nep-mon New Economics Papers
on Monetary Economics
Issue of 2011‒11‒07
28 papers chosen by
Bernd Hayo
Philipps-University Marburg

  1. U.S. monetary-policy evolution and U.S. intervention By Michael D Bordo; Owen F Humpage; Anna J Schwartz
  2. UK Macroeconomic Volatility and the Welfare Costs of Inflation By Polito, Vito; Spencer, Peter
  3. Measuring the level and uncertainty of trend inflation By Elmar Mertens
  4. Money and Price Posting under Private Information By Mei Dong; Janet Hua Jiang
  5. Stability Analysis ofDifferent Monetary Policy Rules for a Macroeconomic Model withEndogenous Money and Credit Channel By Flávio Augusto Corrêa Basilio; JoséLuis da Costa Oreiro
  6. The Signalling Channel of Central Bank Interventions: Modelling the Yen/US Dollar Exchange Rate By Yu-Fu Chen; Michael Funke; Nicole Glanemann
  7. Core, What is it Good For? Why the Bank of Canada Should Focus on Headline Inflation By Philippe Bergevin; Colin Busby
  8. Dimensions of centralbank transparency and monetary policy By José Simão Filho; Helder Ferreira deMendonça
  9. How to Solve the Price Puzzle? A Meta-Analysis By Marek Rusnak; Tomas Havranek; Roman Horvath
  10. Time-varying volatility, precautionary saving and monetary policy By Hatcher, Michael
  11. A medium scale forecasting model for monetary policy By Kenneth Beauchemin; Saeed Zaman
  12. Monetary Policy,Fundamentals and Risk in Brazil By Alex Luiz Ferreira
  13. A New-Keynesian model of the yield curve with learning dynamics: A Bayesian evaluation By Dewachter, Hans; Iania, Leonardo; Lyrio, Marco
  14. Forecasting and tracking real-time data revisions in inflation persistence By Tierney, Heather L.R.
  15. State-Dependent Probability Distributions in Non Linear Rational Expectations Models By Barthélemy, J.; Marx, M.
  16. Modifying Gaussian term structure models when interest rates are near the zero lower bound By Leo Krippner
  17. A SVECM Model of the UK Economy and The Term Premium By Dungey, Mardi; Tugrul Vehbi, M
  18. The great escape? A quantitative evaluation of the Fed’s liquidity facilities By Marco Del Negro; Gauti Eggertsson; Andrea Ferrero; Nobuhiro Kiyotaki
  19. Dynamics Between Strategic Commodities and Financial Variables By Thai-Ha LE; Youngho CHANG
  20. Forecasting inflation with consumer survey data – application of multi-group confirmatory factor analysis to elimination of the general sentiment factor By Piotr Białowolski
  21. Divergent competitiveness in the eurozone and the optimum currency area theory By João Rebelo Barbosa; Rui Henrique Alves
  22. Expectations versus fundamentals: does the cause of banking panics matter for prudential policy? By Todd Keister; Vijay Narasiman
  23. On the Inclusion of the Chinese Renminbi in the SDR Basket By Agnès Bénassy-Quéré; Damien Capelle
  24. The international monetary system is changing: What opportunities and risks for the euro? By Ignazio Angeloni; André Sapir
  25. Central banks' interest rate and international trade in BRIC countries: Agriculture vs machinery industry? By Borodin, Konstantin; Strokov, Anton
  26. Misalignments and Dynamics of Real Exchange Rates in the CFA Franc Zone By Cécile Couharde; Issiaka Coulibaly; Olivier Damette
  27. Are Euro exchange rates markets efficient? New evidence from a large panel By Adrian Wai-Kong Cheung; Jen-Je Su; Astrophel Kim Choo

  1. By: Michael D Bordo; Owen F Humpage; Anna J Schwartz
    Abstract: The United States all but abandoned its foreign-exchange-market intervention operations in late 1995, when they proved corrosive to the credibility of the Federal Reserve?s commitment to price stability. We view this decision as the culmination of the evolution of U.S. monetary policy over the past century from a gold standard to a fiat money regime. The abandonment of intervention was necessary to secure monetary policy credibility.
    Keywords: Foreign exchange market ; Monetary policy - United States ; Federal Open Market Committee
    Date: 2011
  2. By: Polito, Vito (Cardiff Business School); Spencer, Peter
    Abstract: This paper explores the implications of time varying volatility for optimal monetary policy and the measurement of welfare costs. We show how macroeconomic models with linear and quadratic state dependence in their variance structure can be used for the analysis of optimal policy within the framework of an optimal linear regulator problem. We use this framework to study optimal monetary policy under inflation conditional volatility and Find that the quadratic component of the variance makes policy more responsive to inflation shocks in the same way that an increase in the welfare weight attached to inflation does, while the linear component reduces the steady state rate of inflation. Empirical results for the period 1979-2010 underline the statistical significance of inflation-dependent UK macroeconomic volatility. Analysis of the welfare losses associated with inflation and macroeconomic volatility shows that the conventional homoskedastic model seriously underestimates both the welfare costs of inflation and the potential gains from policy optimization.
    Keywords: Monetary policy; Macroeconomic volatility; Optimal control; Welfare costs of inflation
    JEL: C32 C61 E52
    Date: 2011–09
  3. By: Elmar Mertens
    Abstract: Firmly-anchored inflation expectations are widely viewed as playing a central role in the successful conduct of monetary policy. This paper presents estimates of trend inflation, based on information contained in survey expectations, the term structure of interest rates, and realized inflation rates. My application combines a variety of data sources at the monthly frequency and it can flexibly handle missing data arising from infrequent observations and limited data availability. In order to assess whether inflation expectations are anchored, uncertainty surrounding future changes in trend inflation--measured by a time-varying volatility of trend shocks--is estimated as well. ; Not surprisingly, the estimates suggest that trend inflation in the U.S. rose and fell again over the 1970s and 1980s, accompanied by increases in uncertainty. Considering the recent crisis, full-sample estimates of trend inflation fell quite a bit, but not too dramatically. In contrast, real-time estimates recorded sizeable increases of trend uncertainty during the crisis of 2007/2008, which have abated since then.
    Keywords: Inflation (Finance) - United States
    Date: 2011
  4. By: Mei Dong; Janet Hua Jiang
    Abstract: We study price posting with undirected search in a search-theoretic monetary model with divisible money and divisible goods. Ex ante homogeneous buyers experience match specific preference shocks in bilateral trades. The shocks follow a continuous distribution and the realization of the shocks is private information. We show that generically there exists a unique price posting monetary equilibrium. In equilibrium, each seller posts a continuous pricing schedule that exhibits quantity discounts. Buyers spend only when they have high enough preferences. As their preferences are higher, they spend more till they become cash constrained. Since inflation reduces the future purchasing power of money and the value of retaining money, buyers tend to spend their money faster in response to higher inflation. In particular, more buyers choose to spend money and buyers spend on average a higher fraction of their money. The model naturally captures the hot potato effect of inflation along both the intensive margin and the extensive margin.
    Keywords: Economic models; Inflation and prices
    JEL: D82 D83 E31
    Date: 2011
  5. By: Flávio Augusto Corrêa Basilio; JoséLuis da Costa Oreiro
    Date: 2011
  6. By: Yu-Fu Chen; Michael Funke; Nicole Glanemann
    Abstract: This paper presents a theoretical framework analysing the signalling channel of exchange rate interventions as an informational trigger. We develop an implicit target zone framework with learning in order to model the signalling channel. The theoretical premise of the model is that interventions convey signals that communicate information about the exchange rate objectives of central bank. The model is used to analyse the impact of Japanese FX interventions during the period 1999 -2011 on the yen/US dollar dynamics.
    Keywords: Exchange rates, interventions, Japan
    JEL: C61 E58 F31
    Date: 2011–10
  7. By: Philippe Bergevin (C.D. Howe Institute); Colin Busby (C.D. Howe Institute)
    Abstract: With inflation as measured by the Consumer Price Index (CPI) growing faster than the Bank of Canada’s 2 percent target, the Bank has pointed out that core CPI, which excludes items whose prices are especially volatile, is at or below target and, further, that the Bank anticipates total CPI eventually will converge with the core measure. While the Bank is certainly justified in using core CPI as one of many imperfect measures of underlying inflation, our results suggest that the Bank should, at a minimum, revisit the role of core within its inflation-targeting framework and consider de-emphasizing core CPI in its communications or as an operational guide.
    Keywords: Monetary Policy, Bank of Canada, inflation, Consumer Price Index (CPI), core CPI
    JEL: E52 E58 E31
    Date: 2011–09
  8. By: José Simão Filho; Helder Ferreira deMendonça
    Date: 2011
  9. By: Marek Rusnak; Tomas Havranek; Roman Horvath
    Abstract: The short-run increase in prices following an unexpected tightening of monetary policy represents a frequently reported puzzle. Yet the puzzle is easy to explain away when all published models are quantitatively reviewed. We collect and examine about 1,000 point estimates of impulse responses from 70 articles using vector autoregressive models to study monetary transmission in various countries. We find some evidence of publication selection against the price puzzle in the literature, but our results also suggest that the reported puzzle is mostly caused by model misspecifications. Finally, the long-run response of prices to monetary policy shocks depends on the characteristics of the economy.
    Keywords: monetary policy transmission; price puzzle; meta-analysis; publication selection bias;
    JEL: E52
    Date: 2011–09
  10. By: Hatcher, Michael (Cardiff University)
    Abstract: This paper analyses the conduct of monetary policy in an environment where households’ desire to amass precautionary savings is influenced by fluctuations in the volatilities of disturbances that hit the economy. It uses a simple New Keynesian model with external habit formation that is augmented with demand and supply disturbances whose volatilities vary over time. If volatility fluctuations are ignored by policy, interest rates are set at a suboptimal level. The extent of ‘policy bias’ is relatively small but of greater importance the higher the degree of habit formation. The reason is that habit-forming preferences raise risk aversion, increasing the importance of the precautionary savings channel through which volatility fluctuations impact upon inflation and output.
    Keywords: Time-varying volatility; precautionary saving; monetary policy; DSGE models.
    JEL: E21 E32 E58 G12
    Date: 2011–10–31
  11. By: Kenneth Beauchemin; Saeed Zaman
    Abstract: This paper presents a 16-variable Bayesian VAR forecasting model of the U.S. economy for use in a monetary policy setting. The variables that comprise the model are selected not only for their effectiveness in forecasting the primary variables of interest, but also for their relevance to the monetary policy process. In particular, the variables largely coincide with those of an augmented New-Keynesian DSGE model. We provide out-of sample forecast evaluations and illustrate the computation and use of predictive densities and fan charts. Although the reduced form model is the focus of the paper, we also provide an example of structural analysis to illustrate the macroeconomic response of a monetary policy shock.
    Keywords: Forecasting ; Monetary policy
    Date: 2011
  12. By: Alex Luiz Ferreira
    Date: 2011
  13. By: Dewachter, Hans; Iania, Leonardo; Lyrio, Marco
    Abstract: We estimate a New-Keynesian macro-finance model of the yield curve incorporating learning by private agents with respect to the long-run expectation of inflation and the equilibrium real interest rate. A preliminary analysis shows that some liquidity premia, expressed as some degree of mispricing relative to no-arbitrage restrictions, and time variation in the prices of risk are important features of the data. These features are, therefore, included in our learning model. The model is estimated on U.S. data using Bayesian techniques. The learning model succeeds in explaining the yield curve movements in terms of macroeconomic shocks. The results also show that the introduction of a learning dynamics is not sufficient to explain the rejection of the extended expectations hypothesis. The learning mechanism, however, reveals some interesting points. We observe an important difference between the estimated inflation target of the central bank and the perceived long-run inflation expectation of private agents, implying the latter were weakly anchored. This is especially the case for the period from mid-1970s to mid-1990s. The learning model also allows a new interpretation of the standard level, slope, and curvature factors based on macroeconomic variables. In line with standard macro-finance models, the slope and curvature factors are mainly driven by exogenous monetary policy shocks. Most of the variation in the level factor, however, is due to shocks to the output-neutral real rate, in contrast to the mentioned literature which attributes most of its variation to long-run inflation expectations.
    Keywords: New-Keynesian model; Affine yield curve model; Learning; Bayesian estimation
    JEL: E43 E52 E44
    Date: 2011–09
  14. By: Tierney, Heather L.R.
    Abstract: This paper presents three local nonparametric forecasting methods that are able to utilize the isolated periods of revised real-time PCE and core PCE for 62 vintages within a historic framework with respect to the nonparametric exclusion-from-core inflation persistence model. The flexibility, provided by the kernel and window width, permits the incorporation of the forecasted value into the appropriate time frame. For instance, a low inflation measure can be included in other low inflation time periods in order to form more optimal forecasts by combining values that are similar in terms of metric distance as opposed to chronological time. The most efficient nonparametric forecasting method is the third model, which uses the flexibility of nonparametrics to its utmost by making forecasts conditional on the forecasted value.
    Keywords: Inflation Persistence; Real-Time Data; Monetary Policy; Nonparametrics; Forecasting
    JEL: C53 C14 E52
    Date: 2011–11–01
  15. By: Barthélemy, J.; Marx, M.
    Abstract: In this paper, we provide solution methods for non-linear rational expectations models in which regime-switching or the shocks themselves may be "endogenous", i.e. follow state-dependent probability distributions. We use the perturbation approach to find determinacy conditions, i.e. conditions for the existence of a unique stable equilibrium. We show that these conditions directly follow from the corresponding conditions in the exogenous regime-switching model. Whereas these conditions are difficult to check in the general case, we provide for easily verifiable and sufficient determinacy conditions and first-order approximation of the solution for purely forward-looking models. Finally, we illustrate our results with a Fisherian model of inflation determination in which the monetary policy rule may change across regimes according to a state-dependent transition probability matrix.
    Keywords: Perturbation methods, monetary policy, indeterminacy, regime switching, DSGE.
    JEL: E32 E43
    Date: 2011
  16. By: Leo Krippner
    Abstract: With nominal interest rates currently at or near their zero lower bound (ZLB) in many major economies, it has become untenable to apply Gaussian affine term structure models (GATSMs) while ignoring their inherent non-zero probabilities of negative interest rates. In this article I modify GATSMs by representing physical currency as call options on bonds to establish the ZLB. The result- ing ZLB-GATSM framework remains tractable, producing a simple closed-form analytic expression for forward rates and requiring only elementary univariate numerical integration (over time to maturity) to obtain interest rates and bond prices. I demonstrate the salient features of the ZLB-GATSM framework using a two-factor model. An illustrative application to U.S. term structure data in- dicates that movements in the model state variables have been consistent with unconventional monetary policy easings undertaken after the U.S. policy rate reached the ZLB in late 2008.
    JEL: E43 G12 G13
    Date: 2011–10
  17. By: Dungey, Mardi; Tugrul Vehbi, M (School of Economics and Finance, University of Tasmania)
    Abstract: The term premium is estimated from an empirically coherent open economy VAR model of the UK economy where the model speci?cally accounts for the mixed nature of the data and cointegration between some variables. Using this framework the estimated negative term premia for 1980-2007 is decomposed into its contributing shocks, where the role of in?ation and monetary policy shocks are shown to be dominant in the evolution of the term premium. Projecting into the 2008 crisis period reveals the extent of the shocks to the UK economy, and also shows the similarities in term premia behaviour with those experienced during the 1998 Russian crisis.
    Keywords: Consumer Economics: Theory, Consumer Economics: Empirical Analysis, Demographic Economics
    Date: 2011–05
  18. By: Marco Del Negro; Gauti Eggertsson; Andrea Ferrero; Nobuhiro Kiyotaki
    Abstract: We introduce liquidity frictions into an otherwise standard DSGE model with nominal and real rigidities, explicitly incorporating the zero bound on the short-term nominal interest rate. Within this framework, we ask: Can a shock to the liquidity of private paper lead to a collapse in short-term nominal interest rates and a recession like the one associated with the 2008 U.S. financial crisis? Once the nominal interest rate reaches the zero bound, what are the effects of interventions in which the government exchanges liquid government assets for illiquid private paper? We find that the effects of the liquidity shock can be large, and we show some numerical examples in which the liquidity facilities prevented a repeat of the Great Depression in 2008-09.
    Keywords: Federal Reserve System ; Interest rates ; Liquidity (Economics) ; Private equity
    Date: 2011
  19. By: Thai-Ha LE (Division of Economics, Nanyang Technological University, Singapore 639798, Singapore); Youngho CHANG (Division of Economics, Nanyang Technological University, Singapore 639798, Singapore)
    Abstract: This study employs the bounds testing approach to cointegration to investigate the relationships between the prices of two strategic commodities (oil and gold) and the financial variables (interest rates, exchange rates and stock prices) of Japan – a major oil-consuming and goldholding country. Our results suggest that the prices of gold and stock can help form expectations of higher inflation over time. In the short run, only gold prices impact the interest rate in Japan. Overall the findings of this study could help the Japanese monetary authority in conducting monetary policy and investors of Japanese yen in building their optimal portfolios. Specifically our findings suggest that the optimal choice in the long term for those who invest in yendenominated assets would be to include gold in their portfolios.
    Keywords: strategic commodities, financial variables, bounds test to cointegration
    JEL: C32 E4 F31
    Date: 2011–04
  20. By: Piotr Białowolski (Warsaw School of Economics)
    Abstract: This paper (1) examines the properties of survey based households’ inflation expectations and investigates their forecasting performance. With application of the individual data from the State of the Households’ Survey (50 quarters between 1997Q4 and 2010Q1) it was shown that inflation expectations were affected by the consumer sentiment. Multi-Group Confirmatory Factor Analysis (MGCFA) was employed to verify whether a set of proxies provides a reliable basis for measurement of two latent phenomena – consumer sentiment and inflation expectations. Following the steps proposed by Davidov (2008) and Steenkamp and Baumgartner (1998), it appeared that it was possible to specify and estimate a MGCFA model with partial measurement invariance. Thus it was possible to eliminate the influence of consumer sentiment on inflation expectations and at the same time to obtain individually corrected answers concerning the inflation expectations. Additionally, it was shown that the linear relation between consumer sentiment and inflation expectations was stable over time. As a by-product of analysis, it was possible to show that respondents during the financial crisis were much less consistent in their answers to the questions of the consumer questionnaire. In the next step of the analysis, data on inflation expectations were applied to modelling and forecasting inflation. It was shown that with respect to standard ARIMA processes, inclusion of the information on the inflation expectations significantly improved the in-sample and out-of-sample forecasting performance of the time-series models. Especially out-of-sample performance was significantly better as the average absolute error in forecasts of headline and core inflation was reduced by half. It was also shown that models with inflation expectations based on the CFA method (after elimination of the consumer sentiment factor) provided better in-sample forecasts of inflation. Nevertheless, it was not confirmed for the out-of-sample forecasts. (1) Project financed by the National Bank of Poland. Polish title of the project: "Prognozowanie inflacji na podstawie danych koniunktury gospodarstw domowych. Zastosowanie konfirmacyjnej analizy czynnikowej dla wielu grup do oczyszczenia prognoz inflacji z czynnika ogólnego nastroju gospodarczego."
    Keywords: Inflation expectations, Inflation forecasts, Confirmatory Factor Analysis
    JEL: C32 E31 E37
    Date: 2011
  21. By: João Rebelo Barbosa (Faculdade de Economia, Universidade do Porto); Rui Henrique Alves (CEF.UP, Faculdade de Economia, Universidade do Porto)
    Abstract: As the euro is on its second decade, the European sovereign debt crisis and the ever more evident disparities in competitiveness among member states are prompting many to question whether monetary union is bringing more benefits than costs. The optimum currency area (OCA) theory provides a framework with several criteria for such analysis. Most literature focuses either or on OCA individual criteria or on an aggregate analysis of these criteria, using meta-properties. Differently, we start by a descriptive analysis of the first twelve euro countries under six criteria between 1999 and 2009. We detect signs of labour geographic mobility. However, nominal wages growth largely outpaced productivity growth in some periphery countries, resulting in losses of competitiveness. Financial markets seem to be deeply integrated. Total intra-EMU trade increased, though core countries seem to have benefited more, as their relative competitiveness improved. We detect no increased homogeneity of exports structures of EMU countries. Inflation rates alternated between periods of convergence and of divergence, though prices levels consistently converged between EMU countries. Finally, budgetary indiscipline was frequent preventing several countries from having fiscal room to face asymmetrical shocks.We conclude by estimating the impact of five OCA criteria on countries’ relative competitiveness, using real effective exchange rates as a proxy. Differences in the growth of unit labour costs, the dissimilarity of trade and the differences in output growth were found to be significant. With a higher confidence level, bilateral trade is significant and points towards the specialization paradigm. Thus, we identify some causes of the divergent competitiveness between some EMU countries that contributed to weaker economic growth in parts of the euro area.
    Keywords: Optimum currency area, Euro Area; Economic and Monetary Union (EMU), Competitiveness
    JEL: E42 E63 F15 F33 F41
    Date: 2011–11
  22. By: Todd Keister; Vijay Narasiman
    Abstract: There is a longstanding debate about whether banking panics and other financial crises always have fundamental causes or are sometimes the result of self-fulfilling beliefs. Disagreement on this point would seem to present a serious obstacle to designing policies that promote financial stability. However, we show that the appropriate choice of policy is invariant to the underlying cause of banking panics in some situations. In our model, the anticipation of being bailed out in the event of a crisis distorts the incentives of financial institutions and their investors. Two policies that aim to correct this distortion are compared: restricting policymakers from engaging in bailouts, and allowing bailouts but taxing the short-term liabilities of financial institutions. We find that the latter policy yields higher equilibrium welfare regardless of whether panics are sometimes caused by self-fulfilling beliefs.
    Keywords: Financial crises ; Financial stability ; Monetary policy ; Economic policy
    Date: 2011
  23. By: Agnès Bénassy-Quéré; Damien Capelle
    Keywords: SDR, renminbi, IMS, Foreign exchange volatility, China
    JEL: F31 F33 A A A A A
    Date: 2011–07
  24. By: Ignazio Angeloni; André Sapir
    Abstract: After a thirty-year pause, discussions on the future of the international monetary system (IMS) have restarted. This is partly due to the fact that the IMS has facilitated, or at least not prevented, the economic and financial imbalances that led to the recent crisis. This paper argues that the international position of the US dollar is likely to erode in the coming years, though the speed of the process is uncertain. This will create a demand for other currencies to be used internationally as means of payment and store of value. The most likely candidates for filling the partial vacuum created by the dollarâ??s decline are the euro and the Chinese renminbi. The probability that the renminbi will eventually become one of the worldâ??s key currencies is very high, but the speed of the process is uncertain. As far as the euro is concerned, much will depend on if and how the sovereign debt crisis is resolved. Our view is that the crisis will be dealt with and that it will result in radical steps towards fiscal and financial integration. If such steps are taken, the euro will secure both internal stabilisation and a growing international role.
    Date: 2011–11
  25. By: Borodin, Konstantin; Strokov, Anton
    Abstract: The paper investigates interrelations between the dynamics of national central banks' interest rates and international trade within the BRIC countries. It shows that countries with lower interest rates experience growth of the share of machinery industry exports rather than agriculture and food products, and, on the contrary, in countries with higher interest rates the share of agriculture and food exports increases and the share of machinery industry products declines. The investigation has shown that a relative shift in the interest rate can affect the specialization of countries. --
    Keywords: Central banks' interest rate,Exports,Specialization
    JEL: F1
    Date: 2011
  26. By: Cécile Couharde; Issiaka Coulibaly; Olivier Damette
    Abstract: In this paper, we analyse currencies' misalignments of the CFA zone countries and the adjustment process of their real effective exchange rates towards their equilibrium level over the period 1985-2007. To this end, we firstly estimate, using panel cointegration techniques, a long term relationship between the real effective exchange rate and economic fundamentals. Secondly, we estimate a panel smooth transition error correction model in order to take into account non linearities in the convergence process of real exchange rates towards their equilibrium level. Two main results emerge from our analysis. Firstly, the real appreciation of effective exchange rates in the CFA zone countries from the 2000s did not translate, in 2007, into a real overvaluation comparable to that occurring before the devaluation of the CFA franc in 1994. However, some countries are exceptions, indicating a strong heterogeneity within the CFA zone. Finally, the convergence process of real effective exchange rates towards their equilibrium level also differs substantially between country groups. These results tend to show the difficulty to apply a single exchange rate policy in the CFA zone and rather call for further coordination and policy harmonization between the countries.
    Keywords: CFA zone, misalignments, panel smooth transition model
    JEL: C23 F31 O1
    Date: 2011
  27. By: Adrian Wai-Kong Cheung; Jen-Je Su; Astrophel Kim Choo
    Keywords: market efficiency, serial uncorrelatedness, Euro exchange rate markets
    JEL: F31 C12 C22 G15
    Date: 2011–09
    Date: 2011

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