nep-mon New Economics Papers
on Monetary Economics
Issue of 2008‒11‒18
eighteen papers chosen by
Bernd Hayo
Philipps-University Marburg

  1. Money Demand Accommodation in the U.S. By Javier Gómez; Antonio Moreno; Fernando Pérez de Gracia
  2. Monetary Policy Rules for Managing Aid Surges in Africa By Adam, Chris-Datepher S.; Buffie, Edward; O'Connell, Stephen; Pattillo, Catherine
  3. Demand for money in Iran: An ARDL approach By Shahrestani, Hamid; Sharifi-Renani, Hosein
  4. A Measure for Credibility: Tracking US Monetary Developments By Maria Demertzis; Massimiliano Marcellino; Nicola Viegi
  5. The Sub-Prime Crisis and UK Monetary Policy By Christopher Martin; Costas Milas
  6. An alternative reconsideration of macroeconomic convergence criteria for West African Monetary Zone By Balogun, Emmanuel Dele
  7. Determinacy of interest rate rules with bond transaction services in a cashless economy  By Marzo, Massimiliano; Zagaglia , Paolo
  8. What broke the bubble? By Barnett, William A.
  9. Delegation and Loose Commitment By Nunes, Ricardo
  10. Money wage rigidity, monopoly power and hysteresis By Alfonso Palacio Vera
  11. Fiscal Policy and Monetary Integration in Europe: An Update By Candelon Bertrand; Muysken Joan; Vermeulen Robert
  12. A continuous-time model of the term structure of interest rates with fiscal-monetary policy interactions By Marzo , Massimiliano; Romagnoli , Silvia; Zagaglia, Paolo
  13. Budget Deficit, Money Growth and Inflation: Evidence from the Colombian Case By Ignacio Lozano
  14. What Lessons have been learnt since the East Asian Crisis in 1997/98? CIBS, Capital Flows, and Exchange Rates By Pircher, Marion
  15. Macro-finance VARs and bond risk premia: a caveat By Marco, Taboga
  16. The Foreign Currency Regime and Policy in Romania By dobrota, gabriela
  17. The case for a financial approach to money demand By Xavier Ragot
  18. How Central Bankers See It: The First Decade of ECB Policy and Beyond By Stephen G. Cecchetti; Kermit L. Schoenholtz

  1. By: Javier Gómez (IESE Business School, University of Navarra); Antonio Moreno (Universidad de Navarra); Fernando Pérez de Gracia (Universidad de Navarra)
    Abstract: In this paper we account for the U.S. Fed's response to money demand shocks by allowing for less-than-complete accommodation in the estimation of its money supply policy rule. We estimate a significantly lower degree of money accommodation in the 1979-1982 period than before and after. We identify the path of money demand and money supply shocks and show their effects on the money market, output and inflation. Both money demand and money supply shocks have been considerably less destabilizing since 1984. We also find that monetary policy was significantly pro-cyclical in the 70s. Additionally, the price puzzle disappears for two of the three subperiods considered in the study.
    Keywords: Money demand shocks, money demand accommodation, monetary policy procedures, macroeconomic dynamics
    JEL: E32 E41 E52 E58
    Date: 2008–10–11
  2. By: Adam, Chris-Datepher S.; Buffie, Edward; O'Connell, Stephen; Pattillo, Catherine
    Abstract: We examine the properties of alternative monetary policy rules in response -Date large aid surges in low-income countries characterized by incomplete capital market integration and currency substitution. Using a dynamic s-Datechastic general equilibrium model, we show that simple monetary rules that stabilize the path of expected future seigniorage for a given aid flow have attractive properties relative -Date a range of conventional alternatives, including those involving heavy reliance on bond sterilization or a commitment -Date a pure exchange rate float. These simple rules, which are shown -Date be robust across a range of fiscal responses -Date aid inflows, appear -Date be consistent with actual responses -Date recent aid surges in a range of post-stabilization countries in Sub-Saharan Africa.
    Keywords: monetary policy, currency substitution, aid, Africa, DSGE models
    Date: 2008
  3. By: Shahrestani, Hamid; Sharifi-Renani, Hosein
    Abstract: The objective of this study is to estimate the demand for money in Iran using the autoregressive distributed lag (ARDL) approach to cointegration analysis. The empirical results show that there is a unique cointegrated and stable long-run relationship among M1 monetary aggregate, income, inflation and exchange rate. We find that the income elasticity and exchange rate coefficient are positive while the inflation elasticity is negative. This indicates that depreciation of domestic currency increases the demand for money, supporting the wealth effect argument and people prefer to substitute physical assets for money balances that are supporting our theoretical expectation. Our results also after incorporating the CUSUM and CUSUMSQ tests reveal that the M1 money demand function is stable between 1985 and 2006.
    Keywords: Money demand; ARDL; Stability; Iran
    JEL: E44 E4 E41
    Date: 2007–10–10
  4. By: Maria Demertzis; Massimiliano Marcellino; Nicola Viegi
    Abstract: Our objective is to identify a way of checking empirically the extent to which expectations are de-coupled from inflation, how well they might be anchored in the long run, and at what level. This methodology allows us then to identify a measure for the degree of anchorness, and as anchored expectations are associated with credibility, this will serve as a proxy for credibility. We apply this methodology to the US history of inflation since 1963 and examine how well our measure tracks the periods for which credibility is known to be either low or high. Of particular interest to the validity of the measure is the start of the Great Moderation. Following the narrative of a number of well documented incidents in this period, we check how well our measure captures both the evolution of credibility in US monetary policy, as well as reactions to inflation scares.
    Keywords: Great Inflation; Great Moderation; Anchors for Expectations
    JEL: E52 E58
    Date: 2008–11
  5. By: Christopher Martin (Brunel University, Uxbridge, UK); Costas Milas (Keele University, Staffordshire, UK and The Rimini Centre for Economic Analysis, Italy)
    Abstract: The “sub-prime” crisis, which led to major turbulence in global financial markets beginning in mid-2007, has posed major challenges for monetary policymakers. We analyse the impact on monetary policy of the widening differential between policy rates and the 3-month Libor rate, the benchmark for private sector interest rates. We show that the optimal monetary policy rule should include the determinants of this differential, adding an extra layer of complexity to the problems facing policymakers. Our estimates reveal significant effects of risk and liquidity measures, suggesting the widening differential between base rates and Libor was largely driven by a sharp increase in unsecured lending risk. We calculate that the crisis increased libor by up to 60 basis points; in response base rates fell further and quicker than would otherwise have happened as policymakers sought to offset some of the contractionary effects of the sub-prime crisis.
    Keywords: optimal monetary policy; sub-prime crisis
    JEL: C51 C52 E52 E58
    Date: 2008–01
  6. By: Balogun, Emmanuel Dele
    Abstract: This study presents an alternative reconsideration of traditional Optimum Currency Areas (OCA) macroeconomic convergence criteria as options for West African Monetary Zone (WAMZ) commencement, in the light of recent advancements in monetary theory. It presents micro-founded models, rooted in New Keynesian traditions to show that tests confirming widespread divergence from ideal macroeconomic benchmarks with unsustainable independent monetary and exchange rates pursuits and trade gravity models offer a more appropriate evaluating criterion for WAMZ than the current one, if the ultimate objective is a merger with West African Economic and Monetary Union (WAEMU). Using econometrics methods, especially pooled single equation models applied to national macroeconomic data which span 1991Q1 to 2007Q4, I evaluate the roles of past unsustainable independent national monetary and exchange rates policy pursuits as determinants of macroeconomic stabilizations (reflected by the inflation differential and output gaps/performance vis-à-vis the WAMZ area targets) and inter/intra-regional export performance. This was accompanied by the estimation of a trade gravity model. The strong convergence of aggregate output/demand pattern between WAMZ countries based on trade gravity models thus emerges as a possible positive attribute of countries participating in efficient currency areas
    Keywords: Optimum Currency Area; monetary policy; business cycles costs; exchange rates; WAM Z
    JEL: E31 E52 F33
    Date: 2008–10–31
  7. By: Marzo, Massimiliano (Università di Bologna); Zagaglia , Paolo (Bank of Finland Research and Stockholm University)
    Abstract: Canzoneri and Diba (2004) show that the Taylor principle is not a panacea for equilibrium determinacy in a model where bonds and money provide liquidity services to households. We consider a cashless New Keynesian model with two types of government bonds. One bond provides transaction services, whereas the other is used only as a store of value. We show that the Taylor principle is still sacrosanct, and that the results of Leeper (1991) are confirmed.
    Keywords: monetary policy; fiscal policy; government bonds; determinacy
    JEL: C68 E52
    Date: 2008–10–16
  8. By: Barnett, William A.
    Abstract: This paper is the basis for the Guest Columnist article in the Tuesday, November 11, 2008 issue of the Kansas City Star newspaper's Business Weekly. Because of space limitations, the published newspaper column had to be shortened from the original and unfortunately did not include either of the two supporting figures. This is the unedited source article. The position taken by this opinion editorial is that the declining trend of total reserves during the recent period of financial crisis was counterproductive, and the declining level of the federal funds rate during that period was an inadequate indicator of Federal Reserve policy stance. But the recent startling surge in reserves potentially offsets the problem, although for reasons not motivated by the issues raised by this article. In fact, the reason for the surge is associated with the declining stock of Treasury bonds available to the Federal Reserve for sterilization of the effects of the new lending initiatives on bank reserves.
    Keywords: bubbles; bailouts; monetary policy; reserves; TAFs; sterilization; financial crisis.
    JEL: E32 G18 E52 E44 G28 E61
    Date: 2008–11–11
  9. By: Nunes, Ricardo
    Abstract: This paper analyzes and compares the performance of different delegation schemes when the central bank has imperfect commitment. A continuum of loose commitment possibilities is considered ranging from full commitment to full discretion. The results show that the performance of inflation targeting improves substantially with higher commitment levels. On the other hand, the performance of other targeting regimes does not necessarily improve with the commitment level of the central bank. While it was previously thought that inflation targeting is inferior to other targeting regimes, the results show that it can be the best performing regime as long as the commitment level is not too low. These results may provide a theoretical explanation for the high popularity of inflation targeting among central banks.
    Keywords: Targeting Regimes; Imperfect Commitment
    JEL: E58 E52 E61
    Date: 2008–10
  10. By: Alfonso Palacio Vera (Universidad Complutense de Madrid. Departamento de Política Económica)
    Abstract: The literature that addresses the effects on the level of aggregate demand of changes in the degree of monopoly typically assumes away the existence of an “inflation barrier” and an inflationtargeting central bank. The presence of these two institutional factors entails that any aggregate demand change brought about by changes in the functional distribution of income will tend to be offset by changes in real interest rates. We postulate a simple macroeconomic model for a closed economy with a government sector and hypothesize that a change in the average mark up affects the inflation rate, the “inflation-barrier” and aggregate demand. The model allows for the analysis of the effects on the employment rate of demand and supply shocks when the economy exhibits asymmetric inflation dynamics (AID) and hysteresis effects. Among other results we find that, if the economy exhibits AID and hysteresis, the effect on the employment rate of a change in the mark up is likely to be either ineffectual or counterproductive even if the associated demand shock is expansionary. We also show that an inadequate functional distribution of income may lead to the occurrence of an aggregate demand deficiency problem.
    Date: 2008
  11. By: Candelon Bertrand; Muysken Joan; Vermeulen Robert (METEOR)
    Abstract: By distinguishing between discretionary and non-discretionary fiscal policy, this paper analyses the stability of fiscal rules for EMU countries before and after the Maastricht Treaty. Using both Instrumental Variables and GMM techniques, it turns out that discretionary fiscal policy has remained procyclical after 1992. This result contradicts the previous findings of Galí and Perotti (2003). It also appears that fiscal rules differ between large and small countries; large countries follow a procyclical discretionary policy. Furthermore, the paper shows that discretionary fiscal policy exhibits different behaviour when facing supply or demand constraints. A procyclical discretionary policy is followed mainly during upswings, when supply constraints are prevalent. Finally, there is no support for the presence of a ‘fatigue effect’ in fiscal discipline.
    Keywords: Economics (Jel: A)
    Date: 2008
  12. By: Marzo , Massimiliano (Università di Bologna); Romagnoli , Silvia (Università di Bologna); Zagaglia, Paolo (Bank of Finland Research and Stockholm University)
    Abstract: We study the term structure implications of the fiscal theory of price level determination. We introduce the intertemporal budget constraint of the government in a general equilibrium model in continuous time. Fiscal policy is set according to a simple rule whereby taxes react proportionally to real debt. We show how to solve for the prices of real and nominal zero coupon bonds.
    Keywords: bond pricing; fiscal policy; mathematical methods
    JEL: D90 G12
    Date: 2008–10–17
  13. By: Ignacio Lozano
    Abstract: Evidence of the causal long-term relationship between budget deficit, money growth and inflation in Colombia is analyzed in this paper, considering the standard (M1), the narrowest (M0-Base) and the broadest (M3) definitions of money supply. Using a vector error correction (VEC) model with quarterly data over the last 25 years, the study found a close relationship between inflation and money growth on the one hand, and between money growth and fiscal deficit, on the other. The size of the long-term parameters looks acceptable, particularly when compared to what is seen in other countries, using analogous or different techniques. The conclusion, supported by several statistical tests, is that the Sargent and Wallace hypothesis would be the most appropriate approach to understanding the dynamics of these variables.
    Date: 2008–11–09
  14. By: Pircher, Marion
    Abstract: This paper discusses the movement of capital flows -Date and Date the exchange rate regimes and monetary policies of China, India, Brazil, and South Africa (CIBS). Furthermore, we compare the level of financial stability, and the composition and duration of capital flows of the countries on a policy level according -Date the ? ?third generation? crisis models?; following which the East Asian Crisis of 1997/98 linkages between the corporate and financial sec-Daters, and foreign short-term debt are given further attention. The paper concludes by comparing all four countries and analysing possible risks in CIBS financial systems.
    Keywords: international financial markets, financial stability, capital flows, exchange rates, China, India, Brazil, South Africa
    Date: 2008
  15. By: Marco, Taboga
    Abstract: Around the turn of the Twentieth century, US and euro area long-term bond yields experienced a remarkable decline and remained at historically low levels even in the face of rising short-term rates (the so called "conundrum"). This unusual phenomenon has been analyzed by many researchers through the lens of macro-finance VARs and no-arbitrage term structure models. A commonly found result is that the decline in long-term rates was primarily driven by an unprecedented reduction in risk premia. I show that such result might be an artefact of the class of models employed to study the phenomenon. I propose an alternative model which suggests that, although risk premia played an important role in reducing bond yields, other two equally important forces were at play, i.e. a decline in the real natural rate of interest and a structural reduction in inflation expectations. I conclude that, after accounting for permanent shifts in the expectations about the future path of short-term rates, the dynamics of risk premia observed after the turn of the century have not been unusual if considered from an historical perspective.
    Keywords: Bond yields; forward premia; macro-finance models.
    JEL: E0 C32 G12
    Date: 2008–11–14
  16. By: dobrota, gabriela
    Abstract: The increase of connections between national economies generated an enhance of foreign currency activities, thus being necessary a continous arrangement /adaptation both for foreign currency policy and course policy to market mechanisms/devices. In Romania were registered frequently modifications of foreign currency policy, thank to the need to create a legal frame appropriate to the market economy and the financial tools evolution. In this work I have presented the main features of foreign currency regime and the course policy registered after 1990. Too, it is illustrate the co-ordinates for an optimum foreign currency policy strategy of Romania in the modern economical conditions.
    Keywords: national economies; foreign currency; policy
    JEL: F5 A12 F59
    Date: 2007–05–15
  17. By: Xavier Ragot
    Abstract: The distribution of money across households is much more similar to the distribution of financial assets than to that of consumption levels, even controlling for life-cycle effects. This is a puzzle for theories which directly link money demand to consumption, such as cash-in-advance (CIA), money-in-the-utility function (MIUF) or shopping-time models. This paper shows that the joint distribution of money and nancial assets can be explained by an incomplete-market model when frictions are introduced into financial markets. Money demand is modeled as a portfolio choice with a fixed transaction cost in financial markets.
    Date: 2008
  18. By: Stephen G. Cecchetti; Kermit L. Schoenholtz
    Abstract: In this history of the first decade of ECB policy, we also discuss key challenges for the next decade. Beyond the ECB's track record and an array of published critiques, our analysis relies on unique source material: extensive interviews with current and former ECB leaders and with other policymakers and scholars who viewed the evolution of the ECB from privileged vantage points. We share the assessment of our interviewees that the ECB has enjoyed many more successes than disappointments. These successes reflect both the ECB's design and implementation. Looking forward, we highlight the unique challenges posed by enlargement and, especially, by the euro area's complex arrangements for guarding financial stability. In the latter case, the key issues are coordination in a crisis and harmonization of procedures. As several interviewees suggested, in the absence of a new organizational structure for securing financial stability, the current one will need to function as if it were a single entity.<br><br><i><b><font size="3">Note to readers: The final version of this paper was completed in June 2008. </i></b></font>
    JEL: E42 E58
    Date: 2008–11

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