nep-mon New Economics Papers
on Monetary Economics
Issue of 2010‒01‒10
29 papers chosen by
Bernd Hayo
Philipps-University Marburg

  1. Monetary policy and uncertainty in an empirical small open economy model By Alejandro Justiniano; Bruce Preston
  2. Nonparametric Hybrid Phillips Curves Based on Subjective Expectations: Estimates for the Euro Area. By Marco Buchmann
  3. Monetary Policy and the Financing of Firms. By Fiorella De Fiore; Pedro Teles; Oeste Tristani
  4. The Phillips curve and the Italian lira, 1861-1998 By Alessandra Del Boca; Michele Fratianni; Franco Spinelli; Carmine Trecroci
  5. The Sub-Prime Crisis and UK Monetary Policy By Martin, Christopher; Milas, C.
  6. Exchange Rate Pass-through in Central and Eastern European Member States. By John Beirne; Martin Bijsterbosch
  7. Optimal Monetary Policy and Asset Prices: the case of Colombia By Martha R. López; Juan David Prada
  8. The Recent Performance of the Traditional Measure of Core Inflation in G7 Countries By Luciana Lo Bue; Antonio Ribba
  9. Inflation dynamics under optimal discretionary fiscal and monetary policies By Stefan Niemann; Paul Pichler; Gerhard Sorger
  10. Reaction of Swiss Term Premia to Monetary Policy Surprises By Paul Soderlind
  11. Deciding to Peg the Exchange Rate in Developing Countries:The Role of Private-Sector Debt By Philipp Harms; Matthias Hoffmann
  12. Regional inflation dynamics using space-time models By Helena Marques; Gabriel Pino; J.D.Tena
  13. Liquidity Hoarding and Interbank Market Spreads: The Role of Counterparty Risk. By Florian Heider; Marie Hoerova; Cornelia Holthausen
  14. Causes of the Financial Crisis: An Assessment using UK Data By Martin, Christopher; Milas, C
  15. TIPS, Inflation Expectations and the Financial Crisis By Thorsten Lehnert; Aleksandar Andonov; Florian Bardong
  16. Would the Bundesbank Have Prevented the Great Inflation in the United States? By Luca Benati
  17. The Two Triangles: what did Wicksell and Keynes know about macroeconomics that modern economists do not (consider)? By Ronny Mazzocchi; Roberto Tamborini; Hans-Michael Trautwein
  18. Liquidity Constrained Competing Auctions By Richard Dutu; Benoit Julien; Ian King
  19. Currency Unions and International Assistance By Pierre M. Picard; Tim Worrall
  20. Monetary Policy Shocks and Portfolio Choice. By Marcel Fratzscher; Christian Saborowski; Roland Straub
  21. On the endogeneity of exchange rate regimes By Eduardo Levy-Yeyati; Federico Sturzenegger; Iliana Reggio
  22. Are bank lending shocks important for economic fluctuations? By Jørn Inge Halvorsen; Dag Henning Jacobsen
  23. Scale Economies and Heterogeneity in Business Money Demand: The Italian Experience By Ganugi, P; Grossi, L; Ianulardo, Giancarlo
  24. Time-Variation in Term Permia: International Survey-Based Evidence By Christian Wolff; Ron Jongen; Willem F.C. Verschoor
  25. Unbundling Zimbabwe’s journey to hyperinflation and official dollarization By Terrence Kairiza
  26. Euroization in Central, Eastern and Southeastern Europe – New Evidence On Its Extent and Some Evidence On Its Causes. By Thomas Scheiber; Helmut Stix
  27. "A Market Model of Interest Rates with Dynamic Basis Spreads in the presence of Collateral and Multiple Currencies" By Masaaki Fujii; Yasufumi Shimada; Akihiko Takahashi
  28. Federal Reserve independence in a global context By Dennis P. Lockhart
  29. When liquidity risk becomes a macro-prudential issue: Empirical evidence of bank behaviour By Jan Willem van den End; Mostafa Tabbae

  1. By: Alejandro Justiniano; Bruce Preston
    Abstract: This paper explores optimal policy design in an estimated model of three small open economies: Australia, Canada and New Zealand. Within a class of generalized Taylor rules, we show that to stabilize a weighted objective of output, consumer price inflation and nominal interest variation optimal policy does not respond to the nominal exchange. This is despite the presence of local currency pricing and due, in large part, to observed exchange rate disconnect in these economies. Optimal policies that account for the uncertainty of model estimates, as captured by the parameters' posterior distrbution, similarly exhibit a lack of exchange rate response. In contrast to Brainard (1967), the presence of parameter uncertainty can lead to more or less aggressive policy responses, depending on the model at hand.
    Date: 2009
  2. By: Marco Buchmann (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.)
    Abstract: This paper addresses the estimation of Phillips curve equations for the euro area while employing less stringent assumptions on the functional correspondence between price inflation, inflation expectations and marginal costs. Expectations are not assumed to be an unbiased predictor of actual inflation and instead derived from the European Commission’s Consumer Survey data. The results suggest that expectations drive inflation with a lag of about 6 months, which casts further doubt on the validity of the New Keynesian Phillips curve. Moreover, the trade off between inflation and real economic activity is not vertical in the short run. Non- and Semiparametric estimates reveal an important nonlinearity in the sense that demand pressure on price inflation is not invariant to the state of the economy as it increases considerably at times of high economic activity. Conventional linear Phillips curves cannot capture this empirical regularity. Some implications for monetary policy are discussed. JEL Classification: C14, E31, E32.
    Keywords: Inflation, Phillips Curve, Survey Expectations, Non- and Semiparametric Econometrics, Monetary Policy.
    Date: 2009–12
  3. By: Fiorella De Fiore (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Pedro Teles (Universidade Católica Portuguesa, alma de Cima, CP-1649-023 Lisboa, Portugal.); Oeste Tristani (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.)
    Abstract: How should monetary policy respond to changes in financial conditions? In this paper we consider a simple model where firms are subject to idiosyncratic shocks which may force them to default on their debt. Firms’assets and liabilities are denominated in nominal terms and predetermined when shocks occur. Monetary policy can therefore affect the real value of funds used to finance production. Furthermore, policy affects the loan and deposit rates. We find that allowing for short-term inflation volatility in response to exogenous shocks can be optimal; that the optimal response to adverse financial shocks is to lower interest rates, if not at the zero bound, and to engineer a short period of inflation; that the Taylor rule may implement allocations that have opposite cyclical properties to the optimal ones. JEL Classification: E20, E44, E52.
    Keywords: Financial stability, debt deflation, bankruptcy costs, price level volatility, optimal monetary policy, stabilization policy.
    Date: 2009–12
  4. By: Alessandra Del Boca; Michele Fratianni; Franco Spinelli; Carmine Trecroci
    Abstract: We examine Italian inflation rates and the Phillips curve with a very long-run perspective, one that covers the entire existence of the Italian lira from political unification (1861) to Italy’s entry in the European Monetary Union (end of 1998). We first study the volatility, persistence and stationarity of the Italian inflation rate over the long run and across various exchange-rate regimes that have shaped Italian monetary history. Next, we estimate alternative Phillips equations and investigate whether nonlinearities, asymmetries and structural changes characterize the inflation-output trade-off in the long run. We capture the effects of structural changes and asymmetries on the estimated parameters of the inflation-output trade-off, relying partly on sub-sample estimates and partly on time-varying parameters estimated via the Kalman filter. Finally, we investigate causal relationships between inflation rates and output and extend the analysis to include the US and the UK for comparison purposes. The inference is that Italy has experienced a conventional inflation-output trade-off only during times of low inflation and stable aggregate supply.
    Date: 2009
  5. By: Martin, Christopher; Milas, C.
    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
    Date: 2009
  6. By: John Beirne (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Martin Bijsterbosch (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.)
    Abstract: This paper provides estimates of the exchange rate pass-through (ERPT) to consumer prices for nine central and eastern European EU Member States. Using a five-variate cointegrated VAR (vector autoregression) for each country and impulse responses derived from the VECM (vector error correction model), we show that ERPT to consumer prices averages about 0.6 using the cointegrated VAR and 0.5 using the impulse responses. We also find that the ERPT seems to be higher for countries that have adopted some form of fixed exchange rate regime. These results are robust to alternative normalisation of the VAR and alternative ordering of the impulse responses. JEL Classification: E31, F31.
    Keywords: exchange rate pass-through, inflation, central and eastern Europe.
    Date: 2009–12
  7. By: Martha R. López; Juan David Prada
    Abstract: The unfolding of the 2007 world financial and economic crisis has highlighted the vulnerability of real economic activity to strong fluctuations in asset prices. Which is the optimal monetary policy in an economy like the Colombian that is exposed to swings in asset prices? What is the implication in terms of Central Bank losses when it follows a standard simple rule instead of the optimal monetary policy? To answer these questions we use a Dynamic Stochastic General Equilibrium (DSGE) model with physical capital and sticky wages for the Colombian economy and derive the optimal monetary policy. Then, we explore the dynamic effects of news about a future technology improvement which turns out ex post to be overoptimistic under the optimal policy rule and alternative specifications of simple rules and definitions of output gap.
    Date: 2009–12–14
  8. By: Luciana Lo Bue; Antonio Ribba
    Abstract: In this paper we undertake an empirical investigation concerning the performance of the traditional measure of core inflation in recent years. We consider the group of G7 countries and explore both the high-frequency and the low-frequency relations between overall inflation and core inflation. We find that the traditional core measure, obtained by subtracting from the overall index those components which exhibit high volatility and which are responsible for the short-run variability of inflation, is a reliable indicator of trend inflation for a group of countries including the USA, Canada and Japan. The innovation accounting shows that for the three countries the transitory shock, i.e. the total inflation shock, has limited persistence and hence there is a relatively quick convergence of overall inflation to its trend component.
    Keywords: Core Inflation Indicator; Structural Cointegrated VARs; Permanent-transitory Decompositions
    JEL: C43 E31
    Date: 2009–12
  9. By: Stefan Niemann; Paul Pichler; Gerhard Sorger
    Abstract: We examine the dynamic properties of inflation in a model of optimal discretionary fiscal and monetary policies. The lack of commitment and the presence of nominally risk-free debt provide the government with an incentive to implement policies which induce positive and persistent inflation rates. We show that this property obtains already in an environment with flexible prices and perfectly competitive product markets. Introducing nominal rigidities and imperfect competition has no qualitative but important quantitative implications. In particular, with a modest degree of price stickiness our model generates inflation dynamics very similar to those experienced in the U.S. since the Volcker disinflation of the early 1980s.
    Date: 2009–12–17
  10. By: Paul Soderlind
    Abstract: An affine yield curve model is estimated on daily Swiss data 2002--2009. The market price of risk is modelled in terms of proxies for uncertainty, which are estimated from interest rate options. The estimated model generates innovations in the 3-month rate that are similar to external evidence of monetary policy surprises - as well as term premia that are consistent with survey data. The results indicate that a surprise increase in the policy rate gives a reasonably sized decrease (-0.25%) in term premia for longer maturities.
    Keywords: affine price of risk, interest rate caps, survey data
    JEL: E27 E47
    Date: 2009–12
  11. By: Philipp Harms (RWTH Aachen University, Study Center Gerzensee); Matthias Hoffmann (Deutsche Bundesbank)
    Abstract: We argue that a higher share of the private sector in a country’s external debt raises the incentive to stabilize the exchange rate. We present a simple model in which exchange rate volatility does not affect agents’ welfare if all the debt is incurred by the government. Once we introduce private banks who borrow in foreign currency and lend to domestic firms, the monetary authority has an incentive to dampen the distributional consequences of exchange rate fluctuations. Our empirical results support the hypothesis that not only the level, but also the composition of foreign debt matters for exchange-rate policy.
    Date: 2009–12
  12. By: Helena Marques (Universitat de les Illes Balears); Gabriel Pino (Universidad de Concepción, Chile); J.D.Tena (Universidad di Sassari, Italia y Universidad Carlos III, Spain)
    Abstract: This paper provides empirical evidence of the role of spatial factors on the determination of inflation dynamics for a representative set of tradable commodities in Chile. We present a simple model that explains inflation divergence across regions in a monetary union with similar preferences as a consequence of the geographical allocation of producers in the different regions. Our results indicate that spatial allocation together with transport costs are important determinants of regional inflation while macroeconomic common factors do not play an important role in this process. Existing literature had obtained the opposite result for Europe and the reasons for that difference warrant further investigation. Moreover, we find that geographical distance seems to be a more appropriate measure of neighbourhood than the adjacency of regions.
    Keywords: regional inflation dynamics, space-time models, Chile
    JEL: E31 E52 E58 R11 C23 C21
    Date: 2009
  13. By: Florian Heider (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Marie Hoerova (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Cornelia Holthausen (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.)
    Abstract: We study the functioning and possible breakdown of the interbank market in the presence of counterparty risk. We allow banks to have private information about the risk of their assets. We show how banks’ asset risk affects funding liquidity in the interbank market. Several interbank market regimes can arise: i) normal state with low interest rates; ii) turmoil state with adverse selection and elevated rates; and iii) market breakdown with liquidity hoarding. We provide an explanation for observed developments in the interbank market before and during the 2007-09 financial crisis (dramatic increases of unsecured rates and excess reserves banks hold, as well as the inability of massive liquidity injections by central banks to restore interbank activity). We use the model to discuss various policy responses. JEL Classification: G01, G21, D82.
    Keywords: Financial crisis, Interbank market, Liquidity, Counterparty risk, Asymmetric information.
    Date: 2009–12
  14. By: Martin, Christopher; Milas, C
    Abstract: We present empirical evidence that the marked rise in liquidity in 2001-2007 was due to large and persistent current account deficits and loose monetary policy. If this increase in liquidity was a pre-condition for the financial crisis that began in July 2007, we can conclude that loose monetary and the deterioration in current account balances were causes of the financial crisis.
    Keywords: financial crisis; liquidity; monetary policy; global imbalances
    Date: 2009
  15. By: Thorsten Lehnert (Luxembourg School of Finance, University of Luxembourg); Aleksandar Andonov (Limburg Institute of Financial Economics, Maastricht University); Florian Bardong (Fixed Income Research, Barclays Global Investors, London)
    Abstract: Previous research indicates that the US market for inflation-linked bonds is not efficient and that market inefficiencies can be exploited by informed traders who include survey estimations or inflation model forecasts in trades on break-even inflation. Results from this extended research over a time-period in which the TIPS market matured and increased in depth, while the volatility of real yields and inflation increased, confirm that TIPS market inefficiency was not temporary but persisted over the entire time period between 1997 and 2009. Using estimations generated by the Survey of Professional Forecasters or forecasts based on the Kothari and Shanken (2004) inflation model to construct a break-even trading strategy leads to excess returns over a static buy-and-hold strategy. These excess returns remain substantial even after accounting for trading costs. Furthermore, TIPS returns still include a substantial liquidity premium, which increased during the financial crisis.
    Keywords: TIPS, market, inflation expectations, survey of Professional Forecasters, financial crisis
    JEL: E31 E43 E44
    Date: 2009
  16. By: Luca Benati (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.)
    Abstract: Policy counterfactuals based on estimated structural VARs routinely suggest that bringing Alan Greenspan back in the 1970s’ United States would not have prevented the Great Inflation. We show that a standard policy counterfactual suggests that the Bundesbank–which is near-universally credited for sparing West Germany the Great Inflation–would also not have been able to prevent the Great Inflation in the United States. The sheer implausibility of this result sounds a cautionary note on taking the outcome of SVAR-based policy counterfactuals at face value, and raises questions on the very reliability of such exercises. JEL Classification: E32, E47, E52, E58.
    Keywords: Bayesian VARs; time-varying parameters; stochastic volatility; identified VARs; Great Inflation; policy counterfactuals.
    Date: 2009–12
  17. By: Ronny Mazzocchi; Roberto Tamborini; Hans-Michael Trautwein
    Abstract: The current consensus in macroeconomics, as represented by the New Neoclassical Synthesis, is to work within frameworks that combine intertemporal optimization, imperfect competition and sticky prices. We contrast this “NNS triangle” with a model in the spirit of Wicksell and Keynes that sets the focus on interest-rate misalignments as problems of intertemporal coordination of consumption and production plans in imperfect capital markets. We show that, with minimal deviations from the standard perfect competition model, a model structure can be derived that looks similar to the NNS triangle, but yields substantially different conclusions with regard to the dynamics of inflation and output gaps and to the design of the appropriate rule for monetary policy.
    JEL: E20 E31 E32 E52 D84
    Date: 2009
  18. By: Richard Dutu; Benoit Julien; Ian King
    Abstract: When goods are sold through competing auctions, what e¤ect does monetary policy have on the equilibrium allocation? To answer, we extend the competing auctions framework in several ways: buyers choose how much money they bring to an auction, the quantities traded at the auctions are endogenous, and sellers can charge a fee (either positive or negative) to buyers participating in their auction. We present two di¤erent speci?cations of the model. In the ?rst model, sellers post a quantity they wish to sell and a fee, and allow the price to be determined by an auction. In the second model, sellers post a price and a fee and allow the quantity sold to be determined by an auction. When sellers post a quantity and buyers bid prices, the Friedman rule implements the ?rst best and, in this case, no fee is charged by sellers. Sellers charge buyers a participation fee as soon as the nominal interest rate is positive, and marginal increments in money growth decrease both the posted quantity and buyers?entry. The use of auction fees reduces welfare in this environment. When sellers post a price and buyers bid quantities, the Friedman rule is optimal but does not yield the ?rst best as agents trade an ine¢ ciently low quantity in multilateral matches and an ine¢ ciently high quantity in pairwise matches. Marginal increments in money growth decrease the posted real price and the quantities traded. When the interest rate is low, sellers pay buyers who participate in their auction, which increases welfare. When the interest rate is high, sellers charge buyers who participate in their auction, which reduces welfare.
    Keywords: Competing auctions; money; search; in?ation; auction fees
    JEL: C78 D44 E40
    Date: 2009
  19. By: Pierre M. Picard; Tim Worrall (CREA, University of Luxembourg)
    Abstract: This paper considers a simple stochastic model of international trade with three countries. Two of the tree countries are in an economic union. Comparisons are made between equilibrium welfare for these two countries under fixed and flexible exchange rate regimes. Within the model it is shown that flexible exchange rate regimes generate greater welfare. However, we then consider comparisons of welfare when the two countries also engage in some international assistance in order to share risk. Such risksharing is limited by enforcement constraints of cross border assistance. It is shown that, when one takes into account risk-sharing and limited commitment, fixed exchange rate regimes associated with a currency area can dominate flexible exchange rate regimes, which reverses the standard result.
    JEL: F12 F15 F31 F33
    Date: 2009
  20. By: Marcel Fratzscher (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Christian Saborowski (University of Warwick, Coventry CV4 7AL, United Kingdom.); Roland Straub (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.)
    Abstract: The paper shows that monetary policy shocks exert a substantial effect on the size and composition of capital flows and the trade balance for the United States, with a 100 basis point easing raising net capital inflows and lowering the trade balance by 1% of GDP, and explaining about 20-25% of their time variation. Monetary policy easing causes positive returns to both equities and bonds. Yet such a monetary policy easing shock also induces a shift in portfolio composition out of equities and into bonds, implying a negative conditional correlation between flows in equities and bonds. Moreover, such shocks induce a negative conditional correlation between equity flows and equity returns, but a positive conditional correlation between bond flows and bond returns. The findings thus provide evidence for the presence of a portfolio rebalancing motive behind investment decisions in equities, but the dominance of what is akin to a return chasing motive for bonds, conditional on monetary policy shocks. The results also shed light on the puzzle of the strongly time-varying equity-bond return correlations found in the literature. JEL Classification: F4, E52, G1, F32.
    Keywords: monetary policy, trade balance, capital flows, portfolio choice, asset prices, United States, vector auto regressions, sign restrictions.
    Date: 2009–12
  21. By: Eduardo Levy-Yeyati; Federico Sturzenegger; Iliana Reggio
    Abstract: The literature has identified three main approaches to account for the way exchange rate regimes are chosen: i) the optimal currency area theory; ii) the financial view, which highlights the consequences of international financial integration; and iii) the political view, which stresses the use of exchange rate anchors as credibility enhancers in politically challenged economies. Using de facto and de jure regime classifications, we test the empirical relevance of these approaches separately and jointly. We find overall empirical support for all of them, although the incidence of financial and political aspects varies substantially between industrial and non-industrial economies. Furthermore, we find that the link between de facto regimes and their underlying fundamentals has been surprisingly stable over the years, suggesting that the global trends often highlighted in the literature can be traced back to the evolution of their natural determinants, and that actual policies have been little influenced by the frequent twist and turns in the exchange rate regime debate.
    Keywords: Exchange rates, Growth, Impossible trinity, Dollarization, Capital flows
    JEL: F30 F33
    Date: 2009–11
  22. By: Jørn Inge Halvorsen (Norges Bank and Norwegian School of Management (BI)); Dag Henning Jacobsen (Norges Bank (Central Bank of Norway))
    Abstract: We analyze the importance of bank lending shocks on real activity in Norway and the UK, using structural VARs and based on quarterly data for the past 21 years. The VARs are identified using a combination of sign and short-term zero restrictions, allowing for simultaneous interaction between various variables. We find that a negative bank lending shock causes output to contract. The significance of bank lending shocks seems evident as they explain a substantial share of output gap variability. This suggests that the banking sector is an important source of shocks. The empirical analysis comprises the Norwegian banking crisis (1988-1993) and the recent period of banking failures and recession in the UK. The results are clearly non-negligible also when omitting periods of systemic banking distress from the sample.
    Keywords: Identification, VAR, Monetary Policy, Bank lending.
    Date: 2009–12
  23. By: Ganugi, P; Grossi, L; Ianulardo, Giancarlo
    Abstract: This paper investigates the demand for money by firms and the existence of economies of scales in order to evaluate the efficiency in the cash management of the Italian manufacturing industry. We estimate a money demand for cash elaborated by Fujiki and Mulligan (1996). Estimates differ from the previous literature firstly, because we use a choice dynamic model to overcome endogeneity problems in cash holdings; secondly, because we use an iterative procedure based on backward exclusion of firms from model estimation with which we point out the high heterogeneity of Italian companies in money demand. Our estimates show that the Italian Manufacturing industry, considered as whole, does not enjoy scale economies in money demand. Our iterative procedure points out that the cause of this result is to be ascribed to small firms which are characterized by thin cash money holdings and a consequently very modest opportunity cost. Once small size firms are removed from our data set our estimates reveal that money demand of medium and large size firms is different for high scale economies. This result, together with the fact that small firms’ cash balances are thin, implies the efficiency of Italian manufacturing industry.
    Date: 2009
  24. By: Christian Wolff (Luxembourg School of Finance, University of Luxembourg); Ron Jongen (Erasmus School of Economics, Erasmus University Rotterdam); Willem F.C. Verschoor
    Abstract: Using a large, previously unexplored international dataset of market expectations that covers a broad range of deposits, this paper presents a wealth of empirical evidence on the behavior of the term structure of interest rates in an international perspective. We find that our survey forecasts are of quite good quality, outperforming a relevant naive benchmark in most cases. We also find considerable international evidence in favor of rejecting the ‘pure’ version of the expectations hypothesis. We also find some evidence that the behavior of market participants, when making predictions about the future level of interest rates, is not entirely in line with rational behavior. There is strong evidence of time-variation in term premia. Furthermore, while this variation in term premia can be captured adequately by low-order members of the ARMA class models, there is clear evidence that conditional heteroskedasticity in the movement of term premia plays an important role in explaining the time-variation for a number of countries.
    Keywords: Interest rate expectations, expectations hypothesis, rationality, survey data, term structure, time-varying term premia.
    JEL: E43 G15 E42
    Date: 2009
  25. By: Terrence Kairiza (National Graduate Institute for Policy Studies)
    Abstract: The first impetus to Zimbabwe’s drive to hyperinflation and official dollarization predates the disruption in production caused by the fast-track land reform programme. The initial push came from the departure from relatively disciplined fiscal policies to a string of measures aimed at pacifying restive groups threatening political power through the transfer of economic and financial resources to those groups to the detriment of the fiscus. This stance caused investors to run away from the Zimbabwean currency thus causing currency depreciation hence inducing cost-push inflation which was worsened by the decline in production that accompanied the land reform programme and the associated disturbances to production in all sectors of the economy. The liquidity expansion by the central bank to prop the ruling party embodied in the quasi-fiscal activities veiled as expansionary Keynesian economics played a major role in firmly setting the stage for hyperinflation in the latter stages of the saga. In the backdrop of hyperinflation, the institution of official dollarization was merely de jure recognition of the unofficial dollarization that had set in. On the basis of Zimbabwe’s idiosyncrasies, the article contends that any attempt to dedollarize should be an endogenous outcome of a policy of macroeconomic stabilization.
    Keywords: Africa, Zimbabwe, Hyperinflation, Currency problems
    JEL: E31 E42 E58 E61 O55
    Date: 2009–09
  26. By: Thomas Scheiber (Oesterreichische Nationalbank, Foreign Research Division, Otto-Wagner-Platz 3, POB 61, A-1011 Vienna); Helmut Stix (Oesterreichische Nationalbank, Economic Studies Division, Otto-Wagner-Platz 3, POB 61, A-1011 Vienna)
    Abstract: We present new evidence on de facto euroization in eleven Central, Eastern and Southeastern European countries. Estimates of the extent of foreign currency cash holdings are derived from survey data. Furthermore, we define overall euroization indices, relating both assets and cash holdings. Results confirm that some countries are heavily euroized and that euro cash holdings constitute a sizeable share of local currency in circulation. Euroization levels in other –mainly Central European– countries are low and economically insignificant. Evidently, high euroization bears various significant consequences for economic policies. Therefore, we inquire on the determinants of euroization. We find that euroization is highly correlated with the quality of past economic governance, reflecting past periods of instabilities. In contrast, the more recent –pre-financial crisis– course of economic history had only limited impact. Thus, our results are in line with the view that policy makers in highly euroized countries are severely constrained by past events and that euroization levels might be difficult to revert through stable macroeconomic policies.
    Keywords: Dollarization, Euroization, Currency Substitution, Survey Data, Central,Eastern, Southeastern, Europe, CEE, SEE
    JEL: E41 E50 D14
    Date: 2009–11–27
  27. By: Masaaki Fujii (Graduate School of Economics, University of Tokyo); Yasufumi Shimada (Capital Markets Division, Shinsei Bank, Limited); Akihiko Takahashi (Faculty of Economics, University of Tokyo)
    Abstract: The recent financial crisis caused dramatic widening and elevated volatilities among basis spreads in cross currency as well as domestic interest rate markets. Furthermore, the wide spread use of cash collateral, especially in fixed income contracts, has made the effective funding cost of financial institutions for the trades significantly different from the Libor of the corresponding payment currency. Because of these market developments, the text-book style application of a market model of interest rates has now become inappropriate for financial firms; It cannot even reflect the exposures to these basis spreads in pricing, to say nothing of proper delta and vega (or kappa) hedges against their movements. This paper presents a new framework of the market model to address all these issues.
    Date: 2009–12
  28. By: Dennis P. Lockhart
    Abstract: Remarks at the World Affairs Council of Jacksonville, Jacksonville, Florida, September 10, 2009
    Keywords: Federal Reserve banks ; Economic development
    Date: 2009
  29. By: Jan Willem van den End; Mostafa Tabbae
    Abstract: This paper provides empirical evidence of behavioural responses by banks and their contribution to system-wide liquidity stress. Using firm-specific balance sheet data, we construct aggregate indicators of macro-prudential risk. Measures of size and herding show that balance sheet adjustments have been pro-cyclical in the crisis, while responses became increasingly dependent across banks and concentrated on certain market segments. Banks' reactions were shaped by decreased risk tolerance and limited flexibility in risk management. Regression analysis confirms that their behaviour contributed to financial sector stress. The behavioural measures are useful tools for monetary and macro prudential analyses and can improve the micro foundations of financial stability models. 
    Keywords: banking; financial stability; stress-tests; liquidity risk.
    JEL: C15 E44 G21 G32
    Date: 2009–12

This nep-mon issue is ©2010 by Bernd Hayo. It is provided as is without any express or implied warranty. It may be freely redistributed in whole or in part for any purpose. If distributed in part, please include this notice.
General information on the NEP project can be found at For comments please write to the director of NEP, Marco Novarese at <>. Put “NEP” in the subject, otherwise your mail may be rejected.
NEP’s infrastructure is sponsored by the School of Economics and Finance of Massey University in New Zealand.