nep-mon New Economics Papers
on Monetary Economics
Issue of 2010‒03‒06
thirteen papers chosen by
Bernd Hayo
Philipps-University Marburg

  1. Effects of Reserve Requirements in an Inflation Targeting Regime: The Case of Colombia By Hernando Vargas Herrera; Carlos Varela; Yanneth R. Betancourt; Norberto Rodríguez
  2. Risk premium shocks, monetary policy and exchange rate pass-through in the Czech Republic, Hungary and Poland By Balázs Vonnák
  3. Optimal monetary policy in a small open economy with financial frictions By Merola, Rossana
  4. Money and Inflation: The Role of Persistent Velocity Movements By Makram El-Shagi; Sebastian Giesen
  5. How Soon? How Fast? Interest Rates and Other Monetary Policy Decisions in 2010 By Michael Parkin
  6. Central Bank Dollar Swap Lines and Overseas Dollar Funding Costs By Linda S. Goldberg; Craig Kennedy; Jason Miu
  7. The Role of Central Banks in Sustaining Economic Recovery and in Achieving Financial Stability By Siregar, Reza Yamora; Lim, CS Vincent
  8. Does the uncovered interest parity hold in short horizons? By Levent, Korap
  9. Quantitative easing works: Lessons from the unique experience in Japan 2001-2006 By Eric Girardin; Zakaria Moussa
  10. Interbank Offered Rate: Effects of the financial crisis on the information content of the fixing By Vincent Brousseau; Alexandre Chailloux; Alain Durré
  11. Is the Chinese currency substantially misaligned to warrant further appreciation? By Qin, Duo; He, Xinhua
  13. The Role of Central Bank Transparency for Guiding Private Sector Forecasts. By Ehrmann, M.; Eijffinger, S.C.W.; Fratzcher, M.

  1. By: Hernando Vargas Herrera; Carlos Varela; Yanneth R. Betancourt; Norberto Rodríguez
    Abstract: The Colombian economy and financial system have coped reasonably well with the effects of the global financial crisis. Hence, “unconventional” policy measures have not been at the center of the policy decisions and discussions. Nominal short term interest rates have remained the main monetary policy tool and “Quantitative easing” measures have not been central in the policy response. The one “unconventional” monetary instrument used by the Central Bank in Colombia has been changes in reserve requirements (RR) on financial system deposits. Interestingly, they were adopted before the global financial crisis, as a reaction to domestic credit conditions. The effects of RR on interest rate and interest rate pass-through in an inflation targeting regime are not as straightforward as those under a monetary targeting regime. Conceptually, those effects depend on the degree of substitution between deposits and central bank credit as sources of funds for banks and on the extent to which RR changes affect the risks facing banks. The empirical results for Colombia suggest that RR are important long run determinants of business loan interest rates and have been effective in strengthening the pass-through from policy to deposit and lending interest rates.
    Date: 2010–02–11
  2. By: Balázs Vonnák (Magyar Nemzeti Bank)
    Abstract: This paper investigates the role of monetary policy in a small open economy, where exchange rate shocks are important. VAR models are estimated for the Czech Republic, Hungary and Poland. Contemporaneous and sign restrictions are imposed in order to identify the effect of monetary policy and risk premium shocks. Estimates from the same model for Canada, Sweden and the UK are used as benchmark for developed economies with low inflation. The results suggest that the typical size a of risk premium shock renders it almost impossible for the interest rate policy to smooth the exchange rate with the aim of minimising inflationary consequences. On the other hand, low inflation may decrease the exchange rate pass-through, which helps the monetary policy ignore exchange rate shocks.
    Keywords: monetary policy, risk premium shocks, exchange rate pass-through, structural VAR, sign restriction.
    JEL: E31 E52 F31
    Date: 2010
  3. By: Merola, Rossana
    Abstract: I analyze how the introduction of financial frictions can affect the trade-off between output stabilization and inflation stability and whether, in the presence of financial frictions, the optimal outcome can be realized or approached more closely if monetary policy is allowed to react to aggregate financial variables. Moreover, I explore the issue of whether an inflation targeting cum exchange rate stabilization and a price-level targeting are more suitable rules in minimizing distortions generated by the presence of liabilities defined in foreign currency and in nominal terms. I find that, when the financial accelerator mechanism is working, a price-level targeting rule dominates. One caveat is that the source of the shock plays an important role. Onee the financial shock is not operative, the gain fram a price-level targeting rule decreases significantly. --
    Keywords: Monetary policy,Taylor rule,financial accelerator,price-level targeting,asset prices
    JEL: E31 E44 E52 E58
    Date: 2010
  4. By: Makram El-Shagi; Sebastian Giesen
    Abstract: While the long run relation between money and inflation is well established, empirical evidence on the adjustment to the long run equilibrium is very heterogeneous. In the present paper we use a multivariate state space framework, that substantially expands the traditional vector error correction approach, to analyze the short run impact of money on prices. We contribute to the literature in three ways: First, we distinguish changes in velocity of money that are due to institutional developments and thus do not induce inflationary pressure, and changes that reflect transitory movements in money demand. This is achieved with a newly developed multivariate unobserved components decomposition. Second, we analyze whether the high volatility of the transmission from monetary pressure to inflation follows some structure, i.e., if the parameter regime can assumed to be constant. Finally, we use our model to illustrate the consequences of the monetary policy of the Fed that has been employed to mitigate the impact of the financial crisis, simulating different exit strategy scenarios.
    Keywords: Velocity,multivariatestatespacemodel,in?ation,money
    JEL: E31 E52 C32
    Date: 2010–02
  5. By: Michael Parkin (University of Western Ontario)
    Abstract: With the economic recovery taking hold and the Bank of Canada’s conditional commitment to keep the overnight rate at 0.25 percent expiring soon, a number of questions about the conduct of monetary policy need to be considered. The author argues the Bank should keep its conditional commitment, but should thereafter raise the overnight rate sharply by 50 basis points at every announcement date until mid-2011. In addition, the Bank should publish conditional statements about the future path of the policy rate to help shape market expectations and avoid surprises that disrupt financial markets, output, and employment. Further, the Bank should withdraw its injection of excess reserves at a future preannounced date and should gradually wind down credit easing measures.
    Keywords: Monetary Policy, Bank of Canada, overnight interest rate
    JEL: E58 E52
    Date: 2010–02
  6. By: Linda S. Goldberg; Craig Kennedy; Jason Miu
    Abstract: Following a scarcity of dollar funding available internationally to banks and financial institutions, starting in December 2007 the Federal Reserve established or expanded Temporary Reciprocal Currency Arrangements with fourteen foreign central banks. These central banks had the capacity to use these swap facilities to provide dollar liquidity to institutions in their jurisdictions. This paper presents the developments in the dollar swap facilities through the end of 2009. The facilities were a response to dollar funding shortages outside the United States during a period of market dysfunction. Formal research, as well as more descriptive accounts, suggests that the dollar swap lines among central banks were effective at reducing the dollar funding pressures abroad and stresses in money markets. The central bank dollar swap facilities are an important part of a toolbox for dealing with systemic liquidity disruptions.
    JEL: E44 F36 G32
    Date: 2010–02
  7. By: Siregar, Reza Yamora; Lim, CS Vincent
    Abstract: Whenever a financial crisis occurs, threatening a possible financial meltdown, central banks have to be at the forefront in combating, neutralizing the crisis and restoring financial stability and economic growth. In this regards, the present sub-prime crisis which originated from the US highlights a few key issues for the Southeast Asian Central banks (SEACEN). This paper reviews the policy responses to the crisis which include exit policy strategies from stimulus monetary packages. To strengthen the soundness of the financial system, going forward, the paper also highlights counter-cyclical and macro-prudential regulations that central banks may want to actively look into. These include cross-border policy cooperation and coordination, particularly in the form of the college of supervisors.
    Keywords: - SEACEN; -Central Banks; - Financial Stability; - Prudential Regulation; -Supervision.
    JEL: E58 E44 E41
    Date: 2010–02–15
  8. By: Levent, Korap
    Abstract: In this article, one of the contemporaneous monetary theories of exchange rate determination, namely uncovered interest parity (UIP), is examined. The UIP hypothesis assumes that if capital is perfectly mobile, then investors around the world will be indifferent between holding their portfolios in domestic or foreign securities, because they obtain the same return from these assets. Based on a theoretical formulation, our ex post estimation results employing four developed countries exchange rates vis-á-vis US dollar indicate the failure of the UIP hypothesis using short-horizon interest differential and future spot exchange rate data, in line with most empirical papers in the economics literature.
    Keywords: Uncovered interest parity; GMM estimator
    JEL: F41 F31
    Date: 2010
  9. By: Eric Girardin (GREQAM - Groupement de Recherche en Économie Quantitative d'Aix-Marseille - Université de la Méditerranée - Aix-Marseille II - Université Paul Cézanne - Aix-Marseille III - Ecole des Hautes Etudes en Sciences Sociales (EHESS) - CNRS : UMR6579); Zakaria Moussa (GREQAM - Groupement de Recherche en Économie Quantitative d'Aix-Marseille - Université de la Méditerranée - Aix-Marseille II - Université Paul Cézanne - Aix-Marseille III - Ecole des Hautes Etudes en Sciences Sociales (EHESS) - CNRS : UMR6579)
    Abstract: The current financial crisis has now led most major central banks to rely covertly or overtly on quantitative easing. The unique Japanese experience of quantitative easing is the only experience which enables us to judge this therapy's effectiveness and the timing of the exit strategy. This paper provides a new empirical framework to examine the effectiveness of Japanese monetary policy during the "lost" decade and quantify the effect of quantitative easing on Japan's activity and prices. We combine advantages of Markov-Switching VAR methodology with those of factor analysis to establish two major findings. First, we show that the decisive change in regime occurred in two steps: it crept out from late 1995 and established itself durably in February 1999. Second, we show for the first time that quantitative easing was able not only to prevent further recession and deflation but also to provide considerable stimulation to both output and prices. If Japanese experience is any guide the quantitative easing policy must be seen as a symptomatic treatment; it must be accompanied with a dramatic restructuring in the financial framework. The exit from quantitative easing must be postponed and decided within a clear program and according to clear numerical objectives.
    Keywords: Markov-switching; Factor-Augmented VAR; Japan; Monetary policy; Transmission channels
    Date: 2010–02–23
  10. By: Vincent Brousseau (IESEG School of Management); Alexandre Chailloux (International Monetary Fund); Alain Durré (IESEG School of Management, LEM-CNRS (UMR 8179))
    Abstract: With the onset of the financial turmoil in August 2007, pricing references on the money market interest rates have been shocked. The segment of unsecured deposit transactions, which represent the cornerstone of capital markets, and is used as basis for the setting of money market benchmark essential to the indexing of trillions of derivative contracts and loans, has been particularly damaged by the surge in counterparty risk. The lack of confidence between traders and the growing fear of counterparty’s bankruptcies have led progressively to a drying out of the unsecured market turnover. After a relative improvement in early 2008, market activity in the unsecured market has again dried up with the reinforcement of the financial crisis following the collapse of Lehman Brothers. Although there are good reasons to think that the market activity in the cash unsecured segment of the money market has remained distorted, in particular for maturities beyond the very short-term, the OIS-LIBOR spreads have been declining extremely steadily since January 2009, both in major currencies and at various maturities, seemingly pointing to a normalization of the money market. On the basis of a simple econometric supported by statistical evidence applied to the euro area date, this paper analyses whether recent developments in the unsecured interest rates actually support a diagnosis of renewed market activity, and of normalization of the unsecured market.
    Keywords: LIBOR, EURIBOR, secured segment, fixings, market distortions, financial crisis.
    JEL: G14 C02 C32
    Date: 2009–12
  11. By: Qin, Duo; He, Xinhua
    Abstract: This study provides quarterly time-series estimates of the misalignment in the REER of the Renminbi (RMB). The estimation is based on a commonly used economic approach, but with a wider and more up-to-date coverage of data and a more extensive use of econometric modelling techniques. Our estimates corroborate and explain most of the previous estimates. More importantly, our estimates demonstrate that there is no significant undervaluation in the REER of the RMB though downward misalignment exists in the trilateral rates between the RMB, US$ and euro. The finding refutes the claim that RMB appreciation is the primary and necessary solution to the current global trade imbalance. --
    Keywords: Real exchange rate misalignment
    JEL: F31 F41
    Date: 2010
  12. By: Patrick Honohan; Gavin Murphy (Institute for International Integration Studies, Trinity College Dublin)
    Abstract: Ireland had been considering a break in the long-standing currency link with sterling for some time when the ideal opportunity of a new exchange rate regime – potentially retaining the sterling link while stabilizing other exchange rates – seemed to offer itself in the form of the “zone of monetary stability in Europe” proposed by France and Germany in April 1978. Based on newly released archives, this paper reviews the evolving attitude of Irish officials and the Irish Government over the following months as the decision gradually shifted to one of breaking the sterling link and rejoining what was little more than an expanded “Snake” arrangement; the UK having decided to stay out. While financial issues were to the fore in the discussions, the final decision to join was based on a strategic vision that Ireland’s economic and political future lay with Europe rather than with the former colonial power.
    Date: 2010–02
  13. By: Ehrmann, M.; Eijffinger, S.C.W. (Tilburg University); Fratzcher, M.
    Date: 2010

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