nep-mon New Economics Papers
on Monetary Economics
Issue of 2011‒10‒09
twenty-two papers chosen by
Bernd Hayo
Philipps-University Marburg

  1. Monetary Policy Committee Transparency: Measurement,Determinants, and Economic Effects By Bernd Hayo; Ummad Mazhar
  2. Discretionary monetary policy in the Calvo model By Willem Van Zandweghe; Alexander Wolman
  3. Monetary Policy Preferences of the European Monetary Union and the UK By Philip Arestis; Michail Karouglou; Kostas Mouratidis
  4. Nominal interest rates and the news By Michael D. Bauer
  5. How are Inflation Targets Set? By Roman Horvath; Jakub Mateju
  6. Do Monetary, Fiscal and Financial Institutions Really Matter for Inflation Targeting in Emerging Market Economies? By Seedwell Hove; Albert Touna Mama; Fulbert Tchana Tchana
  7. How Effective Is Monetary Transmission in Developing Countries? A Survey of the Empirical Evidence By Mishra, Prachi; Montiel, Peter J; Spilimbergo, Antonio
  8. US Inflation and inflation uncertainty in a historical perspective: The impact of recessions By Don Bredin; Stilianos Fountas
  9. The signaling channel for Federal Reserve bond purchases By Michael D. Bauer; Glenn D. Rudebusch
  10. Impact of exchange rate changes on domestic inflation: a study of a small Pacific Island economy By Jayaraman, T. K.; Choong , Chee-Keong
  11. Debt enforcement and the return on money By Rojas-Breu, M.
  12. A Risk-Driven Approach to Exchange-Rate Modelling By Piotr Keblowski; Aleksander Welfe
  13. Financial crises, unconventional monetary policy exit strategies, and agents' expectations By Andrew T. Foerster
  14. Central banking post-crisis: What compass for uncharted waters? By Claudio Borio
  15. Learning the fiscal theory of the price level: some consequences of debt management policy By Stefano Eusepi; Bruce Preston
  16. The Efficacy of Foreign Exchange Market Intervention in Malawi By Kisukyabo Simwaka; Leslie Mkandawire
  17. Government policy in monetary economies By Fernando M. Martin
  18. Indeterminacy and forecastability By Ippei Fujiwara; Yasuo Hirose
  19. Uncertainty Shocks in a Model of Effective Demand By Susanto Basu; Brent Bundick
  20. Money and Long-run Growth By ZHOU, Ge
  21. Do Phillips curves conditionally help to forecast inflation? By Michael Dotsey; Shigeru Fujita; Tom Stark
  22. Japanese Yield Curves In and Out of a Zero Rate Environmnet: A Macro-Finance Perspective By Junko Koeda

  1. By: Bernd Hayo (University of Marburg); Ummad Mazhar (Université Libre de Bruxelles and Université de Strasbourg)
    Abstract: This paper studies monetary policy committee transparency (MPCT) based on a new index that measures central bankers’ educational and professional backgrounds as disclosed through central bank websites. Based on a novel cross-sectional data set covering 75 central banks, we investigate the determinants of MPCT as well as its economic consequences. We find that past inflation, quality of institutional setup, and extent of Internet use in a country are important determinants of MPCT. MPCT has a robust and significantly negative impact on inflation variability, even after controlling for important macroeconomic variables and institutional transparency, as well as instrumenting MPCT in various ways.
    Keywords: Monetary Policy Committee, Transparency, Monetary Policy Transparency, Monetary Policy, Central Banks
    JEL: E52 E58 D12 D83
    Date: 2011
  2. By: Willem Van Zandweghe; Alexander Wolman
    Abstract: We study discretionary equilibrium in the Calvo pricing model for a monetary authority that chooses the money supply. The steady-state inflation rate is above 8 percent for a baseline calibration, but it varies substantially with alternative structural parameter values. If the initial condition involves inflation higher than steady state, discretionary policy generates an immediate drop in inflation followed by a gradual increase to the steady state. Unlike the two-period Taylor model, discretionary policy in the Calvo model does not accommodate predetermined prices in a way that inevitably leads to multiple private-sector equilibria.
    Keywords: Inflation (Finance) ; Monetary policy ; Prices
    Date: 2011
  3. By: Philip Arestis; Michail Karouglou; Kostas Mouratidis (Department of Economics, The University of Sheffield)
    Abstract: This paper estimates central bank policy preferences in the case of the European Monetary Union and of the UK. We do so, by adopting the framework suggested by Cecchetti and Ehrmann (1999), which, however, we extent in two respects. First, we allow policy preferences to be asymmetric by assuming that inflation and output follow a Markov process. Second, following Bean (1998) we introduce dynamics in the supply and demand relationships. In doing so we estimate state-dependent policy frontiers. Empirical results from the static model show that monetary policy in the European Monetary Union and in the UK put a lot of weight on price stability. However, there is evidence of 'price puzzle' especially in the high volatility regime. The price puzzle might be the by-product of frequent realignments in the European Monetary System currency crises in 1992, 1993 and 1995 and of the more recent 2008 financial crisis. Estimates of the optimal policy frontier suggest that although the UK enjoys higher anti-inflatonary credibility, it also faces a higher trade-off between inflation and output variability than the European Monetary Union.
    Date: 2011–09
  4. By: Michael D. Bauer
    Abstract: How do interest rates react to news? This paper presents a new methodology, based on a simple dynamic term structure model, which provides for an integrated analysis of the effects of monetary policy actions and macroeconomic news on the term structure of interest rates. I find several new empirical results: First, monetary policy directly affects distant forward rates. Second, policy news is more complex than macro news. Third, while payroll news causes the most action in interest rates, it does not affect distant forward rates. Fourth, the term structure response to macro news is consistent with considerable interest rate smoothing.
    Keywords: Interest rates ; Monetary policy
    Date: 2011
  5. By: Roman Horvath; Jakub Mateju
    Abstract: This paper contributes to a better understanding of how inflation targets are set. First, we gather evidence on how inflation targets are set from official central bank and government publications and from a questionnaire of our own design. Second, we estimate the determinants of the level of the inflation target in 19 inflation-targeting countries using unbalanced panel interval regressions to deal with the issue that targets are typically set as a range rather than as a point. We find that both a higher level and higher variability of inflation are associated with a higher target. The setting of the inflation target is also found to have an important international dimension, because higher world inflation is positively correlated with inflation targets. Rapidly growing countries exhibit higher inflation targets. Our results also show that authorities establish a wider target range for the inflation rate when the macroeconomic environment is less stable. We find that central bank credibility is negatively associated with the level of the inflation target, suggesting that less credible central banks are likely to recognize the risks related to anchoring inflation expectations at low levels. On the other hand, government party orientation does not matter, even in less independent central banks.
    Keywords: Central bank, credibility, independence, inflation, inflation targeting.
    JEL: E31 E42 E52 E58
    Date: 2011–07
  6. By: Seedwell Hove; Albert Touna Mama; Fulbert Tchana Tchana
    Abstract: Most emerging market economies (EMEs) which have implemented inflation targeting (IT) have continued to experience large, frequent and sometimes persistent inflation target misses. At the same time these countries had reformed their institutional structures when implementing IT. In this paper we empirically study the importance of central bank independence, fiscal discipline and financial sector development for the achievement of inflation targets in EMEs using the panel ordered logit model. We find that when we control for variables such as output gap, exchange rate gap and openness, the improvement in central bank independence, fiscal discipline and financial systems reduces the probability of inflation target misses. Importantly, some control variables lead to the missing of inflation target bands. These are, in order of importance; exchange rate gap, output gap, inflation target horizon and level of openness. The combined impact of institutional structures is quite large, indicating their signifi…cant contribution to the infl‡ation performance and credibility of IT.
    Keywords: In‡ation targeting, Institutions, Credibility
    JEL: E52 G28
    Date: 2011
  7. By: Mishra, Prachi; Montiel, Peter J; Spilimbergo, Antonio
    Abstract: This paper surveys the evidence on the effectiveness of monetary transmission in developing countries. We summarize the arguments for expecting the bank lending channel to be the dominant means of monetary transmission in such countries, and present a simple model that suggests why this channel may be both weak and unreliable under the conditions that usually characterize those economies. Next, we review the empirical methodologies that have been employed in the recent literature to assess monetary policy effectiveness, both in developing countries as well as in industrial and emerging economies, essentially based on vector autoregressions (VARs). It is very hard to come away from this review of the evidence with much confidence in the strength of monetary transmission in developing countries. We distinguish between the 'facts on the ground' and 'methodological deficiencies' interpretations of the absence of evidence for strong monetary transmission. We suspect, however, that 'facts on the ground' are indeed an important part of the story. The fact that a wide range of empirical approaches have failed to yield evidence of effective monetary transmission in developing countries, and that the strongest evidence for effective monetary transmission has arisen for relatively prosperous and more institutionally-developed countries such as some central and Eastern European transition economies (at least in the later stages of their transition) and Tunisia, makes us doubt whether methodological shortcomings are the whole story. If this conjecture is correct, the stabilization challenge in developing countries is acute indeed, and identifying the means of enhancing the effectiveness of monetary policy in such countries is an important challenge
    Keywords: developing countries; exchange rate; institutions; monetary policy
    JEL: E5 O11 O16
    Date: 2011–09
  8. By: Don Bredin (School of Business, University College Dublin); Stilianos Fountas (Department of Economics, University of Macedonia)
    Abstract: We use over two hundred years of US inflation data to examine the impact of inflation uncertainty on inflation. An analysis of the full period without allowing for various regimes shows no impact of uncertainty on inflation. However, once we distinguish between recessions and non recessions, we find that inflation uncertainty has a negative effect on inflation only in recession times, thus providing support to the Holland hypothesis.
    Keywords: asymmetric GARCH, recession, inflation uncertainty.
    JEL: C22 E31
    Date: 2011–09
  9. By: Michael D. Bauer; Glenn D. Rudebusch
    Abstract: Previous research has emphasized the portfolio balance effects of Federal Reserve bond purchases, in which a reduced bond supply lowers term premia. In contrast, we find that such purchases have important signaling effects that lower expected future short term interest rates. Our evidence comes from dynamic term structure models that decompose declines in yields following Fed announcements into changes in risk premia and expected short rates. To overcome problems in measuring term premia, we consider unbiased model estimation and restricted risk price estimation. We also characterize the estimation uncertainty regarding the relative importance of the signaling and portfolio balance channels.
    Keywords: Monetary policy ; Interest rates ; Bond market
    Date: 2011
  10. By: Jayaraman, T. K.; Choong , Chee-Keong
    Abstract: This paper investigates the effect of changes in exchange rate on consumer price level, in Fiji, known as exchange rate pass-through during a thirty year period (1982-2009). Specifically, three time periods are focused on: the pre-coup years (1982-1986); post coup years (1987-2009); and full time period (1982-2009). Monthly data on consumer price index, nominal exchange rate, monetary aggregate and interest rate are utilized. The study results show that the degree of exchange rate pass-through to domestic price was relatively low during the entire sample period at 0.183. It was 0.453 and 0.373 for the pre and post coups periods. Regardless of the sample periods under study, the monetary aggregate, as a variable plays a pivotal in stabilizing the price level.
    Keywords: Exchange rate pass-through; price; monetary measure; cointegration; Granger causality
    JEL: E31 F31
    Date: 2011
  11. By: Rojas-Breu, M.
    Abstract: The rate-of-return-dominance puzzle asks why low-return assets, like fiat money, are used in actual economies given that risk-free higher-return assets are available. As long as this question remains unresolved, most conclusions from monetary models which arbitrarily restrict the marketability properties of alternative assets to make money valuable are difficult to assess. In this paper, I provide a framework in which fiat money has value in equilibrium, even though a higher-return asset is available and there are neither restrictions nor transaction costs in using it. I suggest that the use of money is associated with frictions underlying debt contracts. In an environment where full enforcement is not feasible, the actual rate of return on assets is determined by incentives eliciting voluntary debt repayment. I show that the inflation rate or, more generally, the depreciation rate of an asset in which debts are denominated may function as a commitment device. As a result, money is used in equilibrium and the optimal inflation rate is positive.
    Keywords: Money, Inflation, Debt Enforcement, Banking.
    JEL: E41 E50 E51
    Date: 2011
  12. By: Piotr Keblowski (University of Lodz, Poland); Aleksander Welfe (University of Lodz, Poland)
    Abstract: The paper presents a new approach to exchange rate modelling that augments the CHEER model with a sovereign credit default risk as perceived by financial investors making their decisions. In the cointegrated VAR system with nine variables comprised of the short- and long-term interest rates in Poland and the euro area, inflation rates, CDS indices and the zloty/euro exchange rate, four long-run relationships were found. Two of them link term spreads with inflation rates, the third one describes the exchange rate and the fourth one explains the inflation rate in Poland. Transmission of shocks was analysed by common stochastic trends. The estimation results were used to calculate the zloty/euro equilibrium exchange rate.Length: 25 pages
    Keywords: exchange rate modelling, sovereign credit default risk, CDS spread, international parities, equilibrium exchange rate
    JEL: C32 E31 E43
    Date: 2011–09–30
  13. By: Andrew T. Foerster
    Abstract: This paper considers a model with financial frictions and studies the role of expectations and unconventional monetary policy response to financial crises. During a financial crisis, the financial sector has reduced ability to provide credit to productive firms, and the central bank may help lessen the magnitude of the downturn by using unconventional monetary policy to inject liquidity into credit markets. The model allows parameters to change according to a Markov process, which gives agents in the economy expectation about the probability of the central bank intervening in response to a crises, as well as expectations about the central bank's exit strategy post-crises. Using this Markov regime switching specification, the paper addresses three issues. First, it considers the effects of different exit strategies, and shows that, after a crisis, if the central bank sells off its accumulated assets too quickly, the economy can experience a double-dip recession. Second, it analyzes the effects of expectations of intervention policy on pre-crises behavior. In particular, if the central bank increases the probability of intervening during crises, this increase leads to a loss of output in pre-crisis times. Finally, the paper considers the welfare implications of guaranteeing intervention during crises, and shows that providing a guarantee can raise or lower welfare depending upon the exit strategy used, and that committing before a crisis can be welfare decreasing but then welfare increasing once a crisis occurs.
    Date: 2011
  14. By: Claudio Borio
    Abstract: The global financial crisis has shaken the foundations of the deceptively comfortable pre-crisis central banking world. Central banks face a threefold challenge: economic, intellectual and institutional. This essay puts forward a compass to help central banks sail in the largely uncharted waters ahead. The compass is based on tighter integration of the monetary and financial stability functions, keener awareness of the global dimensions of those tasks, and stronger safeguards for an increasingly vulnerable central bank operational independence.
    Keywords: central banking, monetary and financial stability, macroprudential, own-house-in-order doctrine, operational independence
    Date: 2011–09
  15. By: Stefano Eusepi; Bruce Preston
    Abstract: This paper examines how the scale and composition of public debt can affect economies that implement a combination of “passive” monetary policy and “active” fiscal policy. This policy configuration is argued to be of both historical and contemporary interest in the cases of the U.S. and Japanese economies. It is shown that higher average levels and moderate average maturities of debt can induce macroeconomic instability under a range of policies specified as simple rules. However, interest rate pegs in combination with active fiscal policies almost always ensure macroeconomic stability. This finding suggests that in periods where the zero lower bound on nominal interest rates is a relevant constraint on policy design, a switch in fiscal regime is desirable.
    Keywords: Monetary policy ; Debts, Public ; Fiscal policy ; Interest rates ; Price levels
    Date: 2011
  16. By: Kisukyabo Simwaka; Leslie Mkandawire
    Abstract: The Malawi kwacha was floated in February 1994. Since then, the Reserve Bank of Malawi (RBM) has periodically intervened in the foreign exchange market. This report analyses the effectiveness of foreign exchange market interventions by RBM. We used a generalized autoregressive conditional heteroscedastic (GARCH; 1,1) model to simultaneously estimate the effect of intervention on the mean and volatility of the kwacha. We also ran an equilibrium exchange rate model and use the equilibrium exchange rate criterion to compare results with those from the GARCH model. Using monthly exchange rates and official intervention data from January 1995 to June 2008, results from the GARCH model indicated that net sales of United States dollars by RBM depreciate, rather than appreciate, the kwacha. Empirically, this implies the RBM “leans against the wind”, i.e., the RBM intervenes to reduce, but not reverse, around-trend exchange rate depreciation. However, results from the GARCH model for the post-2003 period indicated that RBM intervention in the market stabilizes the kwacha. In general, results from both the GARCH model and the real equilibrium exchange rate criterion for the entire study period showed that RBM interventions have been associated with increased exchange rate volatility, except during the post-2003 period. The implication of this finding is that intervention can only have a temporary influence on the exchange rate, as it is difficult to find empirical evidence showing that intervention has a longlasting, quantitatively significant effect.
    Date: 2011–01
  17. By: Fernando M. Martin
    Abstract: I study how the general and specific details of a micro founded monetary framework affect the determination of policy when the government has limited commitment. The conduct of policy depends on the interaction between the incentive to smooth distortions intertemporally and a time-consistency problem. In equilibrium, fiscal and monetary policies are distortionary, but long-run policy is not afflicted by time-consistency problems. Policy variables in specific applications of the general framework react similarly to variations in fundamentals. Nevertheless, resolving certain environment frictions affect long-run policy significantly. The response of government policy to aggregate shocks is qualitatively similar across the studied model variants. However, there are significant quantitative differences in the response of government policy to productivity shocks, mainly due to the idiosyncratic behavior of the money demand. Environments with no trading frictions display the best fit to post-war U.S. data.
    Keywords: Economic policy
    Date: 2011
  18. By: Ippei Fujiwara; Yasuo Hirose
    Abstract: Recent studies document the deteriorating performance of forecasting models during the Great Moderation. This conversely implies that forecastability is higher in the preceding era, when the economy was unexpectedly volatile. We offer an explanation for this phenomenon in the context of equilibrium indeterminacy in dynamic stochastic general equilibrium models. First, we analytically show that a model under indeterminacy exhibits richer dynamics that can improve forecastability. Then, using a prototypical New Keynesian model, we numerically demonstrate that indeterminacy due to passive monetary policy can yield superior forecastability as long as the degree of uncertainty about sunspot fluctuations is relatively small.
    Keywords: Forecasting ; Mathematical models ; Monetary policy
    Date: 2011
  19. By: Susanto Basu (Boston College; NBER); Brent Bundick (Boston College)
    Abstract: This paper examines the role of uncertainty shocks in a one-sector, representative-agent dy- namic stochastic general-equilibrium model. When prices are flexible, uncertainty shocks are not capable of producing business-cycle comovements among key macro variables. With countercycli- cal markups through sticky prices, however, uncertainty shocks can generate fluctuations that are consistent with business cycles. Monetary policy usually plays a key role in offsetting the negative impact of uncertainty shocks. If the central bank is constrained by the zero lower bound, then mon- etary policy can no longer perform its usual stabilizing function and higher uncertainty has even more negative effects on the economy. Calibrating the size of uncertainty shocks using fluctuations in the VIX, we find that increased uncertainty about the future may indeed have played a signifi- cant role in worsening the Great Recession, which is consistent with statements by policymakers, economists, and the financial press.
    Keywords: Uncertainty Shocks, Monetary Policy, Sticky-Price Models
    JEL: E32 E52
    Date: 2011–09–08
  20. By: ZHOU, Ge
    Abstract: This paper revisits the relationship between money and long-run growth when liquidity demand at the …rm level is explicitly modelled. Through a set of sensitivity analyses, I …nd that this relationship could be positive, negative, or display a hump shape depending on the size of average liquidity demand and the level of …nancial development. These results explain why existing empirical studies report mixed …ndings on the relationship.
    Keywords: Liquidity Demand; Endogenous Growth; Monetary Supply
    JEL: O42 E51 O16
    Date: 2011–06
  21. By: Michael Dotsey; Shigeru Fujita; Tom Stark
    Abstract: The Phillips curve has long been used as a foundation for forecasting inflation. Yet numerous studies indicate that over the past 20 years or so, inflation forecasts based on the Phillips curve generally do not predict inflation any better than a univariate forecasting model. In this paper, the authors take a deeper look at the forecasting ability of Phillips curves from both an unconditional and a conditional view. Namely, they use the test results developed by Giacomini and White (2006) to examine the forecasting ability of Phillips curve models. The authors' main results indicate that forecasts from their Phillips curve models are unconditionally inferior to those of their univariate forecasting models and sometimes the difference is statistically significant. However, the authors do find that conditioning on various measures of the state of the economy does at times improve the performance of the Phillips curve model in a statistically significant way. Of interest is that improvement is more likely to occur at longer forecasting horizons and over the sample period 1984Q1—2010Q3. Strikingly, the improvement is asymmetric — Phillips curve forecasts tend to be more accurate when the economy is weak and less accurate when the economy is strong. It, therefore, appears that forecasters should not fully discount the inflation forecasts of Phillips curve-based models when the economy is weak.
    Keywords: Phillips curve ; Unemployment
    Date: 2011
  22. By: Junko Koeda (Faculty of Economics, University of Tokyo)
    Abstract: This paper applies a tractable two-regime macro-finance affine term structure model to empirically investigate macroeconomic effects on Japanese government bond (JGB) yields in and out of a zero interest rate environment. The estimated results qualitatively assess how differently deflation and low growth contribute to lowering longer-term JGB yields between the normal and zero rate regimes.
    Date: 2011–10

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