nep-mon New Economics Papers
on Monetary Economics
Issue of 2007‒03‒10
twenty-six papers chosen by
Bernd Hayo
Philipps-University Marburg

  1. Inflation Expectations and Learning about Monetary Policy By David Andolfatto; Scott Hendry; Kevin Moran
  2. Money, Inflation, and Growth in Pakistan By Qayyum, Abdul
  3. Currency substitution in a de-dollarizing economy: The case of Russia By Harrison , Barry; Vymyatnina, Yulia
  4. A policy-sensible core-inflation measure for the euro area By Stefano Siviero; Giovanni Veronese
  5. Optimal Monetary Policy with Imperfect Common Knowledge By Klaus Adam
  6. The Great Inflation and Early Disinflation in Japan and Germany By Nelson, Edward
  8. Does inflation targeting matter? By Laurence Ball; Niamh Sheridan
  9. Staggered wages, inflation, and discounting By Bonini, Patricia; Da Silva, Sergio
  10. Central Bank's Action and Communication By Baeriswyl, Romain
  11. The economic impact of central bank transparency: a survey By Carin van der Cruijsen; Sylvester Eijffinger
  12. Firm Size and Monetary Policy Transmission: A Theoretical Model on the Role of Capital Investment Expenditures By Katharina Raabe; Ivo Arnold; Clemens Kool
  13. Information variables for monetary policy in a small structural model By Francesco Lippi; Stefano Neri
  14. The Optimum Quantity of Money Revisited: Distortionary Taxation in a Search Model of Money By Ritter, Moritz
  15. Speculative hyperinflations: when can we rule them out? By Óscar J. Arce
  16. Latin American foreign exchange intervention - Updated By Da Silva, Sergio; Nunes, Mauricio
  17. Public and Private Information in Monetary Policy Models By Jeffery D. Amato; Hyun Song Shin
  18. Expectations and the Effects of Money Illusion By Ernst Fehr; Jean-Robert Tyran
  19. Central Bank Communication and Output Stabilization By Marco Hoeberichts; Mewael Tesfaselassie; Sylvester Eijffinger
  20. An "almost-too-late" warning mechanism for currency crises By Crespo Cuaresma, Jesýs; Slacik, Tomas
  21. Have real interest rates really fallen that much in Spain? By Roberto Blanco; Fernando Restoy
  22. Threshold dynmamics of short-term interest rates : empirical evidence and implications for the term structure By Archontakis, Theofanis; Lemke, Wolfgang
  23. Fertility` Money Holdings` and Economic Growth: Evidence from Ukraine By Svitlana Maksymenko
  24. A Bayesian Framework for the Expectations Hypothesis. How to Extract Additional Information from the Term Structure of Interest Rates By Andrea Carriero
  25. Inflation, Price Dispersion, and Market Structure By Mustafa Caglayan; Alpay Filiztekin; Michael T. Rauh
  26. Inflation and Finance: Evidence from Brazil By Manoel F. Bittencourt

  1. By: David Andolfatto; Scott Hendry; Kevin Moran
  2. By: Qayyum, Abdul
    Abstract: This paper attempts to investigate the linkage between the excess money supply growth and inflation in Pakistan and to test the validity of the monetarist stance that inflation is a monetary phenomenon. The results from the correlation analysis indicate that there is a positive association between money growth and inflation. The money supply growth at first-round affects real GDP growth and at the second round it affects inflation in Pakistan. The important finding from the analysis is that the excess money supply growth has been an important contributor to the rise in inflation in Pakistan during the study period, thus supporting the monetarist proposition that inflation in Pakistan is a monetary phenomenon. This may be due to the loose monetary policy adopted by the State Bank of Pakistan to show the high priority of the growth objective. The important policy implication is that inflation in Pakistan can be cured by a sufficiently tight monetary policy. The formulation of monetary policy must consider development in the real and financial sector and treat these sectors as constraints on the policy.
    Keywords: Money Supply; Inflation; Growth; Quantity Theory; Monetary Policy; Pakistan
    JEL: E31
    Date: 2006
  3. By: Harrison , Barry (BOFIT); Vymyatnina, Yulia (BOFIT)
    Abstract: Currency substitution, the use of foreign money to finance transactions between domestic residents, is a common feature of emerging market economies. Currency substitution re-duces the stability of money demand functions in ways that can seriously undermine cen-tral bank credibility and its efforts to implement monetary policy. Most transition econo-mies, including Russia, experienced widespread currency substitution in the early phase of transition. Following Russia’s financial meltdown in 1998, its monetary authorities intro-duced a raft of changes that substantially improved the stability and performance of the macroeconomy and reduced currency substitution. This paper investigates currency substi-tution in the Russian economy in the post-crisis period of 1999–2005. Several measures of currency substitution and different modelling frameworks consistently suggest an on-going decline in currency substitution, a shift that has important implications for Russian mone-tary policy.
    Keywords: currency substitution; transition economies; de-dollarization
    JEL: E58 F31 F41
    Date: 2007–03–02
  4. By: Stefano Siviero (Banca d'Italia); Giovanni Veronese (Banca d'Italia)
    Abstract: Although the concept of core inflation is apparently well defined and intuitively appealing, its practical usefulness has often been questioned on at least two accounts: first, existing core inflation measures are by and large exclusively based on statistical criteria and thus lack a firm theoretical justification; second, there appears to be no generally accepted and plausible criterion to assess the empirical performance of competing measures. Both criticisms are indeed justified. In this paper we propose an approach to build a benchmark measure of core inflation that aims to overcome those drawbacks. Our measure is based on a criterion that explicitly treats core inflation as a wholly artificial concept whose usefulness rests only on its role in defuse inflationary pressures that may be in the pipeline. Our measure is obtained by conveniently combining disaggregate information coming from price sub-indices, as is the case for the most popular core inflation measures. However, we depart from all other approaches by combining the information available in price sub-indices in such a way so as to provide the best guidance to a forward-looking monetary policy-maker. Accordingly, our measure of core inflation is based on the solution of a standard monetary policy optimisation problem. We illustrate our approach using a simple estimated model of the euro-area economy and appraise the performance of a few of the most popular core inflation measures in use. We find, generally speaking, that one cannot recommend that those measures be used to support monetary policy-making.
    Keywords: core inflation, optimal monetary policy rules, Eurosystem
    JEL: C53 E52
  5. By: Klaus Adam
  6. By: Nelson, Edward
    Abstract: This paper considers the Great Inflation of the 1970s in Japan and Germany. From 1975 onward these countries had low inflation relative to other large economies. Traditionally, this success is attributed to stronger discipline on the part of Japan and Germany’s monetary authorities - for example, more willingness to accept temporary unemployment, or stronger determination not to monetize government deficits. I instead attribute the success of these countries from the mid-1970s to their governments’ and monetary authorities’ acceptance that inflation is a monetary phenomenon. Their higher inflation in the first half of the 1970s is attributable to the fact that their policymakers over this period embraced non-monetary theories of inflation.
    Keywords: Germany; Great Inflation; incomes policy; Japan; monetary targeting
    JEL: E52 E58 E64 E65
    Date: 2007–03
  7. By: Oscar Mauricio Valencia
    Abstract: This paper explores the welfare effects of a reduction in the inflation rates in an environment of incomplete markets. We built a dynamic heterogeneous agent model that features idiosyncratic risks in the labor supply and liquidity frictions. The model shows that a disinflation policy results in an income reallocation among debtors and lenders. The changes in the capital returns conveys variations in the precautionary savings and hence, an intertemporal redistribution of wealth and income. The welfare implications are develop according to the incomplete market features and the money plays a role of smoothing consumption when the agents faces income variability without state contingent insurance. The model is calibrated for the Colombian economy in such a way that disinflation episodes are replicated. Early results show that the disinflation monetary policy leads to improvements of liquidity in the economy because the money holdings are used by the agents for wealth transfer over time. This paper shows quantitative evidence in which disinflation facts are associated with increments in the average real money holdings and average consumption. In addition, the volatility of consumption is reduced as the inflation rate falls, while the volatility of money holdings increases (i.e. precautionary demand for money balance).
    Date: 2006–10–15
  8. By: Laurence Ball; Niamh Sheridan
  9. By: Bonini, Patricia; Da Silva, Sergio
    Abstract: In the literature of staggered wages (Taylor, 1979, 1980; Blanchard, 1986; Ball and Cecchetti, 1991) the discount factor is neglected in the workers’ loss function. Yet discounting is to be viewed as an extra piece of micro-foundation with implications for discretionary monetary policy. We revisit the issue and show that discounting in the model of staggered wages actually lowers the time consistent steady inflation.
    Keywords: Staggered wage model; Time consistent steady inflation; Discounting
    JEL: E52 E31 E12
    Date: 2007
  10. By: Baeriswyl, Romain
    Abstract: This paper contributes to the ongoing debate about the welfare effect of public information. In an environment characterized by imperfect common knowledge and strategic complementarities, Morris and Shin (2002)argue that noisy public information may be detrimental to welfare because public information is attributed too large a weight relative to its face value since it serves as a focal point. While this argument has received a great deal of attention in central banks and in the financial press, it considers communication as the sole task of a central bank and ignores that communication usually goes with a policy action. This paper accounts for the action task of a central bank and analyzes whether public disclosure is beneficial in the conduct of monetary policy when the central bank primarily tries to stabilize the economy with an instrument that is optimal with respect to its perhaps mistaken view. In this context, it turns out that transparency is particularly beneficial when central bank’s information is poorly accurate because it helps reducing the distortion associated with badly suited policies.
    Keywords: differential information; monetary policy; transparency
    JEL: D82 E52 E58
    Date: 2006
  11. By: Carin van der Cruijsen; Sylvester Eijffinger
    Abstract: We provide an up-to-date overview of the literature on the desirability of central bank transparency from an economic viewpoint. Since the move towards more transparency, a lot of research on its e¤ects has been carried out. First, we show how the theoretical literature has evolved, by looking into branches inspired by Cukierman and Meltzer (1986) and by investigating several, more recent, research strands (e.g. coordination and learning). Then, we summarize the empirical literature which has been growing more recently. Last, we discuss whether: - the empirical research resolves all theoretical question marks, -how the endings of the literature match the actual practice of central banks, and - where there is scope for more research.
    Keywords: Central Bank Transparency; Monetary Policy; Surve
    JEL: E31 E52 E58
    Date: 2007–02
  12. By: Katharina Raabe; Ivo Arnold; Clemens Kool
    Abstract: This paper presents a dynamic investment model that explains differences in the sensitivity of small- and large-sized firms to changes in the money market interest rate. In contrast to existing studies on the firm size effects of monetary policy, the importance of firms as monetary transmission channel does not originate from credit market imperfections, but from size-related differences in the degree of investment irreversibility. The degree of investment irreversibility is determined by sunk capital investment expenditures. We show that size-related differences in sunk investment expenditures have two interdependent effects: they (i) affect the optimal investment behavior of small- and large-sized firms and (ii) account for differences in the interest rate sensitivity of small- and large-firm investment. We illustrate that sunk investment expenditures affect the region of zero and non-zero investment activity and, hence, the frequency at which large and small firms change investment regimes. Furthermore, sunk investment costs determine the extent to which small- and large-firm investment displays discrete jumps. We find that large firms change investment regimes less frequently than small firms and that swings in investment are more accentuated for large than for small firms. We illustrate that the response of small- and large-firm investment to monetary policy actions depends on the magnitude of the monetary policy shock.
    Keywords: Monetary Policy Transmission, Market Structure, Investment, Investment Irreversibility
    JEL: E22 E52 L22
    Date: 2006–09
  13. By: Francesco Lippi; Stefano Neri
  14. By: Ritter, Moritz
    Abstract: This paper incorporates a distortionary tax into the microfoundations of money framework and revisits the optimum quantity of money. An optimal policy may consist of both a positive tax rate and a positive nominal interest rate: if the buyer’s surplus share is inefficiently small, the intensive margin is distorted and the constrained optimal policy combines a sales tax with a money growth rate above that prescribed by the Friedman rule. Monetary, but not fiscal, policy alters the agent’s bargaining position, leaving a special role for a deviation from the Friedman rule. Under similar conditions, this conclusion carries over to competitive pricing.
    Keywords: Money; Search; Friedman Rule; Sales Tax
    JEL: H21 E63 E62
    Date: 2007–02–27
  15. By: Óscar J. Arce (Banco de España)
    Abstract: Motivated by a strong degree of hysteresis in the stock of monetization observed after the end of hyperinflations, I provide a cash-and-credit model in which the use of money exhibits some persistence because individuals can establish long-lasting credit relationships. This feature helps to account for the main stylized facts of extreme hyperinflations and reconcile some conflicting views on their causes, development and end without departing from rational expectations. Unlike the existing literature, I show that when hysteresis is possible, an orthodox fiscal-monetary reform that successfully stops a speculative hyperinflation may not be sufficient to prevent it.
    Keywords: hyperinflation, fiscal-monetary reform, multiple equilibria, hysteresis
    JEL: E31 E41 E63
    Date: 2006–04
  16. By: Da Silva, Sergio; Nunes, Mauricio
    Abstract: We examine Latin American foreign exchange intervention in a framework where the exchange rate regime is endogenous and there exists an inefficient, equilibrium foreign exchange intervention bias. The model suggests that greater central bank independence is associated with lesser intervention in the foreign exchange market, and also with leaning-against-the-wind intervention. Both results are confirmed by data from 13 Latin American countries.
    Keywords: foreign exchange intervention; exchange rates; Latin America
    JEL: F41 F31
    Date: 2007
  17. By: Jeffery D. Amato; Hyun Song Shin
  18. By: Ernst Fehr; Jean-Robert Tyran
  19. By: Marco Hoeberichts; Mewael Tesfaselassie; Sylvester Eijffinger
  20. By: Crespo Cuaresma, Jesýs (BOFIT); Slacik, Tomas (BOFIT)
    Abstract: We propose exploiting the term structure of relative interest rates to obtain estimates of changes in the timing of a currency crisis as perceived by market participants. Our indicator can be used to evaluate the relative probability of a crisis occurring in one week as compared to a crisis happening after one week but in less than a month. We give empirical evidence that the indicator performs well for two important currency crises in Eastern Europe: the crisis in the Czech Republic in 1997 and the Russian crisis in 1998.
    Keywords: currency crisis; term structure of interest rates; transition economies
    JEL: E43 F31 F34
    Date: 2007–03–02
  21. By: Roberto Blanco (Banco de España); Fernando Restoy (Banco de España)
    Abstract: This paper analyses the behaviour of real interest rates in the Spanish economy over the last 15 years. Since inflation-indexed-bonds are not available, changes in implicit real interest rates are estimated using several approaches suggested by macroeconomic and financial theory. In particular, we employ equilibrium conditions of a representative agent under several specifications of preferences. Moreover, we exploit no-arbitrage conditions in securities markets. The evidence we report indicates that inflation uncertainty could account for a notable part of the observed decrease in nominal rates. Consequently, the actual real cost of financing might have decreased significantly less than what the course of ex-post real rates would suggest.
    Keywords: real interest rates, intertemporal marginal rate of substitution
    JEL: E43 G12
    Date: 2007–02
  22. By: Archontakis, Theofanis; Lemke, Wolfgang
    Abstract: This paper studies a nonlinear one-factor term structure model in discrete time. The single factor is the short-term interest rate, which is modeled as a self-exciting threshold autoregressive (SETAR) process. Our specification allows for shifts in the intercept and the variance. The process is stationary but mimics the nearly I(1) dynamics typically encountered with interest rates. In comparison with a linear model, we find empirical evidence in favor of the threshold model for Germany and the US. Based on the estimated short-rate dynamics we derive the implied arbitrage-free term structure of interest rates. Since analytical solutions are not feasible, bond prices are computed by means of Monte Carlo integration. The resulting term structure exhibits properties that are qualitatively similar to those observed in the data and which cannot be captured by the linear Gaussian one-factor model. In particular, our model captures the nonlinear relation between long rates and the short rate found in the data.
    Keywords: Non-affine term structure models, SETAR models, Asset pricing
    JEL: C22 E43 G12
    Date: 2007
  23. By: Svitlana Maksymenko
    Abstract: . . .
    Date: 2006–03
  24. By: Andrea Carriero (Queen Mary, University of London)
    Abstract: Even if there is a fairly large evidence against the Expectations Hypothesis (EH) of the term structure of interest rates, there still seems to be an element of truth in the theory which may be exploited for forecasting and simulation. This paper formalizes this idea by proposing a way to use the EH without imposing it dogmatically. It does so by using a Bayesian framework such that the extent to which the EH is imposed on the data is under the control of the researcher. This allows to study a continuum of models ranging from one in which the EH holds exactly to one in which it does not hold at all. In between these two extremes, the EH features transitory deviations which may be explained by time varying (but stationary) term premia and errors in expectations. Once cast in this framework, the EH holds on average (i.e. after integrating out the effect of the transitory deviations) and can be safely and effectively used for forecasting and simulation.
    Keywords: Bayesian VARs, Expectations theory, Term structure
    JEL: C11 E43 E44 E47
    Date: 2007–03
  25. By: Mustafa Caglayan (Department of Economics, University of Glasgow); Alpay Filiztekin (Faculty of Arts and Social Sciences, Sabanci University); Michael T. Rauh (Department of Business Economics and Public Policy, Indiana University Kelley School of Business)
    Abstract: In this paper, we use a unique micro-level data set from Istanbul to investigate the empirical relationship between inflation and price dispersion. In particular, our data set includes price observations from three distinct store types: bakkals (convenience stores), pazars (bazaars), and supermarkets. Our findings indicate that pazars exhibit the least amount of price dispersion on average, which is consistent with the fact that menu and search costs are very low in the pazar and that such sellers seem to have very little market power. Moreover, we find that several of the basic inflation-dispersion channels identified by the theoretical literature seem to be operating in our data.
    Keywords: inflation, market structure, menu cost models, micro panel data, price dispersion
    JEL: L0 C23 D40 D83 E31
    Date: 2006–01
  26. By: Manoel F. Bittencourt
    Abstract: In this paper we examine the impact of inflation on financial development in Brazil. The data available permit us to cover the eventful period between 1985 and 2002 and the results-based initially on time series and then on panel time series data and analysis, and robust for different estimators, specifications and financial development measures-suggest that high and erratic rates of inflation presented deleterious effects on finance at the time. The main policy implication arising from the results is that poor macroeconomic performance, exemplified by high rates of inflation, can only have detrimental effects on finance, a variable that is important for directly affecting, e.g., economic growth and development, and income inequality. Therefore, low and stable inflation is a necessary first step to achieve a more inclusive and active financial sector with all its attached benefits.
    Keywords: Financial development, inflation, growth, inequality, Brazil.
    JEL: E31 E44 O11 O54
    Date: 2007–01

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