nep-mon New Economics Papers
on Monetary Economics
Issue of 2008‒01‒12
eleven papers chosen by
Bernd Hayo
Philipps-University Marburg

  1. Optimal monetary policy under low trend inflation By Guido Ascari; Tiziano Ropele
  2. A Panel Data Approach to the Demand for Money and the Effects of Financial Reforms in the Asian Countries By Rao, B. Bhaskara; Kumar, Saten
  3. Actual versus Perceived Transparency: The Case of the European Central Bank By Carin van der Cruijsen en Sylvester Eijffinger
  4. Inflation persistence, inflation targeting and the Great Moderation By Charles T. Carlstrom; Timothy S. Fuerst; Matthius Paustian
  5. ‘Some unpleasant fiscal arithmetic’: the role of monetary and fiscal policy in public debt dynamics since the 1970s By Hasko, Harri
  6. Securitisation and the bank lending channel By Yener Altunbas; Leonardo Gambacorta; David Marqués
  7. Estimating Term Structure Equations Using Macroeconomic Variables By Ray C. Fair
  8. The Expectations Hypothesis of Term Structure of Interest Rates Revisited By Fabrizio Casalin
  9. The National Banking System: the national bank note puzzle By Bruce Champ
  10. On the Consistency of Arbitrary Money-Demand Functions with the Sidrauski and the Shopping-Time Models By Rubens Penha Cysne; David Turchick
  11. Lessons from the 2007 Financial Crisis By Buiter, Willem H

  1. By: Guido Ascari (University of Pavia); Tiziano Ropele (Bank of Italy)
    Abstract: In the monetary policy literature it is commonly assumed that trend inflation is zero, despite overwhelming evidence that zero inflation is neither empirically relevant nor a practical objective for central bank policy. We therefore extend the standard New Keynesian model to allow for positive trend inflation, showing that even low trend inflation has strong effects on optimal monetary policy and the dynamics of inflation, output, and interest rates. Under discretion, the efficient policy deteriorates and there is no guarantee of determinacy. Even with commitment, targeting non-zero trend inflation leads to substantial welfare losses. Our results serve as a warning against indiscriminate use of models assuming zero trend inflation.
    Keywords: Optimal monetary policy, trend inflation
    JEL: E31 E52
    Date: 2007–11
  2. By: Rao, B. Bhaskara; Kumar, Saten
    Abstract: Three panel data estimation methods are used to estimate the cointegrating equations for the demand for money (M1) in 14 developing Asian countries. Tests for the effects of financial reforms are made with estimates for two sub-samples of 1970-1985 and 1986-2005. Our results show that money demand functions in these Asian countries are stable and financial reforms have yet to have any significant effects. This implies that the central banks of these countries should use money supply, instead of the rate of interest, as the monetary policy instrument.
    Keywords: Pedroni; Mark and Sul and Breitung methods; Demand for money; Asian countries; Effects of financial reforms and Choice of monetary policy instruments
    JEL: E5 E1
    Date: 2008–01–07
  3. By: Carin van der Cruijsen en Sylvester Eijffinger
    Abstract: Central banks have become more and more transparent about their monetary policy making process. In the central bank transparency literature the distinction between actual and perceived transparency is often lacking. However, as perceptions are crucial for the actions of economic agents this distinction matters. We investigate the mismatch between actual and perceived transparency and its relevance by analyzing data of a Dutch household survey on the European Central Bank's transparency. A discrepancy between actual and perceived transparency exists because of incomplete and incorrect transparency knowledge and other (psychological) factors. We find that respondents with relatively high transparency perceptions are more likely to have more trust in the ECB and better alligned inflation perceptions and expectations. Therefore, it might be beneficial for a central bank to increase transparency perceptions, either by improving its actual disclosure practices or by focusing on its transparency strengths in its communicationpolicy.
    Keywords: Central bank transparency; Perceptions; Survey; CentERpanel; Behavioral Economics
    JEL: D80 E52 E58
    Date: 2008–01
  4. By: Charles T. Carlstrom; Timothy S. Fuerst; Matthius Paustian
    Abstract: There is growing evidence that the empirical Phillips curve within the US has changed significantly since the early 1980’s. In particular, inflation persistence has declined sharply. The paper demonstrates that this decline is consistent with a standard Dynamic New Keynesian (DNK) model in which: (i) the variability of technology shocks has declined, and (ii) the central bank more aggressively responds to inflation.
    Keywords: Inflation (Finance) ; Phillips curve ; Inflation targeting
    Date: 2007
  5. By: Hasko, Harri (Bank of Finland Research)
    Abstract: Shocks to monetary and fiscal policy have played a major role in public debt developments in the OECD countries since the mid-1970s. According to the applied VAR approach, these shocks, taken together, explained, on average, about half of the forecast error variation in the debt to GDP ratio, while the share of shocks to GDP growth was close to 30 percent. In contrast, shocks to inflation and the debt ratio itself played in most cases only a minor role. However, the inflation shocks were vital in initiating the public debt problems, as the increase in actual inflation, and particularly the persistence of high inflation expectations in the 1980s, led to a prolonged period of high real interest rates. Learning the implications of greater monetary discipline therefore gave rise to ‘some unpleasant fiscal arithmetic’ which aggravated debt problems. In most countries fiscal policy aimed at correcting the deterioration in fiscal balances, but the progress was in most cases slow and delayed. It is noticeable that public debt developments have been quite similar in both the United States and the euro area despite differences in fiscal policy and the role of the public sector. Shocks to GDP growth, inflation and monetary policy, which have been more similar in both continents, explain about two thirds of the forecast error variation of the debt to GDP ratio, while shocks to fiscal policy explain about 20 percent.
    Keywords: public debt dynamics; fiscal policy; monetary policy; VAR models
    JEL: C22 E62 H62
    Date: 2008–01–08
  6. By: Yener Altunbas (Centre for Banking and Financial Studies, University of Wales, Bangor); Leonardo Gambacorta (Bank of Italy); David Marqués (European Central Bank, Monetary Policy Directorate)
    Abstract: The dramatic increase in securitisation activity has modified the functioning of credit markets by reducing the fundamental role of liquidity transformation performed by financial intermediaries. We claim that the changing role of banks from “originate and hold” to “originate, repackage and sell” has also modified banks’ abilities to grant credit and the effectiveness of the bank lending channel of monetary policy. Using a large sample of European banks, we find that the use of securitisation appears to shelter banks’ loan supply from the effects of monetary policy. Securitisation activity has also strengthened the capacity of banks to supply new loans but this capacity depends upon business cycle conditions as well as upon banks’ risk positions. In this respect the recent experience of the sub-prime mortgage loans crisis is very instructive.
    Keywords: asset securitisation, bank lending channel, monetary policy
    JEL: E44 E52
    Date: 2007–11
  7. By: Ray C. Fair (Cowles Foundation, Yale University)
    Abstract: This paper begins with the expectations theory of the term structure of interest rates with constant term premia and then postulates how expectations of future short term interest rates are formed. Expectations depend in part on predictions from a set of VAR equations and in part on the current and two lagged values of the short term interest rate. The results suggest that there is relevant independent information in both the VAR equations' predictions and the current and two lagged values of the short rate. The model fits the long term interest rate data well, including the 2004-2006 period, which some have found a puzzle. The properties of the model are consistent with the response of the long term U.S. Treasury bond rate to surprise price and employment announcements. The overall results suggest that long term rates can be fairly well explained by modeling expectation formation of future short term rates.
    Keywords: Term structure equations, Expectations theory
    JEL: E43
    Date: 2008–01
  8. By: Fabrizio Casalin
    Abstract: This paper investigates the validity of the Expectations Hypothesis of the Term Structure (EHTS) employing standard forward-spot regressions which accommodate for the presence of time-varying term premia. The novelty of this paper is that the analysis is conducted by taking advan- tage of the following two properties of the Kalman Filter: first, it makes possible to model time-varying term premia as unobservables, and second it delivers recursive estimations of forward-spot regressions as more data become available. In fact, previous studies have modelled term premia by means of macroeconomic variables. To the extent that term premia are influenced by political and social climates which are difficult to ob- serve, it might be preferable to model them as unobservables, rather than by means of observed variables. Moreover, especially when tested over long periods of data, the EHTS might hold for certain periods while it might not for others. These periodic departures from and reversions to the EHTS cannot be detected by constant parameters models, which there- fore can provide only broad brush evidence. This paper shows that the recursive nature of the Kalman filter can be employed to construct a test for the EHTS which gives more refined evidence. The analysis is carried out focusing on the short-end of the US term structure spectrum.
    Keywords: Term structure of interest rates; Monetary regimes; Kalman filter
    JEL: C32 E43
    Date: 2007–11
  9. By: Bruce Champ
    Abstract: The era of the National Banking System (1863–1913) has been a puzzling one for monetary theorists and economic historians for well over a century. The puzzles associated with this period take various forms. Despite calculations of high profit rates on note issue for certain periods of the era, national banks never fully utilized their note-issuing powers. Relatedly, the behavior of interest rates during the period is also puzzling given the regime of bank note issuance put in place by the National Bank Acts. On the surface, it appears that an arbitrage condition is broken. The observed inelasticity in aggregate national bank note issue also is puzzling, particularly given the behavior of interest rates. This paper examines many of the puzzles of the national banking era and provides a summary of the current attempts to explain those puzzles.
    Keywords: National banks (United States) ; National bank notes
    Date: 2007
  10. By: Rubens Penha Cysne (EPGE/FGV); David Turchick
    Date: 2008–01
  11. By: Buiter, Willem H
    Abstract: The paper studies the causes of the current financial crisis and considers proposals for mitigation and prevention of future crises. The crisis is was the product of a ‘perfect storm’ bringing together a number of microeconomic and macroeconomic pathologies. Among the microeconomic systemic failures were: wanton securitisation, fundamental flaws in the rating agencies’ business model, the procyclical behaviour of leverage in much of the financial system and of the Basel capital adequacy requirements, privately rational but socially inefficient disintermediation, and competitive international de-regulation. Proximate local drivers of the specific way in which these problems manifested themselves were regulatory and supervisory failure in the US home loan market. Among the macroeconomic pathologies that contributed to the crisis were, first, excessive global liquidity creation by key central banks and, second, an ex-ante global saving glut, brought about by the entry of a number of high-saving countries (notably China) into the global economy and a global redistribution of wealth and income towards commodity exporters that also had, at least in the short run, high propensities to save. In the UK, failures of the Tripartite financial stability arrangement between the Treasury the Bank of England and the FSA, weaknesses in the Bank of England’s liquidity management, regulatory failure of the FSA, an inadequate deposit insurance arrangement and deficient insolvency laws for the banking sector contributed to the financial disarray. Despite this, it may well be possible to minimize the spillovers over from the crisis beyond the financial sectors of the industrial countries and the housing sectors of the US and a few European countries.
    Keywords: collateral; financial stability; leverage; liquidity; rating agencies; regulation; securitization
    JEL: D52 D53 E32 E44 E58 F37 G21 G24 G28
    Date: 2007–12

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