nep-mon New Economics Papers
on Monetary Economics
Issue of 2013‒09‒26
25 papers chosen by
Bernd Hayo
Philipps-University Marburg

  1. The Ties that Bind: Monetary Policy and Government Debt Management By Jagjit S. Chadha; Philip Turner; Fabrizio Zampolli
  2. Limits of Monetary Policy Autonomy and Exchange Rate Flexibility by East Asian Central Banks By Axel Löffler; Gunther Schnabl; Franziska Schobert
  3. Is monetary policy a science? the interaction of theory and practice over the last 50 years By William R. White
  4. Monetary Policy in Emerging Markets: Taming the Cycle By Donal McGettigan; Kenji Moriyama; Jean F Noah Ndela Ntsama; Francois Painchaud; Haonan Qu; Chad Steinberg
  5. State Dependent Monetary Policy By Francesco Lippi; Stefania Ragni; Nicholas Trachter
  6. Does the Federal Reserve Care About the Rest of the World? By Barry Eichengreen
  7. Rethinking Macro Policy II: Getting Granular By Olivier J. Blanchard; Giovanni Dell'Ariccia; Paolo Mauro
  8. Living with the Trilemma Constraint: Relative Trilemma Policy Divergence, Crises, and Output Losses for Developing Countries By Joshua Aizenman; Hiro Ito
  9. The Great Recession and the Two Dimensions of European Central Bank Credibility By Timo Henckel; Gordon D. Menzies; Daniel J. Zizzo
  10. Risks to price stability, the zero lower bound and forward guidance: a real-time assessment By Coenen, Günter; Warne, Anders
  11. Exchange Rates and Interest Parity By Charles Engel
  12. World Food Prices, the Terms of Trade-Real Exchange Rate Nexus, and Monetary Policy By Luis Catão; Roberto Chang
  13. Measuring and Mending Monetary Policy Effectiveness Under Capital Account Restrictions—Lessons from Mauritania By Robert Blotevogel
  14. What Explains Movements in the Peso/Dollar Exchange Rate? By Yi Wu
  15. Sovereign Default Risk and Banks in a Monetary Union By Uhlig, Harald
  16. Policy design with private sector skepticism in the textbook New Keynesian model By Yang Lu; Ernesto Pasten; Robert King
  17. A Schumpeterian Analysis of Monetary Policy, Innovation and North-South Technology Transfer By Chu, Angus C.; Cozzi, Guido; Furukawa, Yuichi
  18. The Bracteate as Economic Idea and Monetary Instrument By Svensson, Roger
  19. Can federal reserve policy deviation explain response patterns of financial markets over time? By WANG, Kent; WANG, Shin-Huei; PAN, Zheyao
  20. Exchange Rate Predictability By Rossi, Barbara
  21. Zero Lower Bound and Parameter Bias in an Estimated DSGE Model By Yasuo Hirose; Atsushi Inoue
  22. The use of credit claims as collateral for Eurosystem credit operations By Tamura, Kentaro; Tabakis, Evangelos
  23. International Competitiveness and Monetary Policy: Strategic Policy and Coordination with a Production Relocation Externality By Bergin, Paul R; Corsetti, Giancarlo
  24. The regime-dependent evolution of credibility: A fresh look at Hong Kong’s linked exchange rate system By Blagov , Boris; Funke, Michael
  25. Post-Crisis Capital Account Regulation in South Korea and South Africa By Brittany Baumann; Kevin Gallagher

  1. By: Jagjit S. Chadha; Philip Turner; Fabrizio Zampolli
    Abstract: The financial crisis and subsequent economic recession led to a rapid increase in the issuance of public debt. But large-scale purchases of bonds by the Federal Reserve, and other major central banks, have significantly reduced the scale and maturity of public debt that would otherwise have been held by the private sector. We present new evidence that tilting the maturity structure of private sector holdings significantly influences term premia, even outside crisis times. Our framework helps explain both the bond yield conundrum and the effectiveness of quantitative easing. We suggest that these findings raise two important policy questions. One is: should a central bank, contrary to recent orthodoxy, use its balance sheet as an additional complementary instrument of monetary policy to influence, as part of the monetary transmission mechanism, the long-term interest rate? The second is: how should central banks and governments ensure that debt management properly takes account of the implications for both monetary and financial stability?
    Keywords: Quantitative easing; sovereign debt management; long-term interest rate; portfolio balance effect; exit strategy
    JEL: E43 E52 E63
    Date: 2013–09
  2. By: Axel Löffler; Gunther Schnabl (Institute for Economic Policy, University of Leipzig); Franziska Schobert
    Abstract: Given low interest rates in the large industrial countries and buoyant capital inflows into the emerging markets East Asian central banks have accumulated large stocks of foreign reserves. As the resulting easing of monetary conditions has become a threat to domestic price and financial stability, the East Asian central banks have embarked on substantial sterilization operations to absorb what we call 'surplus liquidity' from the domestic banking systems. This has brought the East Asian central banks into debtor positions versus the domestic banking systems. We show based on a central bank loss function that given buoyant capital inflows and exchange rate stabilization the absorption of surplus liquidity leads either to financial repression, or rising inflation or both. Assuming that a debtor central bank moved towards a freely floating exchange rate to gain monetary policy independence, we show that monetary policy independence is undermined by sterilization costs and revaluation losses on foreign reserves.
    Keywords: Debtor Central Banks, Monetary Policy Autonomy, Sterilization, Exchange Rate Regime, East Asia
    JEL: E52 E58 F31
    Date: 2013–08–22
  3. By: William R. White
    Abstract: In recent decades, the declarations of “independent” central banks and the conduct of monetary policy have been assigned an ever increasing role in the pursuit of economic and financial stability. This is curious since there is, in practice, no body of scientific knowledge (evidence based beliefs) solid enough to have ensured agreement among central banks on the best way to conduct monetary policy. Moreover, beliefs pertaining to every aspect of monetary policy have also changed markedly and repeatedly. This paper documents how the objectives of monetary policy, the optimal exchange rate framework, beliefs about the transmission mechanism, the mechanism of political oversight, and many other aspects of domestic monetary frameworks have all been subject to great flux over the last fifty years. ; The paper also suggests ways in which the current economic and financial crisis seems likely to affect the conduct of monetary policy in the future. One possibility is that it might lead to yet another fundamental reexamination of our beliefs about how best to conduct monetary policy in an increasingly globalized world. The role played by money and credit, the interactions between price stability and financial stability, the possible medium term risks generated by “ultra easy” monetary policies, and the facilitating role played by the international monetary (non) system all need urgent attention. The paper concludes that, absent the degree of knowledge required about its effects, monetary policy is currently being relied on too heavily in the pursuit of “strong, balanced and sustainable growth.”
    Keywords: National security
    Date: 2013
  4. By: Donal McGettigan; Kenji Moriyama; Jean F Noah Ndela Ntsama; Francois Painchaud; Haonan Qu; Chad Steinberg
    Abstract: In contrast to advanced markets (AMs), procyclical monetary policy has been a problem for emerging markets (EMs), with macroeconomic policies amplifying economic upswings and deepening downturns. The stark difference in policy has not been subject to extensive study and this paper attempts to address the gap. Key findings, using a large sample of EMs over the past 50 years, are: (i) EMs have adopted increasingly countercyclical monetary policy over time, although large differences remain among EMs and policies became more procyclical during the recent crisis. (ii) Inflation targeting and better institutions have been key factors behind the move to countercyclicality. (iii) Only deep financial markets allow EMs with flexible exchange rate regimes turn countercyclical. (iv) More countercyclical policy is associated with far less volatile output. The economically meaningful impact of IT on monetary policy countercyclicality and output variability is another reason in its favor, over and above better inflation outcomes.
    Keywords: Monetary policy;Emerging markets;Chile;Inflation targeting;Business cycles;Monetary Policy, Countercyclical Policy, Emerging Markets
    Date: 2013–05–03
  5. By: Francesco Lippi (University of Sassari and EIEF); Stefania Ragni (University of Sassari); Nicholas Trachter (EIEF)
    Abstract: We study the optimal anticipated monetary policy in a flexible-price economy featuring heterogenous agents and incomplete markets which give rise to a business cycle. The optimal policy prescribes monetary expansions in recessions, when insurance is most needed by cash-poor unproductive agents. To minimize the inflationary effect of these expansions the policy prescribes monetary contractions in good times. Although the optimal monetary policy varies greatly through the business cycle it "echoes" Friedman's principle in the sense that the money supply is regulated such that its expected real return approaches the rate of time preference.
    Date: 2013
  6. By: Barry Eichengreen
    Abstract: Many economists are accustomed to thinking about Federal Reserve policy in terms of the institution’s dual mandate, which refers to price stability and high employment, and in which the exchange rate and other international variables matter only insofar as they influence inflation and the output gap – which is to say, not very much. This conventional view is heavily shaped by the distinctive circumstances of the last three decades, when the influence of international considerations on Fed policy has been limited. I discuss how the Federal Reserve paid significant attention to international considerations in its first two decades, followed by relative inattention to such factors in the two-plus decades that followed, then back to renewed attention to international aspects of monetary policy in the 1960s, before the recent period of benign neglect of the international dimension. This longer perspective is a reminder that just because the Fed has not attached priority to international aspects of monetary policy in the recent past is no guarantee that it will not do so in the future.
    JEL: E4 N1
    Date: 2013–09
  7. By: Olivier J. Blanchard; Giovanni Dell'Ariccia; Paolo Mauro
    Abstract: This note explores how the economic thinking about macroeconomic management has evolved since the crisis began. It discusses developments in monetary policy, including unconventional measures; the challenges associated with increased public debt; and the policy potential, risks, and institutional challenges associated with new macroprudential measures. Rationale: The note contributes to the ongoing debate on several aspects of macroeconomic policy. It follows up on the earlier “Rethinking†paper, refining the analysis in light of the events of the past two years. Given the relatively fluid state of the debate (e.g., recent challenges to central bank independence), it is useful to highlight that while many of the tenets of the pre-crisis consensus have been challenged, others (such as the desirability of central bank independence) remain valid.
    Keywords: Monetary policy;Central banks;Inflation targeting;Liquidity;Interest rates;Capital flows;Fiscal policy;Public debt;Fiscal consolidation;Macroprudential Policy;Stabilization measures;Monetary policy, Inflation targets, Zero lower bound, Fiscal consolidation, Fiscal multipliers, Financial stability, Macroprudential policy
    Date: 2013–04–15
  8. By: Joshua Aizenman; Hiro Ito
    Abstract: This paper investigates the potential impacts of the degree of divergence in open macroeconomic policies in the context of the trilemma hypothesis. Using an index that measures the relative policy divergence among the three trilemma policy choices, namely monetary independence, exchange rate stability, and financial openness, we find that emerging market countries have adopted trilemma policy combinations with the least degree of relative policy divergence in the last fifteen years. We also find that a developing or emerging market country with a higher degree of relative policy divergence is more likely to experience a currency or debt crisis. However, a developing or emerging market country with a higher degree of relative policy divergence tends to experience smaller output losses when it experiences a currency or banking crisis. Latin American crisis countries tended to reduce their financial integration in the aftermath of a crisis, while this is not the case for the Asian crisis countries. The Asian crisis countries tended to reduce the degree of relative policy divergence in the aftermath of the crisis, probably aiming at macroeconomic policies that are less prone to crises. The degree of relative policy divergence is affected by past crisis experiences – countries that experienced currency crisis or a currency-banking twin crisis tend to adopt a policy combination with a smaller degree of policy divergence.
    JEL: F31 F36 F41 O24
    Date: 2013–09
  9. By: Timo Henckel; Gordon D. Menzies; Daniel J. Zizzo
    Abstract: A puzzle from the Great Recession is an apparent mismatch between a fall in the persistence of European inflation rates, and the increased variability of expert forecasts of inflation. We explain this puzzle and show how country specific beliefs about inflation are still quite close to the European Central Bank target of 2% (what we call official target credibility) but the degree of anchoring to this target has gone down, implying an erosion of what we call anchoring credibility. A decline in anchoring credibility can explain increased forecast variance independently of any changes in inflation persistence, contrary to standard time series models.
    Keywords: central bank credibility, excess volatility, euro, inferential expectations, inflation
    JEL: C51 D84 E31 E52
    Date: 2013–09
  10. By: Coenen, Günter; Warne, Anders
    Abstract: This paper employs stochastic simulations of the New Area-Wide Model—a micro-founded open-economy model developed at the ECB—to investigate the consequences of the zero lower bound on nominal interest rates for the evolution of risks to price stability in the euro area during the recent financial crisis. Using a formal measure of the balance of risks, which is derived from policy-makers’ preferences about inflation outcomes, we first show that downside risks to price stability were considerably greater than upside risks during the first half of 2009, followed by a gradual rebalancing of these risks until mid-2011 and a renewed deterioration thereafter. We find that the lower bound has induced a noticeable downward bias in the risk balance throughout our evaluation period because of the implied amplification of deflation risks. We then illustrate that, with nominal interest rates close to zero, forward guidance in the form of a time-based conditional commitment to keep interest rates low for longer can be successful in mitigating downside risks to price stability. However, we find that the provision of time-based forward guidance may give rise to upside risks over the medium term if extended too far into the future. By contrast, time-based forward guidance complemented with a threshold condition concerning tolerable future inflation can provide insurance against the materialisation of such upside risks. JEL Classification: E31, E37, E52, E58
    Keywords: deflation, DSGE modelling, euro area, forward guidance, monetary policy, zero lower bound
    Date: 2013–08
  11. By: Charles Engel
    Abstract: This paper surveys recent theoretical and empirical contributions on foreign exchange rate determination. The paper first considers monetary models under uncovered interest parity and rational expectations. Then the paper considers deviations from UIP/rational expectations: foreign exchange risk premium, private information, near-rational expectations, and peso problems.
    JEL: F31 F41 G15
    Date: 2013–08
  12. By: Luis Catão; Roberto Chang
    Abstract: How should monetary policy respond to large fluctuations in world food prices? We study this question in an open economy model in which imported food has a larger weight in domestic consumption than abroad and international risk sharing can be imperfect. A key novelty is that the real exchange rate and the terms of trade can move in opposite directions in response to world food price shocks. This exacerbates the policy trade-off between stabilizing output prices vis a vis the real exchange rate, to an extent that depends on risk sharing and the price elasticity of exports. Under perfect risk sharing, targeting the headline CPI welfare-dominates targeting the PPI if the variance of food price shocks is not too small and the export price elasticity is realistically high. In such a case, however, targeting forecast CPI is a superior choice. With incomplete risk sharing, PPI targeting is clearly a winner.
    Keywords: Commodity price fluctuations;External shocks;Producer price indexes;Terms of trade;Exchange rate appreciation;Monetary policy;Economic models;Commodity Price Shocks, Inflation Targeting, Taylor rules, Incomplete Markets
    Date: 2013–05–17
  13. By: Robert Blotevogel
    Abstract: I propose a new approach to identifying exogenous monetary policy shocks in low-income countries with capital account restrictions. In the case of Mauritania, a domestic repatriation requirement is the key institutional characteristic that allows me to establish exogeneity. Unlike in advanced countries, I find no evidence for a statistically significant impact of exogenous monetary policy shocks on bank lending. Using a unique bank-level dataset on monthly balance sheets of six Mauritanian banks over the period 2006–11, I estimate structural vector autoregressions and two-stage least square panel models to demonstrate the ineffectiveness of monetary policy. Finally, I discuss how a reduction in banks’ loan concentration ratios and improvements in the liquidity management framework could make monetary stimuli more effective.
    Keywords: Monetary policy;Mauritania;Banking sector;Capital account;Low-income developing countries;monetary policy effectiveness, exogenous monetary policy shocks, capital account restrictions, low-income countries, liquidity management, loan concentration.
    Date: 2013–03–27
  14. By: Yi Wu
    Abstract: This paper examines the factors affecting the weekly peso/dollar exchange rate movements between 1999 and 2013 using an error correction model. The model fits the historical data well. While copper price is the most important determinant of the peso exchange rate over the long run, other factors including interest rate differential, global financial distress, local pension funds’ derivative position, as well as the Federal Reserve’s quantitative easing also affect the peso in the short run. The Central Bank of Chile’s foreign exchange interventions in 2008 and 2011 had a small impact on the peso.
    Keywords: Exchange rate adjustments;Chile;Copper;Commodity price fluctuations;Capital flows;Exchange rates;Currencies;Economic models;Chilean peso, exchange rate
    Date: 2013–07–18
  15. By: Uhlig, Harald
    Abstract: This paper seeks to understand the interplay between banks, bank regulation, sovereign default risk and central bank guarantees in a monetary union. I assume that banks can use sovereign bonds for repurchase agreements with a common central bank, and that their sovereign partially backs up any losses, should the banks not be able to repurchase the bonds. I argue that regulators in risky countries have an incentive to allow their banks to hold home risky bonds and risk defaults, while regulators in other “safe” countries will impose tighter regulation. As a result, governments in risky countries get to borrow more cheaply, effectively shifting the risk of some of the potential sovereign default losses on the common central bank.
    Keywords: bank regulation; common central bank; ECB; Euro zone crisis; European Central Bank; haircuts; repurchase operations; risk shifting; sovereign default risk
    JEL: E51 E58 E61 E65 G21 G28 H63
    Date: 2013–08
  16. By: Yang Lu (Hong Kong University of Science and Technology); Ernesto Pasten (Banco Central de Chile and Toulouse School of Economics); Robert King (Boston University)
    Abstract: How should policy be optimally designed when a monetary authority faces a private sector that is somewhat skeptical about policy announcements and which interprets economic data as providing evidence about the monetary authority's preferences or its ability to carry through on policy plans? To provide an answer to this question, we extend the standard New Keynesian macroeconomic model to include imperfect inflation control (implementation error relative to an inflation action) and Bayesian learning by private agents about whether the monetary authority is the committed type (capable of following through on announced plans) or an alternative type (producing higher and more volatile inflation). In a benchmark case, we find that optimal policy involves dramatic anti-inflation actions which include an interval of deflation during the early stages of a plan, motivated by investing in a reputation for strength. Such policies resemble recommendations during the 1980s for a "cold turkey" approach to disinflation. However, we also find that such policy is not robustly optimal. A more "gradualist" policy arises if the initial level of credibility is very low. We also investigate a setting where the alternative monetary authority follows a simple behavioral rule that mimics variations in the committed authority's policy action but with a bias toward higher and more volatile inflation. In this case, which we call a "tag along" alternative policymaker, a form of gradualism is always optimal.
    Date: 2013
  17. By: Chu, Angus C.; Cozzi, Guido; Furukawa, Yuichi
    Abstract: This study analyzes the cross-country effects of monetary policy on innovation and international technology transfer. We consider a scale-invariant North-South quality-ladder model that features innovative R&D in the North and adaptive R&D in the South. To model money demand, we impose cash-in-advance constraints on these two types of R&D investment. We find that an increase in the Southern nominal interest rate causes a permanent decrease in the rate of international technology transfer, a permanent increase in the North-South wage gap, and a temporary decrease in the rate of Northern innovation. An increase in the Northern nominal interest rate causes a temporary decrease in the rate of Northern innovation, a permanent decrease in the North-South wage gap, and an ambiguous effect on the rate of international technology transfer depending on the relative size of the two economies. We also calibrate the model to China-US data and find that the cross-country welfare effects of monetary policy are quantitatively significant. Specifically, permanently decreasing the nominal interest rate to zero in China leads to a welfare gain of 3.37% in China and a welfare gain of 1.25% in the US. Permanently decreasing the nominal interest rate to zero in the US leads to welfare gains of 0.33% in the US and 1.24% in China.
    Keywords: Monetary policy, economic growth, R&D, North-South product cycles, FDI
    JEL: O30 O40 E41 F43
    Date: 2013–09
  18. By: Svensson, Roger (Research Institute of Industrial Economics (IFN))
    Abstract: Although the leaf-thin bracteates are the most fragile coins in monetary history, they were the main coin type for almost two centuries in large parts of medieval Europe. The usefulness of the bracteates can be linked to the contemporary monetary taxation policy. Medieval coins were frequently withdrawn by the coin issuer and re-minted, where people had to pay an exchange fee. Bracteates had several favourable characteristics for such a policy: 1) Low production costs; and 2) various pictures could be displayed given their relatively large diameter, making it easy to distinguish between valid and invalid types. The fragility was not a big problem, since the bracteates would not circulate for a long period. When monetization increased and it became more difficult to handle re-coinage (around 1300), the bracteates lost their function as the principal coin. However, for a further two centuries (1300–1500) they were used as small change to larger denominations.
    Keywords: Bracteates; Medieval coins; Re-coinage; Short-lived coinage system; Monetization; Monetary taxation policy; Small change
    JEL: E31 E42 E52 N13
    Date: 2013–09–10
  19. By: WANG, Kent (The Wangyanan Institute for Studies in Economics, Xiamen University, China); WANG, Shin-Huei (Université catholique de Louvain, CORE, Belgium); PAN, Zheyao (The Wangyanan Institute for Studies in Economics, Xiamen University, China)
    Abstract: Yes. By using real-time structure break monitoring techniques we find evidence against monotonic response pattern, specifically three response structures of US stock market to the federal monetary policy actions based on a sample from 1989-2010. We re-estimate the market response in each of the three structures and find results stronger than previously documented especially in 2001-2008. We propose a “FedGap” variable which measures the deviation of Fed policy from the “Taylor Rule” in explanation and find it to be significant with economic meaning. We conclude that market responses proportionally to the size of the FedGap and it thus serves as a new “macro-state” factor which can explain the dynamic response patterns of financial markets. We also examine the issue from the bond market, and find similar results.
    Keywords: real-time structure breaks, dynamic market response, monetary policy, Taylor Rule, FedGap
    JEL: E44 G12 G14 G28
    Date: 2013–07–04
  20. By: Rossi, Barbara
    Abstract: The main goal of this article is to provide an answer to the question: "Does anything forecast exchange rates, and if so, which variables?". It is well known that exchange rate fluctuations are very difficult to predict using economic models, and that a random walk forecasts exchange rates better than any economic model (the Meese and Rogoff puzzle). However, the recent literature has identified a series of fundamentals/methodologies that claim to have resolved the puzzle. This article provides a critical review of the recent literature on exchange rate forecasting and illustrates the new methodologies and fundamentals that have been recently proposed in an up-to-date, thorough empirical analysis. Overall, our analysis of the literature and the data suggests that the answer to the question: "Are exchange rates predictable?" is, "It depends" on the choice of predictor, forecast horizon, sample period, model, and forecast evaluation method. Predictability is most apparent when one or more of the following hold: the predictors are Taylor rule or net foreign assets, the model is linear, and a small number of parameters are estimated. The toughest benchmark is the random walk without drift.
    Keywords: Exchange Rates; Forecast Evaluation; Forecasting; Instability
    JEL: C5 F3
    Date: 2013–07
  21. By: Yasuo Hirose; Atsushi Inoue
    Abstract: This paper examines how and to what extent parameter estimates can be biased in a dynamic stochastic general equilibrium (DSGE) model that omits the zero lower bound constraint on the nominal interest rate. Our experiments show that most of the parameter estimates in a standard sticky-price DSGE model are not biased although some biases are detected in the estimates of the monetary policy parameters and the steady-state real interest rate. Nevertheless, in our baseline experiment, these biases are so small that the estimated impulse response functions are quite similar to the true impulse response functions. However, as the probability of hitting the zero lower bound increases, the biases in the parameter estimates become larger and can therefore lead to substantial differences between the estimated and true impulse responses.
    Keywords: Zero lower bound, DSGE model, Parameter bias, Bayesian estimation
    JEL: C32 E30 E52
    Date: 2013–09
  22. By: Tamura, Kentaro; Tabakis, Evangelos
    Abstract: Credit claims (or bank loans) represent a large share of the collateral accepted by the Eurosystem in its credit operations in recent years. Hence the techniques and procedures used in the use of credit claims as collateral have become significant elements of the monetary policy implementation mechanism in the euro area. The procedures involved in credit claim collateralisation, however, are generally more complex than those for marketable assets traded in regulated markets or in other markets accepted by the Eurosystem. While several types of credit claims are eligible as Eurosystem collateral, each type of credit claim has different characteristics which require specific considerations in the eligibility assessment. This paper provides an overview of the issues involved in the use of credit claims as collateral and relates these to some measures taken by both the public and the private sector aimed at facilitating their use in the euro area. The paper also elaborates on the syndicated loan market in the euro area as this market is sizeable, while it appears that the use of such loans as collateral remains limited. JEL Classification: G10, G12, G13
    Keywords: central bank collateral eligibility, Credit claim, syndicated loan
    Date: 2013–06
  23. By: Bergin, Paul R; Corsetti, Giancarlo
    Abstract: Can a country gain international competitiveness by the design of optimal monetary stabilization rules? This paper reconsiders this question by specifying an open-economy monetary model encompassing a ‘production relocation externality,’ developed in trade theory to analyze the benefits from promoting entry of domestic firms in the manufacturing sector. In a macroeconomic context, this externality provides an incentive for monetary authorities to trade-off output gap with pro-competitive profit stabilization. While helping manufacturing firms to set competitively low prices, optimal pro-competitive stabilization nonetheless results in stronger terms of trade, due to the change in the country’s specialization and composition of exports. The welfare gains from international policy coordination are large relative to the case of self-oriented, strategic conduct of stabilization policy. Empirical evidence confirms that the effects of monetary policy design on the composition of trade predicted by the theory are present in data and are quantitatively important.
    Keywords: firm entry; international coordination; monetary policy; optimal tariff; production location externality
    JEL: F41
    Date: 2013–08
  24. By: Blagov , Boris (BOFIT); Funke, Michael (BOFIT)
    Abstract: An estimated Markov-switching DSGE modelling framework that allows for parameter shifts across regimes is employed to test the hypothesis of regime-dependent credibility of Hong Kong’s linked exchange rate system. The model distinguishes two regimes with respect to the time-series properties of the risk premium. Regime-dependent impulse responses to macroeconomic shocks reveal substantial differences in spreads. These findings contribute to efforts at modelling exchange rate regime credibility as a non-linear process with two distinct regimes.
    Keywords: Markov-switching DSGE models; exchange rate regime credibility; Hong Kong
    JEL: C51 C52 E32 F41
    Date: 2013–09–04
  25. By: Brittany Baumann; Kevin Gallagher
    Abstract: In the immediate aftermath of the global financial crisis, the world economy was characterized as experiencing a ‘two-speed’ recovery. Industrialized nations, where the crisis occurred, saw slow growth whereas many emerging market and developing countries grew significantly. These growth differentials, coupled with significant interest rate differentials across the globe, triggered significant flows of financial capital to the emerging market and developing countries. As a result, many countries experienced sharp appreciations of their currencies and associated concerns about the development of asset bubbles. This paper examines measures taken to mitigate the harmful effects of excessive capital flows in South Korea and South Africa. Each of these nations experienced similar surges in inflows with associated exchange rate and asset bubble woes, but each took quite different approaches in an attempt to mitigate those effects. South Korea devised a series of capital account regulations on the inflow of capital whereas South Africa liberalized their existing regulations on capital outflows. We econometrically analyze the effectiveness of these measures and find some limited evidence that both countries’ measures were successful in lessening the appreciation and volatility of their exchanges rates. These nations were less successful in stemming asset bubbles.
    JEL: E65 F32 F36 F41
    Date: 2013

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