nep-mon New Economics Papers
on Monetary Economics
Issue of 2010‒11‒06
23 papers chosen by
Bernd Hayo
Philipps-University Marburg

  1. Managing Financial Market Expectations: The Role of Central Bank Transparency and Central Bank Communication By Matthias Neuenkirch;
  2. The dynamics of US inflation: can monetary policy explain the changes? By Fabio Canova; Filippo Ferroni
  3. The Eurozone in the Current Crisis By Charles Wyplosz
  4. Monetary policy rules and foreign currency positions By De Paoli, Bianca; Küçük-Tuğer, Hande; Søndergaard, Jens
  5. Asset Market Structures and Monetary Policy in a Small Open Economy By Jung, Yongseung
  6. Money demand stability: A case study of Nigeria By Saten Kumar; Don J. Webber; Scott Fargher
  7. Asset Market Structures and Monetary Policy in a Small Open Economy By Yongseung Jung
  8. The asymmetric relationship between oil prices and activity in the EMU: Does the ECB monetary policy play a role? By L'OEILLET, Guillaume; LICHERON, Julien
  9. Asia Confronts the Impossible Trinity By Ila Patnaik; Ajay Shah
  10. Japan's Deflation and the Bank of Japan's Experience with Non-traditional Monetary Policy By Kazuo Ueda
  11. The Euro After Its First Decade: Weathering the Financial Storm and Enlarging the Euro Area By Klaus Regling; Servaas Deroose; Reinhard Felke; Paul Kutos
  12. Sticky Information and Inflation Persistence: Evidence from U.S. Data By Benedetto Molinari
  13. Regional Single Currency Effects on Bilateral Trade with the European Union By Joan Costa-i-Font
  14. Interest rate pass-through and risk By Iris Biefang Frisancho-Mariscal; Peter Howells
  15. Changes in the transmission of monetary policy: evidence from a time-varying factor-augmented VAR By Baumeister, Christiane; Liu, Philip; Mumtaz, Haroon
  16. Optimal Monetary and Fiscal Policies In a Search-theoretic Model of Money and Unemployment By Pedro, Gomis-Porqueras; Benoit, Julien; Chengsi, Wang
  17. Labor Immobility and the Transmission Mechanism of Monetary Policy in a Monetary Union By Bernardino Adão; Isabel Horta Correia
  18. Sturm und Drang in money market funds: When money market funds cease to be narrow By Jank, Stephan; Wedow, Michael
  19. The Yuan’s Exchange Rates and Pass-through Effects on the Prices of Japanese and US Imports By Yuqing Xing
  20. Are Capital Controls and Central Bank Intervention Effective? By Hernán Rincón; Jorge Toro
  21. Forecast Revisions of Mexican Inflation and GDP Growth By Carlos Capistrán; Gabriel López-Moctezuma
  22. The Case for a Financial Approach to Money Demand By Ragot, X.
  23. Global policy at the Zero Lower Bound in a large-scale DSGE model By Sandra Gomes; P. Jacquinot; Ricardo Mestre; João Sousa

  1. By: Matthias Neuenkirch (Philipps University Marburg);
    Abstract: In this paper, we study the influence of central bank transparency and informal central bank communication on the money market adjustment process between two interest rate decisions. The sample covers nine major central banks for the period from January 1999 to July 2007. We find, first, that both transparency and communication facilitate understanding upcoming interest rate decisions. Second, transparency, as measured by various subcategories of the Eijffinger and Geraats (2006) index, leads to better anticipation of monetary policy. Provision of information on (unanticipated) macroeconomic disturbances and explicit prioritization of central bank objectives are the most important of these subcategories. Finally, there is no unique optimal design for central banks as (i) a very high degree of transparency, (ii) frequent communication on an informal basis, (iii) gradualism in target rate changes, or (iv) a high frequency of interest rate decisions all contribute to sound understanding regarding future interest rate decisions.
    Keywords: Central Bank Communication, Central Bank Transparency, Financial Market Expectations, Interest Rate Decision, Monetary Policy, Money Market
    JEL: E52 E58
    Date: 2010
  2. By: Fabio Canova; Filippo Ferroni
    Abstract: We investigate the relationship between monetary policy and inflation dynamics in the US using a medium scale structural model. The specification is estimated with Bayesian techniques and fits the data reasonably well. Policy shocks account for a part of the decline in inflation volatility; they have been less effective in triggering inflation responses over time and qualitatively account for the rise and fall in the level of inflation. A number of structural parameter variations contribute to these patterns.
    Keywords: New Keynesian model, Bayesian methods, Monetary policy, Inflation dynamics.
    JEL: E52 E47 C53
    Date: 2010–06
  3. By: Charles Wyplosz (Asian Development Bank Institute)
    Abstract: This paper contrasts the United States (US) and European situations during the crisis and examines how much of the crisis has been imported by Europe from the US. The paper argues that Europe never had a chance to avoid contagion from the US. It also documents the relatively limited reaction of both monetary and fiscal authorities. Muted fiscal policy actions may well be a consequence of the Stability and Growth Pact despite its having been de facto suspended. While the European Central Bank (ECB) intervened promptly and massively to attempt to maintain liquidity in the money market, it has been slow in dealing with the upcoming recession. The concluding remarks consider the differences that the monetary union has made and their relevance.
    Keywords: US, Europe, financial crisis, fiscal policy, European Central Bank
    JEL: E42 E58 E61 F32 F33
    Date: 2010
  4. By: De Paoli, Bianca (Bank of England); Küçük-Tuğer, Hande (Centre for Economic Performance, London School of Economics); Søndergaard, Jens (Fixed Income Research, Global Markets EMEA, Nomura International plc)
    Abstract: Using an endogenous portfolio choice model, this paper examines how different monetary policy regimes can lead to different foreign currency positions by changing the cyclical properties of the nominal exchange rate. We find that strict inflation-targeting regimes are associated with a short position in foreign currency, while the opposite is true for non inflation targeting regimes. We also explore how these different external positions affect the international transmission of monetary shocks through the valuation channel. When central banks follow inflation-targeting Taylor-type rules, valuation effects of monetary expansions are beggar-thy-self, but they are beggar-thy-neighbour in a money growth targeting regime (or when monetary policy puts weight on output stabilisation).
    Keywords: Portfolio choice; international transmission of shocks; monetary policy
    JEL: F31 F41
    Date: 2010–10–28
  5. By: Jung, Yongseung (Asian Development Bank Institute)
    Abstract: This paper sets up a canonical new Keynesian small open economy model with nominal price rigidities to explore the impact of habit persistence and exchange rate pass-through on the welfare ranking of alternative monetary policy rules. It identifies three factors that can affect the welfare ranking: the degree of habit persistence, the degree of exchange rate pass-through, and labor supply elasticity. In contrast to the findings of De Paoli (2009a, 2009b), the analysis reveals a reversal in the welfare ranking of alternative monetary policy rules for unitary intertemporal and intratemporal elasticities of substitution, depending on the asset market structures of small open economies with external habit. The paper also finds that exchange rate pegging outperforms domestic producer price index inflation targeting at high degrees of intratemporal elasticity of substitution and external habit, regardless of asset market structures. Finally, the paper finds that exchange rate pegging outperforms domestic or consumer price index inflation targeting if the exchange rate is misaligned.
    Keywords: asset market structures; exchange rate peg; monetary policy rules
    JEL: E52 F41
    Date: 2010–10–28
  6. By: Saten Kumar (Department of Business Economics, Auckland University of Technology); Don J. Webber (Department of Business Economics, Auckland University of Technology and Department of Economics, UWE, Bristol); Scott Fargher (Department of Business Economics, Auckland University of Technology)
    Abstract: This paper presents an empirical investigation into the level and stability of money demand (M1) in Nigeria between 1960 and 2008. In addition to estimating the canonical specification, alternative specifications are presented that include additional variables to proxy for the cost of holding money. Results suggest that the canonical specification is well-determined, the money demand relationship went through a regime shift in 1986 which slightly improved the scale economies of money demand, and money demand is stable. These findings imply that Nigeria could effectively use the supply of money as an instrument of monetary policy.
    Keywords: Money demand; Structural breaks; Cointegration; Monetary policy
    JEL: E41 C22
    Date: 2010–10
  7. By: Yongseung Jung
    Abstract: This paper sets up a canonical new Keynesian small open economy model with nominal price rigidities to explore the impact of habit persistence and exchange rate pass-through on the welfare ranking of alternative monetary policy rules. It identifies three factors that can affect the welfare ranking: the degree of habit persistence, the degree of exchange rate pass-through, and labor supply elasticity. In contrast to the findings of De Paoli (2009a, 2009b), the analysis reveals a reversal in the welfare ranking of alternative monetary policy rules for unitary intertemporal and intratemporal elasticities of substitution, depending on the asset market structures of small open economies with external habit. The paper also finds that exchange rate pegging outperforms domestic producer price index inflation targeting at high degrees of intratemporal elasticity of substitution and external habit, regardless of asset market structures. Finally, the paper finds that exchange rate pegging outperforms domestic or consumer price index inflation targeting if the exchange rate is misaligned.
    Keywords: Keynesian, economy, monetary policy, market structures, consumer price index
    Date: 2010
  8. By: L'OEILLET, Guillaume; LICHERON, Julien
    Abstract: Monetary policy is usually perceived as an important transmission channel in the negative relationship between oil prices and economic performance. It may also constitute a short-term explanation of the non-linearity in this relationship, since Central Bankers may be more sensitive to the potential inflationary threats entailed by high oil price increases than to small increases or decreases. In this paper, we use an extended Taylor rule to investigate the role of oil prices in the ECB monetary policy strategy. A contemporaneous reaction function is estimated using both a GMM framework and an Ordered Probit model, and several oil indicators are constructed and tested. The main results suggest that oil prices play a key role in the ECB interest-rate setting, since it appears as a relevant indicator of future inflation. However, the ECB seems to react asymmetrically: only oil price increases influence its decision setting, not oil prices decreases. Monetary policy may thus transmit and amplify the asymmetry in the relationship between oil prices and activity in the euro area. Further investigations suggest that a preference for price stability provides an important explanation of this asymmetric behaviour of the ECB.
    Keywords: Oil prices ; Monetary policy ; Taylor rule ; Asymmetry ; ECB.
    JEL: E0 E58
    Date: 2010–03
  9. By: Ila Patnaik; Ajay Shah (Asian Development Bank Institute)
    Abstract: In this paper, we examine capital account openness and exchange rate flexibility in 11 Asian economies. Asia has made slow progress in de jure capital account openness, but has made much more progress in de facto capital account openness. While there has been a gradual increase in exchange rate flexibility, most Asian economies continue to have largely inflexible exchange rates. This combination of advancing de facto capital account integration without greater exchange rate flexibility has led to procyclical monetary policy, when capital flows are procyclical. This paper emphasises the need for a consistent monetary policy framework.
    Keywords: capital account openness, exchange rate flexibility, Asia, capital account integration, monetary policy
    JEL: E40 E60 F41
    Date: 2010
  10. By: Kazuo Ueda (Faculty of Economics, University of Tokyo)
    Abstract: This paper offers a brief summary of non-traditional monetary policy measures adopted by the Bank of Japan (BOJ) during the last two decades, especially the period between 1998-2006, when the so-called Zero Interest Rate Policy (ZIRP) and Quantitative Easing (QE) were put in place. The paper begins with a typology of policies usable at low interest and inflation rates. They are: strategy (i), management of expectations about future policy rates; strategy (ii), targeted asset purchases; and strategy (iii), QE. Alternatively, QE may be decomposed into a pure attempt to inflate the central bank balance sheet, QE0, purchases of assets in dysfunctional markets, QE1 and purchases of assets to generate portfolio rebalancing, QE2. Strategy (ii), when non-sterilized, is either QE1 or QE2. Using this typology, I review the measures adopted by the BOJ and discuss evidence on the effectiveness of the measures. The broad conclusion is that strategies (i) and (ii) have affected interest rates, while no clear evidence exists so far of the effectiveness of strategy (iii), or QE0. Strategy (ii) has been effective especially in containing risk/liquidity premiums in dysfunctional money markets; that is, QE1 has been effective. The effectiveness of QE2, however, is unclear. The strategies, however, have failed to bring the economy out of the deflation trap so far. I discuss some possible reasons for this and also implications for the current U.S. situation.
    Date: 2010–10
  11. By: Klaus Regling; Servaas Deroose; Reinhard Felke; Paul Kutos (Asian Development Bank Institute)
    Abstract: The first decade of economic and monetary union in Europe (EMU) has been a huge success. EMU has significantly benefited its member countries and accelerated the European integration process. Imbalances within EMU—differences in growth, inflation, competitiveness, current account and budget balances—have, however, increased in the last 10 years and, with their economic implications, have become more evident in the global economic crisis. The euro has served as a shield during the crisis, and arguments that the crisis would lead to a breakup of the monetary union are neither new nor convincing. But there are lessons to be learned. Policies should be better coordinated among EMU members and structural reforms accelerated, the framework for the supervision of financial markets strengthened, and external representation streamlined. The crisis has also made the euro more attractive, and most EU countries that are not yet members of EMU are expected to join during the next decade.
    Keywords: Europe monetary union, economic integration, financial crisis, reform
    JEL: E6 F15 F3 F42
    Date: 2010
  12. By: Benedetto Molinari (Department of Economics, Universidad Pablo de Olavide)
    Abstract: This paper provides a novel single equation estimator of the Sticky Information Phillips Curve (SIPC), which permits to estimate the exact model without any approximation or truncation. In detail, information stickiness is estimated by employing a GMM estimator that matches the theoretical with the actual covariances between current inflation and the lagged exogenous shocks that affect firms’ pricing decisions, which are considered the moments that measure inflation persistence. The main result of the paper is to show that the SIPC model can match inflation persistence only at the cost of mispredicting the variance of inflation, which is a novel finding in the empirical literature on the SIPC.
    Keywords: Sticky Information, Inflation Persistence, two-stage GMM estimator
    JEL: E31 C51
    Date: 2010–10
  13. By: Joan Costa-i-Font
    Abstract: This paper empirically examines the regional effects of sharing a single currency on bilateral trade with other European Union partners. It takes advantage of a gravity specification of bilateral trade between 17 Spanish regions and 13 European countries over the period 1997-2004, which in turn allows accounting for two distinct definitions of a single currency depending on its temporal set up. That is, the “exchange rate volatility effect” (from exchange rate fixing in 1999) is distinguished from the so-called “common currency effect” (resulting from the issuing of a new currency in 2002). Findings are suggestive of a regional concentration of currency union effects in a few regions, namely those relatively more open to trade. Such effects on regional trade within Europe are found to fade away over time. Trade enhancing effects are found to vary range from 45% to 16%. When the “exchange rate volatility effect” was significant, the pure currency union effect was found to be almost negligible.
    Keywords: gravity models, trade flows, regional heterogeneity, monetary union
    JEL: F4 F11 F33
    Date: 2010–10
  14. By: Iris Biefang Frisancho-Mariscal (University of the West of England, Bristol); Peter Howells (University of the West of England, Bristol)
    Abstract: One of the most striking features of the financial crisis that began in the autumn of 2007 has been the associated upheaval in conventional interest rate spreads. In the UK, this is most frequently symbolised by the widening (and increased volatility) of the spread between 3-month Libor and the Bank of England’s policy rate. This paper uses a vector error correction model to look at the way in which the recent crisis has affected a wide range of interest rate spreads. We look for changes in the coefficient on the policy rate (the ‘pass-through’) and at changes in the speed of adjustment to changes in the policy rate, since both are important for policy. We find, as others have done, that the conventional behaviour of almost all spreads is swept away after August 2007. By developing a model which incorporates measures of counterparty and liquidity risk, we show that market rates are now subject to additional influences, but except for secured loans, still incorporate the effects of changes in the policy rate much as they did before the crisis. This contrasts with the widely-held view that the relationship between policy and money market rates in particular has been severely disrupted by the crisis. For secured loans, however, there is evidence that the mark-up has risen while at the same time the policy pass-through has fallen since August 2007. The same applies to deposit rates, albeit to a lesser extent, with the result that the sharp reduction in policy rate since the end of 2007 has had a larger effect on deposit than loan rates.
    Keywords: intrest rates; risk; VAR; Financial crisis
    JEL: E43 E52 E58
    Date: 2010–10
  15. By: Baumeister, Christiane (Bank of Canada); Liu, Philip (International Monetary Fund); Mumtaz, Haroon (Bank of England)
    Abstract: This paper re-examines the evolution of the US monetary transmission mechanism using an empirical framework that incorporates substantially more information than the standard tri-variate VAR model used in most previous studies. In particular, we employ an extended version of a factor-augmented VAR, where we introduce time variation in the coefficients and stochastic volatilities in the variances of the shocks. Our formulation has two substantive advantages over earlier work: (i) the additional information summarised by the common factors that are extracted from a large panel of aggregate and disaggregate variables improves the identification of the monetary policy shocks since the factors capture more accurately the amount of information analysed by the monetary authority, (ii) we are able to estimate the time-varying effects of monetary policy surprises on macroeconomic aggregates and disaggregate prices and quantities of personal consumption expenditures. Our main results indicate that time variation is a dominant feature of key macroeconomic variables and their components. In analysing the temporal evolution of disaggregate dynamics, we uncover a considerable amount of heterogeneity in sectoral price responses which suggests that monetary policy actions exert an important, and potentially long-lasting, influence on relative prices in the US economy.
    Keywords: FAVAR; time-varying parameters; monetary transmission
    JEL: E30 E32
    Date: 2010–10–28
  16. By: Pedro, Gomis-Porqueras; Benoit, Julien; Chengsi, Wang
    Abstract: In this paper we study the optimal monetary and fiscal policies of a general equilibrium model of unemployment and money with search frictions both in labor and goods markets as in Berentsen, Menzio and Wright (2010). We abstract from revenue-raising motives to focus on the welfare-enhancing properties of optimal policies. We show that some of the inefficiencies in the Berentsen, Menzio and Wright (2010) framework can be restored with appropriate fiscal policies. In particular, when lump sum monetary transfers are possible, a production subsidy financed by money printing can increase output in the decentralized market and a vacancy subsidy financed by a dividend tax even when the Hosios’ rule does not hold.
    Keywords: Search and matching; Fiscal polices;Money; Unemployment; Efficiency
    JEL: E52 E63
    Date: 2010–10–28
  17. By: Bernardino Adão; Isabel Horta Correia
    Abstract: It is believed that a shock, common to a set of countries with identical fundamentals, has identical outcomes across countries. We show that in general, when specialization in production is such that a common shock creates a missing role for labor mobility across countries, the terms of trade of any country reacts to the shock. This is the case even if state contingent assets can be traded across countries. The transmission mechanism of a monetary shock in a monetary union has in this case an additional channel, the terms of trade. We also show that the country outcomes are significantly different, when compared with the effect of the shock on the union’s aggregate. Monetary shocks<br>impose cycles with higher volatility in "poor" countries relatively o<br>the volatility of "richer" ones.
    JEL: E31 E41 E58 E62
    Date: 2010
  18. By: Jank, Stephan; Wedow, Michael
    Abstract: This paper investigates the returns and flows of German money market funds before and during the liquidity crisis of 2007/2008. The main findings of this paper are: in liquid times, money market funds enhanced their returns by investing in less liquid papers. By doing so they outperformed other funds as long as liquidity in the market was high. Investing in less liquid assets, however, widens the narrow structure of money market funds and makes them vulnerable to runs. During the shortening of liquidity caused by the subprime crisis, illiquid funds experienced runs, while more liquid funds functioned as a safe haven. --
    Keywords: Money Market Funds,Liquidity Crisis,Strategic Complementarities,Runs,Narrow Banking
    JEL: G12 G20 G21
    Date: 2010
  19. By: Yuqing Xing (Asian Development Bank Institute)
    Abstract: This paper estimated the pass-through effects of yuan’s exchange rates on prices of the US and Japanese imports from the People’s Republic of China (PRC). Empirical results show that, a 1% nominal appreciation of the yuan would result in a 0.23% increase in prices of the US imports in the short run and 0.47% in the long run. Japanese import prices were relatively more responsive to changes of the bilateral exchange rates between the yuan and the yen. For a 1% nominal appreciation of the yuan against the yen, Japanese import prices would be expected to rise 0.55% in the short run and 0.99%, a complete pass-through, in the long run. The high degree of pass-through effects were also found at the disaggregated sectoral level: food, raw materials, apparel, manufacturing, and machinery. However, further analysis indicated that the high pass-through effects in the case of Japan were mainly attributed to the PRC’s policy to peg the yuan to the United States (US) dollar, and that the dollar is used as a dominant invoicing currency for the PRC’s exports to Japan. After controlling the currency invoicing factor, I found no evidence that the yuan’s cumulative appreciation since July 2005 was passed on to prices of Japanese imports at either the aggregate or disaggregated levels. The estimated low pass-through effects of the yuan’s appreciation suggest that a moderate appreciation of the yuan would have very little impact on the PRC’s trade surplus.
    Keywords: exchange rates, import prices, yuan appreciation, currency policy
    JEL: F31 F32
    Date: 2010
  20. By: Hernán Rincón; Jorge Toro
    Abstract: Capital controls and intervention in the foreign exchange market are two controversial policy options that many countries have adopted in the past in order to influence the exchange rate and moderate capital flows. Colombia has a long record in the use of these policies with mixed results and often non negligible costs. The objective of this paper is to evaluate for the case of Colombia the effectiveness of capital controls and central bank intervention for depreciating the exchange rate, reducing its volatility, and moderating the exchange rate vulnerability to external shocks. The paper uses high frequency data from 1993 to 2010, and a GARCH model of the peso/US dollar exchange rate return. The main findings indicate that neither capital controls nor central bank intervention used separately were successful for depreciating the exchange rate. On the contrary, they augmented its volatility. Nonetheless, when both policies were used simultaneously, a statistical significant effect was obtained by which the interaction of capital control and intervention in the foreign exchange market were effective to produce a daily average depreciation of the exchange rate, without increasing its volatility. This result however should be taken with caution given the special economic circumstances that characterized 2008, when most of this interaction happened.
    Date: 2010–10–20
  21. By: Carlos Capistrán; Gabriel López-Moctezuma
    Abstract: We analyze forecasts of inflation and GDP growth contained in Banco de México's Survey of Professional Forecasters for the period 1995-2009. The forecasts are for the current and the following year, comprising an unbalanced three-dimensional panel with multiple individual forecasters, target years, and forecast horizons. The fixed-event nature of the forecasts enables us to examine efficiency by looking at the revision process. The panel structure allows us to control for aggregate shocks and to construct a measure of the news that impacted expectations in the period under study. The results suggest that respondents seem to rely for longer than appears to be optimal on their previous forecasts, and that they do not seem to use past information in an efficient manner. In turn, this means there are areas of opportunity to improve the accuracy of the forecasts, for instance, by taking into account the positive autocorrelation found in forecast revisions.
    Keywords: Evaluating forecasts, Inflation forecasting, Macroeconomic forecasting, Panel data, Surveys.
    JEL: C23 C53 E37
    Date: 2010–10
  22. By: Ragot, X.
    Abstract: The distribution of money across households is much more similar to the distribution of financial assets than to that of consumption levels. This is a puzzle for theories which directly link money demand to consumption. This paper shows that the joint distribution of money and financial assets can be explained in an heterogeneous agent model where both a cash-in-advance constraint and financial adjustment costs, as in the Baumol-Tobin literature, are introduced. Studying each friction in turn, I find that the financial friction explains 85% of total money demand. Classification-JEL: E40, E50.
    Keywords: Money Demand, Money Distribution, Heterogeneous Agents.
    Date: 2010
  23. By: Sandra Gomes; P. Jacquinot; Ricardo Mestre; João Sousa
    Abstract: The purpose of this paper is to analyse whether fiscal policies can alleviate the effects of the zero lower bound (ZLB) on interest rates and if they should be coordinated internationally. The analysis is carried out using EAGLE, a DSGE model of the global economy. We consider that the fiscal shocks are temporary and that fscal policy retains full credibility at all times. In this setup we find significant non-linearities in a ZLB situation that amplify the<br>effects of fiscal shocks compared to the non-ZLB case. International coordination is helpful but does not play a major role in the results.
    JEL: E52 E62 E63 F42
    Date: 2010

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