål Boug, Ådne Cappelen and Torbjørn Eika (Statistics Norway)
    Abstract: Several small open economies switched to inflation targeting during the 1990s, thereby giving up various forms of exchange rate targeting in favour of flexible exchange rates. Norway did the same early in 2001, and has thereafter experienced highly varying nominal exchange rates with consumer price inflation dropping far below the target during 2003 and 2004. Knowledge of the degree of exchange rate pass-through to import prices and further to consumer prices is essential for inflation targeting. The literature suggests that pass-through is greater to import prices than to consumer prices, which presumably is related to the role of distributors in the economy. We present empirical evidence on these issues for Norway by estimating import price equations and a dynamic model of the distributors pricing behaviour. Using a large-scale macroeconometric model of the Norwegian economy, we find exchange rate pass-through to import prices to be quite rapid in the short run, while pass-through to consumer prices seems to be modest. We show that, among the numerous channels through which the exchange rate operate, trade margins in the distribution sector act as cushions to exchange rate fluctuations, thereby being one of the main important source for the delay in pass-through. In spite of moderate pass-through to consumer prices, we find inflationary effects of exchange rate changes even in the short run, an insight important for inflation targeting central banks.
    Keywords: Exchange rate pass-through; pricing behaviour; the distribution sector; econometric modelling and macroeconomic analysis
    JEL: C51 C52 E31 F31
    Date: 2005–06
  14. By: Jacobs, Jan P.A.M.; Kuper, Gerard H.; Lestano (Groningen University)
    Abstract: Indicators of financial crisis generally do not have a good track record. This paper presents an early warning system (EWS) for six countries in Asia in which indicators do work. Our binary choice model, which has been estimated for the period 1970:01–2001.12, has the following features. We extract a full list of currency crisis indicators from the literature, apply factor analysis to combine the indicators, and introduce dynamics. The quality of the EWS is assessed both in-sample and out-of-sample. We find that money growth (M1 and M2), national savings, and import growth correlate with currency crises.
    Date: 2005

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