nep-mon New Economics Papers
on Monetary Economics
Issue of 2012‒05‒02
nineteen papers chosen by
Bernd Hayo
Philipps-University Marburg

  1. Updating Inflation Expectations By Michael J. Lamla; Samad Sarferaz
  2. Reserves, Liquidity and Money: An Assessment of Balance Sheet Policies By Jagjit S. Chadhay; Luisa Corrado; Jack Meaning
  3. The Effect of Conventional and Unconventional Monetary Policy Rules on Inflation Expectations: Theory and Evidence By Roger E.A. Farmer
  4. Voting by monetary policy committees: evidence from the CEE inflation-targeting countries By Alexander Jung; Gergely Kiss
  5. How forward looking are central banks? Some evidence from their forecasts By Michał Brzoza-Brzezina; Jacek Kotłowski; Agata Miśkowiec
  6. Inflation expectations in Poland By Tomasz Łyziak
  7. Liquidity Effects of Quantitative Easing on Long-Term Interest Rates By Signe Krogstrup; Samuel Reynard; Barbara Sutter
  8. Trilemma Policy Convergence Patterns and Output Volatility By Joshua Aizenman; Hiro Ito
  9. Exchange Rate Coordination in Asia: Evidence using the Asian Currency Unit By Gupta, Abhijit Sen
  10. Money, credit, monetary policy and the business cycle in the euro area By Giannone, Domenico; Lenza, Michele; Reichlin, Lucrezia
  11. Capital Controls with International Reserve Accumulation: Can this Be Optimal? By Bacchetta, Philippe; Benhima, Kenza; Kalantzis, Yannick
  12. Long Run Exchange Rate Pass-Through: A Panel Cointegration Approach By Nidhaleddine Ben Cheikh
  13. Monetary Policy in Chile: Institutions, Objectives, and Instruments By Francisco Rosende; Matías Tapia
  14. Does Monetary Cooperation or Confrontation Lead to Successful Fiscal Consolidation? By Tomas Hellebrandt; Adam S. Posen; Marilyne Tolle
  15. On currency misalignments within the euro area By Virginie Coudert; Cécile Couharde; Valérie Mignon
  16. On the empirical evidence of asymmetry effects in the interest rate pass-through in Poland By Anna Sznajderska
  17. Forecasting Korean inflation By In Choi; Seong Jin Hwang
  18. Exchange return co-movements and volatility spillovers before and after the introduction of Euro By Antonakakis, Nikolaos
  19. Inside Liquidity in Competitive Markets By Michiel Bijlsma; Andrei Dubovik; Gijsbert Zwart

  1. By: Michael J. Lamla (ETH Zurich); Samad Sarferaz (ETH Zurich)
    Abstract: This paper investigates how inflation expectations evolve. In particular, we analyze the time-varying nature of the propensity to update expectations and its potential determinants. For this purpose we set up a flexible econometric model that tracks the formation of inflation expectations of consumers at each moment in time. We show that the propensity to update inflation expectations changes substantially over time and is related to the quantity and the quality of news.
    Keywords: inflation expectation formation, time-varying parameters, Bayesian methods disagreement, media coverage, stochastic volatility.
    JEL: E31 E37 E52 D83
    Date: 2012
  2. By: Jagjit S. Chadhay (School of Economics, Keynes College, University of Kent); Luisa Corrado (Faculty of Economics, University of Rome "Tor Vergata"); Jack Meaning (School of Economics, Keynes College, University of Kent)
    Abstract: The financial crisis and its aftermath has stimulated a vigorous debate on the use of macro-prudential instruments for both regulating the banking system and for providing additional tools for monetary policy makers. The widespread adoption of non-conventional monetary policies has provided some evidence on the efficacy of liquidity and asset purchases for o¤setting the lower zero bound. Central banks have thus been reminded as to the effectiveness of extended open market operations as a supplementary tool of monetary policy. These tools are essentially fiscal instruments, as they issue central bank liabilities backed by ?scal transfers. And so having written these tools into the fiscal budget constraint, we can examine the consequences of these operations within the context of a micro-founded macroeconomic model of banking and money. We can mimic the responses of the Federal Reserve balance sheet to the crisis. Specifically, we examine the role of reserves for bond and capital swaps in stabilising the economy and also the impact of changing the composition of the central bank balance sheet. We find that such policies can significantly enhance the ability of the central bank to stabilise the economy. This is because balance sheet operations supply (remove) liquidity to a financial market that is otherwise short (long) of liquidity and hence allows other financial spreads to move less violently over the cycle to compensate.
    Keywords: non-conventional monetary interest on reserves, monetary and ?scal policy instruments, Basel III.
    JEL: E31 E40 E51
    Date: 2012–04–18
  3. By: Roger E.A. Farmer
    Abstract: This paper has three parts. First, I provide a theoretical framework to explain how rational expectations models, where the central bank follows a conventional monetary policy rule, can be used to understand the history of interest rates and inflation in the period between 1951 and the Great Recession of 2008. Second, I use the framework developed in the first part of the paper to illustrate how the purchase of assets other than treasuries, for example, mortgage backed securities and long bonds, can influence inflation expectations when the interest rate is zero. Third, I show that the beginning of unconventional monetary policy in 2008 coincided with a significant increase in inflation expectations. I extend existing models of monetary policy by adding explicit markets for financial securities. Using this extended framework, I show that the purchase of assets, other than short term treasury bills, has a differential impact on the prices of risky securities. Unconventional monetary policy is an important tool in a central bank’s arsenal that can be used to help prevent deflation in the wake of a financial crisis.
    JEL: E31 E4
    Date: 2012–04
  4. By: Alexander Jung (European Central Bank); Gergely Kiss (Fitch Ratings)
    Abstract: The aim of this paper is to study preference heterogeneity in monetary policy committees of inflation-targeting (IT) countries in Central and Eastern Europe (CEE) during the period 2005–2010. It employs (individual) voting records of the Monetary Council of the Magyar Nemzeti Bank (the central bank of Hungary) and of the Monetary Policy Council of the National Bank of Poland. Preference heterogeneity in committees is not directly observable. Therefore, we pursue an indirect measurement and conduct an econometric analysis based on (pooled) Taylor-type reaction functions estimated using real-time information on economic and financial indicators and voting records. Recent evidence for the monetary policy committees (MPCs) of advanced economies (see Besley et al., 2008; Jung, 2011) suggests that preference heterogeneity among its members is systematic. Unlike for monetary policy committees of advanced countries, the present paper finds preference heterogeneity to be random for both the members of the Monetary Policy Council of the National Bank of Poland (NBP), and the members of the Monetary Council of the Magyar Nemzeti Bank (MNB). But, similar to the committees of advanced economies, the diversity of views on the inflation forecast is measurable in both committees. A separate cluster analysis shows that different preferences of MPC members may be attributable to their status (chairman, internal member, external member) and that members may also differ in their desired response to changes in the economic outlook.
    Keywords: central banking, monetary policy committee, inflation targeting, collective decision-making, voting, preferences, pooled regressions
    JEL: C23 D72 D83 E58
    Date: 2012
  5. By: Michał Brzoza-Brzezina (National Bank of Poland, Warsaw School of Economics); Jacek Kotłowski (National Bank of Poland, Warsaw School of Economics); Agata Miśkowiec (Warsaw School of Economics)
    Abstract: We estimate forward-looking Taylor rules on data from macroeconomic forecasts of three central banks (Bank of England, National Bank of Poland and Swiss National Bank) in order to determine the extent to which these banks are forward looking in their monetary policy decisions. We find that all three banks are to some extent forward-looking, however to a varying degree. With respect to inflation, the NBP and the SNB look far into the future, while the BoE seems to concentrate on current inflation. As to output, the BoE and the SNB take into account its future or current value while for the NBP this variable is insignificant. We also find that central banks prefer to concentrate on one particular horizon rather than take into account the whole forecast.
    Keywords: Taylor rule, forward-looking monetary policy, feedback horizon
    JEL: C25 E52 E58
    Date: 2012
  6. By: Tomasz Łyziak (National Bank of Poland)
    Abstract: This paper presents survey-based direct measures of inflation expectations of consumers, enterprises and financial sector analysts in Poland. It then goes on to provide the results of testing those features of inflation expectations that seem the most important from the point of view of monetary policy and its transmission mechanism. Characteristics of inflation expectations in Poland are diversified across the analysed groups of economic agents. Inflation expectations of financial sector analysts and enterprises outperform those of consumers in terms of their accuracy and information content, however also consumer inflation expectations are to some extent forward-looking.
    Date: 2012
  7. By: Signe Krogstrup; Samuel Reynard; Barbara Sutter
    Abstract: This paper argues that the expansion in reserves following recent quantitative easing programs of the Federal Reserve may have affected long-term interest rates through liquidity effects. The data lends some support for liquidity effects, in that reserves were negatively correlated with long-term yields at the zero lower bound. Estimates suggest that between January 2009 and 2011, 10-year US Treasury yields fell 46-85 basis points as a result of liquidity effects. The liquidity effect is separate from the portfolio balance effect of the change in the public supply of Treasury bonds, which is estimated to have reduced yields by another 20 basis points during that period.
    Keywords: Quantitative Easing, Reserves, Liquidity Effect, Long-Term Interest Rates, Zero Lower Bound, Monetary Policy, Portfolio Balance
    JEL: E43 E52 E58
    Date: 2012
  8. By: Joshua Aizenman (University of California, Santa Cruz and National Bureau of Economic Research and Hong Kong Institute for Monetary Research); Hiro Ito (Portland State University)
    Abstract: We examine the development of open macroeconomic policy choices among developing economies from the perspective of the powerful "trilemma" hypothesis. We construct an index of divergence of the three trilemma policy choices, and evaluate its patterns in recent decades. We find that the three dimensions of the trilemma configurations are converging towards a "middle ground" among emerging market economies, equipped with managed exchange rate flexibility, underpinned by sizable holdings of international reserves, and intermediate levels of monetary independence and financial integration. We also find emerging market economies with more converged policy choices tend to experience smaller output volatility in the last two decades. Emerging markets with relatively low international reserves/GDP could experience higher levels of output volatility when they choose a policy combination with a greater degree of policy divergence while this heightened output volatility effect does not apply to economies with relatively high international reserves/GDP holding.
    Keywords: Impossible Trinity, International Reserves, Financial Liberalization, Exchange Rate Regime
    JEL: F31 F36 F41 O24
    Date: 2012–04
  9. By: Gupta, Abhijit Sen (Asian Development Bank Institute)
    Abstract: This paper evaluates the extent of exchange rate coordination among Asian economies using a hypothetical Asian Currency Unit. Rising interdependence among Asian economies makes it vital for these economies to have a certain degree of exchange rate stability. However, the empirical evidence using an Asian Currency Unit suggests a widening deviation in exchange rate movements of the Asian currencies. The deviation has been driven by the adoption of different exchange rate regimes by the participating countries indicating diverse policy objectives.
    Keywords: exchange rate coordination; asia; asian currency unit; exchange rate regimes
    JEL: F15 F36 F55
    Date: 2012–04–20
  10. By: Giannone, Domenico; Lenza, Michele; Reichlin, Lucrezia
    Abstract: This paper uses a data-set including time series data on macroeconomic variables, loans, deposits and interest rates for the euro area in order to study the features of financial intermediation over the business cycle. We find that stylized facts for aggregate monetary and real variables are remarkably similar to what has been found for the US by many studies while we uncover new facts on disaggregated loans and deposits. During the crisis the cyclical behavior of short term interest rates, loans and deposits remain stable but we identify unusual dynamics of longer term loans, deposits and longer term interest rates.
    Keywords: euro area; loans; monetary policy; Money; non-financial corporations
    JEL: C32 C51 E32 E51 E52
    Date: 2012–04
  11. By: Bacchetta, Philippe (University of Lausanne, CEPR); Benhima, Kenza (University of Lausanne); Kalantzis, Yannick (Banque de France)
    Abstract: Motivated by the Chinese experience, we analyze a semi-open economy where the central bank has access to international capital markets, but the private sector has not. This enables the central bank to choose an interest rate different from the international rate. We examine the optimal policy of the central bank by modelling it as a Ramsey planner who can choose the level of domestic public debt and of international reserves. The central bank can improve savings opportunities of credit-constrained consumers modelled as in Woodford (1990). We find that in a steady state it is optimal for the central bank to replicate the open economy, i.e., to issue debt financed by the accumulation of reserves so that the domestic interest rate equals the foreign rate. When the economy is in transition, however, a rapidly growing economy has a higher welfare without capital mobility and the optimal interest rate differs from the international rate. We argue that the domestic interest rate should be temporarily above the international rate. We also find that capital controls can still help reach the first best when the planner has more fiscal instruments.
    Date: 2012–04
  12. By: Nidhaleddine Ben Cheikh
    Abstract: This paper examines the extent and evolution of exchange rate pass-through (ERPT) using panel cointegration approach. For 27 OECD countries, we provide a strong evidence of incomplete ERPT in sample of 27 OECD countries. Both FM-OLS and DOLS estimators show that pass-through elasticity does not exceed 0.70%. When considering individual estimates, we note a cross-country differences in the long run ERPT. We find that inflation regime and exchange rate volatility are potential macroeconomic sources of this long-run heterogeneity. When focusing on the subsample of 12 European Monetary Union (EMU) countries, our results show a steady decline in the degree of ERPT throughout the different exchange rate arrangements: pass-through elasticity was close to unity during the "snake-in-the tunnel" period while it is about 0.50% since the formation of the euro area. The observed decline in ERPT to import prices was synchronous to the shift towards reduced inflation regime.
    Keywords: Exchange Rate Pass-Through, Import Prices, Nonstationary Panel data
    JEL: C23 E31 F31 F40
    Date: 2012–04
  13. By: Francisco Rosende; Matías Tapia
    Abstract: The behavior of inflation in Chile over the last 30 years has striking similarities to the experience of many industrialized and developing economies. The successful reduction of inflation, in a context of health GDP growth, reflects a combination of factors, ranging from better policies (both in terms of objectives and actual policy management) to a global supply shock that reduced inflation everywhere. Thus, the reduction of inflation in Chile was not solely luck or solely inspiration from the monetary authorities, but rather a (successful) combination of both. The paper performs two empirical exercises to analyze the behavior of inflation in the last 3 decades. Using the structural break methodology developed by Bai and Perron, we find that inflation process has changed twice since 1977, both changes roughly coinciding with relevant changes in both the monetary policy framework and international conditions. The second exercises uses the UC-SV model developed by Stock and Watson (2007). Comparing our results for Chile with a similar exercise for the G7, we confirm the strong similarities between the timing and characteristics of the inflation process in Chile and the industrialized world. This paper can be seen as the first part of wider agenda that tries to understand the features of inflation in Chile, with an emphasis on placing them on an international context. Future research will try to empirically analyze those mechanisms, shedding some light on the competing hypotheses and their relative weight.
    Keywords: Inflation, monetary policy, structural breaks, unobserved components
    JEL: E31 E52 E58
    Date: 2012
  14. By: Tomas Hellebrandt (Bank of England); Adam S. Posen (Peterson Institute for International Economics); Marilyne Tolle (Bank of England)
    Abstract: Active accommodation of fiscal consolidations by monetary policy is controversial, as can be seen in current euro area discussions. While many observers acknowledge that there is usually a place for monetary accommodation in response to fiscal consolidation, a sequencing argument is often heard today that fiscal commitment must precede any loosening. Some analysts go further to suggest that toughness by central banks taking a hard line on adjustment is critical to inducing sustained fiscal stabilization. This policy brief looks at the recent historical record of central bank behavior vis-à-vis fiscal authorities, at least until the current crisis period, and whether accommodative approaches ahead of consolidations have proven dangerous or helpful. The authors also try to assess the market credibility of fiscal consolidations as a function of the central banks' monetary stance prior to fiscal consolidation. They find clear evidence of positive associations between the degree of monetary ease in advance of fiscal consolidation programs and both those programs' success and their market credibility. For a wide range of cases of fiscal consolidation, monetary policymakers did not hesitate to pursue accommodative policies and try to improve economic conditions ahead of those programs' implementation.
    Date: 2012–04
  15. By: Virginie Coudert; Cécile Couharde; Valérie Mignon
    JEL: F31 C23 A A
    Date: 2012–04
  16. By: Anna Sznajderska (National Bank of Poland)
    Abstract: This paper empirically examines the potential asymmetries in the interest rate pass-through in Poland. We investigate the chosen retail interest rates in commercial banks on deposits and loans denominated in the Polish currency. It is considered whether their adjustment to changes in interbank rates is asymmetric in the long term as well as in the short term. We test for asymmetric cointegration using threshold autoregressive models and momentum-threshold autoregressive models. Next, if it is possible applying the threshold error correction models, we search for asymmetries associated with the direction of change in the money market rate, the level of the economic activity, the level of liquidity in the banking sector, the central bank’s credibility and the economic agents’ expectations. Finally, we test whether using the asymmetric models improves the quality of forecasts of retail bank interest rates.
    Keywords: interest rate pass-through, asymmetries, threshold models, forecasting
    Date: 2012
  17. By: In Choi (Department of Economics, Sogang University, Seoul); Seong Jin Hwang
    Abstract: This paper studies the performance of various forecasting models for Ko- rean inflation rates. The models studied in this paper are the AR(p) model, the dynamic predictive regression model with such exogenous variables as the un- employment rate and the term spread, the inflation target model, the random- walk model, and the dynamic predictive regression model using estimated fac- tors along with the unemployment rate and the term spread. The sampling period studied in this paper is 2000M11-2011M06. Among the studied models, the dynamic predictive regression model using estimated factors along with the unemployment rate and the term spread tends to perform best at the 6-month horizon when the factors are extracted from I(0) series and the variables for the factor extraction are selected by the criterion of the correlation of each variable with the inflation rate. The dynamic predictive regression models with the unemployment rate and the term spread also work well at shorter horizons.
    Keywords: inflation forecasting, Phillips curve, term spread, factor model, principal-component estimation, generalized principal-component estimation
    Date: 2012–02
  18. By: Antonakakis, Nikolaos
    Abstract: This paper examines co-movements and volatility spillovers in the returns of the euro, the British pound, the Swiss franc and the Japanese yen vis-a-vis the US dollar before and after the introduction of the euro. Based on dynamic correlations, variance decompositions, generalized VAR analysis, and a newly introduced spillover index, the results suggest significant co-movements and volatility spillovers across the four exchange returns, but their extend is, on average, lower in the latter period. Return co-movements and volatility spillovers show large variability though, and are positively associated with extreme economic episodes and, to a lower extend, with appreciations of the US dollar. Moreover, the euro (Deutsche mark) is the dominant currency in volatility transmission with a net volatility spillover of 8\% (15\%) to all other markets, while the British pound is the dominant net receiver of volatility with a net volatility spillover of -11\% (-13\%), in the post- (pre-) euro period. The nature of cross-market volatility spillovers is found to be bidirectional though, with the highest volatility spillovers occurring between the European markets. The economic implications of these findings for central bank interventions, international portfolio diversification and currency risk management are then discussed.
    Keywords: Exchange returns co-movement; Volatility spillover; Vector autoregression; Variance decomposition; Spillover index; Multivariate GARCH
    JEL: C32 G15 F31
    Date: 2012–04–06
  19. By: Michiel Bijlsma; Andrei Dubovik; Gijsbert Zwart
    Abstract: <p>In CPB Discussion Paper 209 we study incentives of financial intermediaries to reserve liquidity given that they can rely on the interbank market for their liquidity needs. Intermediaries can partially pledge their assets to each other, but not to the rest of the economy. Therefore liquidity provision is endogenous. </p><p>We show that if the probability of a crisis is large or if assets are slightly pledgeable, then all intermediaries reserve liquidity. However, if the probability of a crisis is small or if assets are highly pledgeable, then intermediaries segregate ex ante: some reserve no liquidity, others reserve to the maximum and become liquidity providers. This segregation arises, because in the latter case the crisis short-term rate exceeds the returns on long-term investments, while at the same time higher liquidity holdings also increase survival probability. Together, these two effects result in increasing marginal returns to liquidity in the crisis state, and, consequently, segregation ex ante. In either equilibrium, aggregate liquidity is too small if assets are not fully pledgeable. Minimum liquidity requirements only improve welfare in the symmetric equilibrium. Marginally lowering the interest rate causes a marginal crowding-out of private liquidity with public liquidity in the symmetric equilibrium, but a full crowding-out in the asymmetric equilibrium.</p>
    JEL: E43 G20 G33
    Date: 2012–04

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