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on Monetary Economics |
| By: | Christian Dreger; Jürgen Wolters |
| Abstract: | This paper examines the forecasting performance of a broad monetary aggregate (M3) in predicting euro area inflation. Excess liquidity is measured as the difference between the actual money stock and its fundamental value, the latter determined by a money demand function. The out-of sample forecasting performance is compared to widely used alternatives, such as the term structure of interest rates. The results indicate that the evolution of M3 is still in line with money demand even in the period of the financial and economic crisis. Monetary indicators are useful to predict inflation at the longer horizons, especially if the forecasting equations are based on measures of excess liquid-ity. Due to the stable link between money and inflation, central banks should implement exit strategies from the current policy path, as soon as the financial conditions are ex-pected to return to normality. |
| Keywords: | Money demand, excess liquidity, money and inflation |
| JEL: | C22 C52 E41 |
| Date: | 2010 |
| URL: | http://d.repec.org/n?u=RePEc:diw:diwwpp:dp1064&r=mon |
| By: | Cwik, Tobias; Müller, Gernot; Wolters, Maik H |
| Abstract: | This paper explores the role of trade integration - or openness - for monetary policy transmission in a medium-scale new Keynesian model. Allowing for strategic complementarities in price-setting, we highlight a new dimension of the exchange rate channel by which monetary policy directly impacts domestic inflation: a monetary contraction which appreciates the exchange rate lowers the local currency price of imported goods; this, in turn, induces domestic producers to lower their prices too. We pin down key parameters of the model by matching impulse responses obtained from a vector autoregression on time series for the US relative to the euro area. Our estimation procedure yields plausible parameter values and suggests a strong role for strategic complementarities. Counterfactual simulations show that openness alters monetary transmission significantly. While the contractionary effect of a monetary policy shock on inflation and output tends to increase in openness, we find that monetary policy's control over inflation increases, as the output decline which is necessary to bring about a given reduction of inflation is smaller in more open economies. |
| Keywords: | exchange rate channel; monetary policy transmission; open economy; strategic complementarity; trade integration |
| JEL: | E52 F41 F42 |
| Date: | 2010–09 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:8026&r=mon |
| By: | Shakill Hassan; Félix Simione |
| Abstract: | Microstructure aspects of nominal exchange rate determination are less relevant in countries with embryonic financial markets. In less-developed economies, trade in goods and services is a more significant driver of currency demand than financial market speculation or hedging; and central banks actively set monetary variables. We develop a simple variation of the standard monetary model of exchange rate determination, incorporating interest rate rules but not relying on interest rate parity; and study the effect of monetary fundamentals on the Mozambican exchange rate. We find a long-run relationship between fundamentals and exchange rates, with coefficient signs in regression equations consistent with theoretic predictions. Moreover, the monetary model outperforms a random walk in predicting metical exchange rates out-of-sample at the four-quarter horizon. |
| Date: | 2010 |
| URL: | http://d.repec.org/n?u=RePEc:rza:wpaper:192&r=mon |
| By: | Michele Lenza (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Huw Pill (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Lucrezia Reichlin (London Business School.) |
| Abstract: | This paper describes the response of three central banks to the 2007-09 financial crisis: the European Central Bank, the Federal Reserve and the Bank of England. In particular, the paper discusses the design, implementation and impact of so-called "non-standard" monetary policy measures focusing on those introduced in the euro area in the aftermath of the failure of Lehman Brothers in September 2008. Having established the impact of these measures on various observable money market spreads, we propose an empirical exercise intended to quantify the macroeconomic impact of non-standard monetary policy measures insofar as it has been transmitted via these spreads. The results suggest that non-standard measures have played a quantitatively significant role in stabilising the financial sector and economy after the collapse of Lehman Bros., even if insufficient to avoid a significant fall in economic and financial activity. JEL Classification: E52, E58. |
| Keywords: | Non-standard monetary policy, financial crisis. |
| Date: | 2010–10 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20101253&r=mon |
| By: | Guonan Ma; Robert McCauley |
| Abstract: | The Chinese authorities described the management of the renminbi after its 2005 unpegging from the US dollar as involving a basket of trading partner currencies. Outside analysts have detected few signs of such management. We find that, in the two years from mid-2006 to mid-2008, the renminbi strengthened gradually against trading partners' currencies within a narrow band. In mid-2008, the financial crisis interrupted this experiment and the bilateral renminbi/dollar exchange rate stabilised at 6.8. The 2006-08 experience suggests that a shared policy of gradual nominal effective appreciation renders East Asian currencies quite stable against one another. Such a shared policy would create favourable conditions for regional monetary cooperation. |
| Keywords: | exchange rate regime, renminbi, effective exchange rate, regional currency stability, regional monetary cooperation |
| Date: | 2010–09 |
| URL: | http://d.repec.org/n?u=RePEc:bis:biswps:321&r=mon |
| By: | Jan Marc Berk; Beata Bierut; Ellen Meade |
| Abstract: | The literature on the behavior of the Bank of England’s Monetary Policy Committee (MPC) has focused on static voting patterns. We find statistical support for a dynamic pattern using a panel reaction function to analyze MPC votes over the 1997-2008 period. We find that internal and external members do not behave differently in their first year on the MPC. In their third year of tenure, internal members prefer higher policy rates, placing a higher weight on price stability and a lower weight on the output gap than external members. |
| Keywords: | Central banking; Monetary policy committees; Bank of England; Voting |
| JEL: | D71 D72 E52 E58 |
| Date: | 2010–09 |
| URL: | http://d.repec.org/n?u=RePEc:dnb:dnbwpp:261&r=mon |
| By: | Galí, Jordi |
| Abstract: | Central banks' projections--i.e. forecasts conditional on a given interest rate path-- are often criticized on the grounds that their underlying policy assumptions are inconsistent with the existence of a unique equilibrium in many forward-looking models. Here I describe three alternative approaches to constructing projections that are not subject to the above criticism, using two different versions of New Keynesian model as reference frameworks. Most importantly, I show how the three approaches generate different projections for inflation and output, even though they imply an identical path for the interest rate. The latter result calls into question the meaning and usefulness of such projections. |
| Keywords: | conditinal forecats; constant interest rate projections; inflation targeting; interest rate path; interest rate rules; multiple equilibria |
| JEL: | E37 E58 |
| Date: | 2010–09 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:8027&r=mon |
| By: | Angela Maddaloni (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); José-Luis Peydró (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.) |
| Abstract: | Using a unique dataset of the Euro area and the U.S. bank lending standards, we find that low (monetary policy) short-term interest rates soften standards, for household and corporate loans. This softening – especially for mortgages – is amplified by securitization activity, weak supervision for bank capital and too low for too long monetary policy rates. Conversely, low long-term interest rates do not soften lending standards. Finally, countries with softer lending standards before the crisis related to negative Taylor-rule residuals experienced a worse economic performance afterwards. These results help shed light on the origins of the crisis and have important policy implications. JEL Classification: G01, G21, G28, E44, E5. |
| Keywords: | lending standards, monetary policy, securitization, bank capital, financial stability. |
| Date: | 2010–10 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20101248&r=mon |
| By: | László Bokor (Budapest University of Technology and Economics) |
| Abstract: | This paper provides a sensitivity analysis of the relative performance of inflation targeting, price level targeting, and hybrid targeting, the combination of these two. A simple, three-period, steady state to steady state economy is presented, where monetary policy is facing various sets of forward and backward looking expectations, social preferences on inflation and output gap stabilization, and degrees of cost push shock persistence. we derive optimal policy mix under the whole spectrum of these economic conditions, reporting also the criteria of the replicability of the theoretically optimal solution. The main intention of the examination is to reveal the nature of each interrelation between economic and policy parameters. The results show that (i) the relative strength of regimes depends heavily on the preconditions, and that (ii) the relationships of parameters related to the performance are non-linear and occasionally non-monotonic as well. our model specification is somewhat restrictive, however, contrary to the related literature, the examination, even in the intermediate cases, can be conducted analytically. |
| Keywords: | hybrid inflation-price level targeting, hybrid new keynesian Phillips curve, cost push shock persistence |
| JEL: | E50 E52 E58 |
| Date: | 2010 |
| URL: | http://d.repec.org/n?u=RePEc:mnb:wpaper:2010/08&r=mon |
| By: | Farrokh Nourzad (Economics Department Marquette University); Barry Huston (Economics Department Marquette University); James M. McGibany (Economics Department Marquette University) |
| Abstract: | This paper uses a simultaneous-equations model of the new consensus macroeconomic model to examine whether the inclusion of the money stock in the aggregate demand function improves the statistical fit of the model. The results indicate that the consensus model is accurate for the U.S. in that the inclusion of money does not increase the predictive power of the model. However, the results reveal that the estimated coefficients are more robust when money is included as an instrumental variable in the simultaneous equations consensus model |
| Keywords: | Consensus Macro Model; Monetary Policy; Phillips Curve; Taylor Rule |
| JEL: | C30 C52 E32 |
| Date: | 2010–09 |
| URL: | http://d.repec.org/n?u=RePEc:mrq:wpaper:1007&r=mon |
| By: | Jimborean, R.; Mésonnier, J-S. |
| Abstract: | We propose a novel approach to assess whether banks' financial conditions, as reflected by bank-level information, matter for the transmission of monetary policy, while reconciling the micro and macro levels of analysis. We include factors summarizing large sets of individual bank balance sheet ratios in a standard factor-augmented vector autoregression model (FAVAR) of the French economy. We first find that factors extracted from banks' liquidity and leverage ratios predict macroeconomic fluctuations. This suggests a potential scope for macroprudential policies aimed at dampening the procyclical effects of adjustments in banks' balance sheets structure. However, we also find that fluctuations in bank ratio factors are largely irrelevant for the transmission of monetary shocks. Thus, there is little point monitoring the information contained in bank balance sheets, above the information already contained in credit aggregates, as far as monetary policy transmission is concerned. |
| Keywords: | Monetary transmission; Credit channel; Factor Augmented Vector Autoregression (FAVAR). |
| JEL: | E44 E52 G21 |
| Date: | 2010 |
| URL: | http://d.repec.org/n?u=RePEc:bfr:banfra:291&r=mon |
| By: | Nuno Cassola (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Michael Huetl (University of St. Gallen, Swiss Institute of Banking and Finance, Rosenbergstrasse 52, 9000 St. Gallen, Switzerland.) |
| Abstract: | We analyze the impact of the recent financial market crisis on the Euro Overnight Index Average (EONIA) and interbank market trading and assess the effectiveness of the ECB liquidity policy between 07/2007 - 08/2008. We extend the model of [QM06] by (i) incorporating the microstructure of the EONIA market including the ECB fine-tuning operation on the last day of the maintenance period (MP) and banks’ daily excess liquidity, (ii) giving insight into banks’ trading behavior characterized by an endogenous regime-switch and suggesting an efficient procedure to simulate the entire MP, and (iii) proposing a model for market distortion due to lending constraints which lead to a bid-ask spread for the EONIA rate. The model is calibrated by simulation fitting daily EONIA rates and aggregate liquidity measures observed between March 2004 and September 2008. Besides lending constraints we consider market segmentation and aggregate liquidity shocks as possible market distortions in the crisis period. For a calibration cross-check and for estimating the timing of the endogenous regime-switch we use panel data covering liquidity data of 82 Euro Area commercial banks for the period 03/2003 - 07/2007. With the calibrated model the ECB policy of liquidity frontloading is evaluated and compared with a reserve band system policy similar to the Bank of England’s framework. We find that liquidity frontloading is a small scale central bank intervention which is capable of stabilizing interest rates in both frictionless and distorted markets. Simulations suggest that without frontloading the EONIA would have been, on average, 23 basis points above the policy rate (target); with frontloading, the overnight rate is, on average, on target. JEL Classification: E44, E52, G21. |
| Keywords: | liquidity management, open market operations, simulation, microstructure. |
| Date: | 2010–10 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20101247&r=mon |
| By: | Dirk Bezemer; Geoffrey Gardiner |
| Abstract: | This paper discusses recent UK monetary policies as instances of John Kenneth Galbraith's "innocent fraud," including the idea that money is a thing rather than a relationship, the fallacy of composition (i.e., that what is possible for one bank is possible for all banks), and the belief that the money supply can be controlled by reserves management. The origins of the idea of quantitative easing (QE), and its defense when it was applied in Britain, are analyzed through this lens. An empirical analysis of the effect of reserves on lending is conducted; we do not find evidence that QE "worked," either by a direct effect on money spending, or through an equity market effect. These findings are placed in a historical context in a comparison with earlier money control experiments in the UK. |
| Keywords: | Quantitative Easing; UK Innocent Frauds; Accounting |
| JEL: | E52 E58 |
| Date: | 2010–09 |
| URL: | http://d.repec.org/n?u=RePEc:lev:wrkpap:wp_622&r=mon |
| By: | Attila Csajbók (Magyar Nemzeti Bank); András Hudecz (Magyar Nemzeti Bank); Bálint Tamási (Magyar Nemzeti Bank) |
| Abstract: | The post-Lehman phase of the financial crisis has exposed a number of weaknesses in the banking sectors of the European Union’s New Member States (NMSs). One of these is the prevalence of lending in foreign currency. While banks themselves in these countries have not taken on sizeable currency risk directly, they passed it on to households and the corporate sector. With large depreciations taking place or looming in the region, the currency risk at households and corporates without a natural hedge is now being transformed into credit risk for the banking sector. This is creating a serious problem in maintaining financial stability and cripples monetary policy in countries where it operates primarily through the exchange rate channel. The patterns of foreign currency lending to households in NMSs vary widely both across countries and time periods. For example, FX lending to households is virtually non-existent in the Czech Republic while in some Baltic countries its share is close to 100 per cent of total household lending. The main goal of the paper is (1) to present the stylised facts of pre-crisis FX lending in NMSs systematically and (2) to try to explain these differing patterns in an econometric model. In order to do so, a panel database of household FX borrowing is compiled, covering 10 NMSs in the period 1999-2008. Our estimation results suggest that the degree of household FX borrowing depends on the interest rate differential, the institutional features of mortgage financing and the monetary regime. Household FX borrowing tends to be less prevalent if the interest rate differential is small, fixed interest rate mortgage financing is available and the monetary authority’s “fear of floating” is low. |
| Keywords: | foreign currency lending, new member states, credit risk, monetary policy |
| JEL: | E44 E50 G21 |
| Date: | 2010 |
| URL: | http://d.repec.org/n?u=RePEc:mnb:opaper:2010/87&r=mon |
| By: | Joseph K. W. Fung (Hong Kong Institute for Monetary Research and Hong Kong Baptist University); Robert I. Webb (Hong Kong Institute for Monetary Research and University of Virginia); Wing H. Chan (City University of Hong Kong and Wilfrid Laurier University) |
| Abstract: | This study examines whether information from derivative markets is useful for signaling "hot money" and other large capital flows in an economy where the monetary authority pursues a policy of exchange rate stability. Specifically, this study examines the information content of various Hong Kong traded derivative securities for signaling changes in the aggregate balance of the Hong Kong banking system during a period of intense IPO activity and speculation on the revaluation of the renminbi. The impact of the introduction of the Hong Kong Monetary Authority's (HKMA) Convertibility Undertakings on the dynamic relationships among capital flows, stock market volatility and stock market turnover is also examined. Finally, the implications for monetary policymakers in potentially using information from derivative markets are assessed. The results show that derivative markets contain useful information for signaling "hot money" flows. Granger causality tests from a VAR model show that Hong Kong dollar forward and RMB non-deliverable forward (NDF) prices predict future variation in the aggregate balance. Moreover, changes in aggregate balance has a significant impact on Hong Kong's interbank rates. The findings also suggest that the introduction of the May 18, 2005 Convertibility Undertakings may have increased the credibility of the Linked Exchange Rate System by discouraging the use of the Hong Kong dollar and Hong Kong dollar denominated assets as speculative vehicles on RMB denominated assets. |
| Date: | 2010–05 |
| URL: | http://d.repec.org/n?u=RePEc:hkm:wpaper:122010&r=mon |
| By: | Daniel Heymann (Departament of Economics, Universidad de San Andres & Universidad de Buenos Aires); Adrián Ramos (CEPAL & Universidad de Buenos Aires) |
| Keywords: | inflation, macroeconomic, policy, Argentina, convertibility |
| Date: | 2010–08 |
| URL: | http://d.repec.org/n?u=RePEc:sad:wpaper:104&r=mon |
| By: | Donghyun PARK and Andrew Rozanov; Donghyun PARK (Economics and Research Department (ERD), Asian Development Bank (ADB), 6 ADB Avenue, Mandaluyong City, PHILIPPINES 1550; Permal Investment Management Services Limited) |
| Abstract: | This paper explores the potential contribution of Asia’s sovereign wealth funds (SWFs) to the reform of the global foreign exchange reserve system. By diversifying the investment of Asia’s huge reserves into non-dollar denominated assets, Asian SWFs can help to dilute the dominant role of the US dollar as the global reserve currency. At the same time, by exposing reserve managers to a more diverse mix of currencies and asset classes, SWFs will better prepare them for the less dollar-centric global reserve system of the future. In addition to SWFs, other innovative policy options for more active reserve management include transferring some surplus reserves into national pension funds or into exchange traded funds which are distributed among local investors. Regardless of the exact form of more profit-oriented reserve management, it will require that countries build up a critical mass of skills and expertise in wealth preservation and management. |
| Keywords: | Foreign exchange reserves, global reserve system, global financial architecture, pension fund, exchange traded fund |
| JEL: | F31 F33 F21 |
| Date: | 2010–03 |
| URL: | http://d.repec.org/n?u=RePEc:nan:wpaper:1003&r=mon |
| By: | Wagenvoort, Rien (European Investment Bank, Economic and Financial Studies); Zwart, Sanne (European Investment Bank, Economic and Financial Studies) |
| Abstract: | We introduce Longitudinal Factor Analysis (LFA) to extract the Common Risk Free (CRF)rate from a sample of sovereign bonds of countries in a monetary union. Since LFA exploits the typically very large longitudinal dimension of bond data, it performs better than traditional factor analysis methods that rely on the much smaller cross-sectional dimension. European sovereign bond yields for the period 2006-2010 are decomposed into a CRF rate, a default risk premium, and a liquidity risk premium, shedding new light on issues such as benchmark status, flight-to-quality and flight-to-liquidity hypotheses. Our empirical findings suggest that investors chase both credit quality and liquidity, and that liquidity is more valued when aggregate risk is high. |
| Keywords: | Factor analysis; risk free interest rate; sovereign bond; benchmark |
| JEL: | C19 E43 G12 |
| Date: | 2010–09–01 |
| URL: | http://d.repec.org/n?u=RePEc:ris:eibefr:2010_005&r=mon |
| By: | Yin-Wong Cheung (University of California, Santa Cruz and Hong Kong Institute for Monetary Research); Guonan Ma (Bank for International Settlements); Robert N. McCauley (Bank for International Settlements) |
| Abstract: | Since the 2008 global financial crisis, China has rolled out a number of initiatives to actively promote the international role of the renminbi and to denominate more of its international claims away from the US dollar and into the renminbi. This paper discusses the factors shaping the prospects of internationalising the renminbi from the perspective of the currency composition of China's international assets and liabilities. These factors include, among others, underlying valuation and management of the renminbi. |
| Keywords: | Renminbi Internationalisation, Net International Asset Position, Convertibility, Exchange Rate Uncertainty, Dollar Peg |
| JEL: | F30 F31 F33 O24 |
| Date: | 2010–06 |
| URL: | http://d.repec.org/n?u=RePEc:hkm:wpaper:162010&r=mon |