nep-mon New Economics Papers
on Monetary Economics
Issue of 2013‒11‒29
25 papers chosen by
Bernd Hayo
Philipps-University Marburg

  1. Central Bank Communications Before, During and After the Crisis: From Open-Market Operations to Open-Mouth Policy By Ianthi Vayid
  2. Liquidity, Quantitative Easing and Optimal Monetary Policy By Engin Kara; Jasmin Sin
  3. Making Monetary Policy More Effective: The Case of the Democratic Republic of the Congo By Felix Fischer; Charlotte J. Lundgren; Samir Jahjah
  4. Monetary Union and Macroeconomic Stabilization By Dominik Groll
  5. Monetary policy and stock market volatility By Bleich, Dirk; Fendel, Ralf; Rülke, Jan-Christoph
  6. The International Monetary System: Where Are We and Where Do We Need to Go? By Rakesh Mohan; Michael Debabrata Patra; Muneesh Kapur
  7. Nominal GDP Targeting and the Monetary Policy Framework By Shakill Hassan and Chris Loewald
  8. Central banks need a new plan for 2014 By John H. Makin
  9. Central Bank Independence and the Price-Output-Variability Trade-off By Landström, Mats
  10. Excess Reserves, Monetary Policy and Financial Volatility By Primus, Keyra
  11. Evolution of Monetary Policy Transmission Mechanism in Malawi: A TVP-VAR with Stochastic Volatility Approach By Chance Mwabutwa, Manoel Bittencourt and Nicola Viegi
  12. The Curious Case of the Yen as a Safe Haven Currency: A Forensic Analysis By Dennis P. J. Botman; Irineu E. Carvalho Filho; Raphael W. Lam
  13. Forecasting the NOK/USD Exchange Rate with Machine Learning Techniques By Theophilos Papadimitriou; Periklis Gogas; Vasilios Plakandaras
  14. Uncertainty in the Money supply mechanism and interbank markets in Colombia By Camilo GOnzález; Luisa Silva; Carmiña Vargas; Andrés Velasco
  15. International Transmissions to Australia: The Roles of the US and Euro Area By Dungey, Mardi; Osborne, Denise
  16. Accelerated Rise and Distorted Vigor: Unconventional Interventions into an Emerging Market of Japan By NAKABAYASHI, Masaki
  17. The Feldstein-Horioka Puzzle: Modern Aspects By Pavel Trunin; Andrey Zubarev
  18. Behavioural Asymmetries in the G7 Foreign Exchange Market By mamatzakis, e; Christodoulakis, G
  19. Currency Union with and without Banking Union By Bignon, Vincent; Breton, Régis; Rojas Breu, Mariana
  20. DSGE Model-Based Forecasting of Modeled and Non-Modeled Inflation Variables in South Africa By Rangan Gupta; Patrick T. kanda; Mampho P. Modise; Alessia Pacagnini
  21. Optimal Fiscal and Monetary Policy in Customer Markets By David M. Arseneau; Ryan Chahrour; Sanjay K. Chugh; Alan Finkelstein Shapiro
  22. Are Capital Controls Prudential? An Empirical Investigation By Andrés Fernández; Alessandro Rebucci; Martín Uribe
  23. On the Impact of the Global Financial Crisis on the Euro Area By He, Xiaoli; Jacobs, Jan P.A.M.; Kuper, Gerard H.; Ligthart, Jenny E.
  24. How Did the Global Financial Crisis Misalign East Asian Currencies? By OGAWA Eiji; Zhiqian WANG
  25. Money and Limited Enforcement in Multilateral Exchange By Nicola Amendola; Leo Ferraris

  1. By: Ianthi Vayid
    Abstract: The days when secrecy and opacity were the bywords of central banking are gone. The advent of inflation targeting in the early 1990s acted as the catalyst for enhanced transparency and communications in the conduct of monetary policy. In the wake of the 2007-09 global financial crisis, this trend accelerated, resulting in further striking advances in monetary policy and financial stability communications, including markedly the emergence of extraordinary forward guidance as a distinct policy tool under unconventional monetary policies. Drawing on the record to-date at major central banks, as well as on a growing body of related academic literature, this paper reviews the history and effectiveness of central bank communications before and especially since the crisis. It also highlights some of the challenges facing central banks, particularly those that have engaged heavily in unconventional monetary policies to support their economies since the crisis. Steering deftly a course back to normality will depend crucially on their ability to communicate effectively a credible strategy for an orderly exit from such policies. In this context, clear, deliberate, coordinated messages that are anchored in their mandate are of the essence.
    Keywords: Central bank research; Credibility; Financial stability; Inflation targets; Monetary policy framework; Monetary policy implementation
    JEL: E52 E58
    Date: 2013
  2. By: Engin Kara; Jasmin Sin
    Abstract: We investigate optimal monetary policy design using a New Keynesian model that accommodates liquidity frictions. In this model, unlike the standard New Keynesian model, the central bank faces a trade-off between inflation and output stabilisation. Optimal policy requires a temporary deviation from price stability in response to a negative shock to the liquidity of private financial assets. We find that quantitative easing improves the trade-off between inflation and output by improving liquidity conditions in the economy.
    Keywords: DSGE Models, Optimal Monetary Policy, liquidity, quantitative easing
    JEL: E44 E52 E58
    Date: 2013–09
  3. By: Felix Fischer; Charlotte J. Lundgren; Samir Jahjah
    Abstract: The paper looks at the challenges of conducting monetary policy in a context of high dollarization of the banking system and weak institutions in the Democratic Republic of the Congo. The empirical analysis confirms the limited effectiveness of the Central Bank of Congo in controlling inflation, despite a rapid policy response to inflation shocks. Options available to enhance the effectiveness of monetary policy are limited. After exploring the pros and cons of different exchange regimes we conclude that strengthening the current monetary policy framework remains the first-best option, given the country’s exposure to frequent terms-of-trade shocks.
    Keywords: Monetary policy;Republic of Congo;Central bank autonomy;Dollarization;Exchange rate regimes;dollarization, monetary policy, inflation, exchange rate regime, dedollarization, financial deepening.
    Date: 2013–11–05
  4. By: Dominik Groll
    Abstract: It is conventionally held that countries are worse off by forming a monetary union when it comes to macroeconomic stabilization. However, this conventional view relies on assuming that monetary policy is conducted optimally. Relaxing the assumption of optimal monetary policy not only uncovers that countries do benefit from forming a monetary union under fairly general conditions. More importantly, it also reveals that a monetary union entails the inherent benefit of stabilizing private-sector expectations about future inflation. As a result, inflation rates are more stable in a monetary union
    Keywords: Monetary union, macroeconomic stabilization, welfare analysis, history dependence, inflation expectations
    JEL: F33 F41 E52
    Date: 2013–11
  5. By: Bleich, Dirk; Fendel, Ralf; Rülke, Jan-Christoph
    Abstract: We estimate forward-looking interest rate reaction functions in the spirit of Taylor (1993) for four major central banks augmented by implicit volatilities of stock market indices to proxy financial market stress. Our results suggest that the Bank of England, the Federal Reserve Bank and the European Central Bank systematically respond to an increase of the implicit volatility by a decrease in the interest rate. We take our results as strong evidence that central banks use interest rates to stabilize financial markets in periods of financial market stress. --
    Keywords: Monetary policy,Taylor rule,Asset prices
    JEL: E43 E58 G12
    Date: 2013
  6. By: Rakesh Mohan; Michael Debabrata Patra; Muneesh Kapur
    Abstract: The North Atlantic financial crisis of 2008-2009 has spurred renewed interest in reforming the international monetary system, which has been malfunctioning in many aspects. Large and volatile capital flows have promoted greater volatility in financial markets, leading to recurrent financial crises. The renewed focus on the broader role of the central banks, away from narrow price stability monetary policy frameworks, is necessary to ensure domestic macroeconomic and financial stability. Since international monetary cooperation might be difficult, though desirable, central banks in major advanced economies, going forward, need to internalize the implications of their monetary policies for the rest of the global economy to reduce the incidence of financial crises.
    Keywords: International monetary system;Monetary policy;Capital flows;Reserves accumulation;Surveillance;Central bank role;Developed countries;Emerging markets;Developing countries;Financial stability;Capital flows, central banks, currency internationalization, international monetary system, financial stability
    Date: 2013–11–05
  7. By: Shakill Hassan and Chris Loewald
    Abstract: A nominal income target may provide credibility to a commitment to keep real interest rates exceptionally low, until a target output level is reached -–even if expected inflation rises in the interim–- in economies where nominal interest rates are effectively at the zero lower bound, which is not the South African case. There are practical difficulties with adopting nominal income targeting as the monetary policy framework. These include issues on the choice of a target level, risk of unanchored in‡ation expectations, and increased likelihood of error due to data uncertainty and revisions. Responsiveness to output growth and supply shocks -–two important attractions of nominal income targeting - can be largely accommodated within flexible inflation targeting. Neither regime will automatically resolve the challenges posed to monetary policy by volatile capital flows and exchange rates, and asset price bubbles. The case for abandoning flexible in‡ation targeting, to adopt nominal income targeting, in South Africa and other emerging economies, is not compelling.
    Keywords: Monetary policy, nominal income targeting, Inflation targeting, Growth
    JEL: E52 E58
    Date: 2013
  8. By: John H. Makin (American Enterprise Institute)
    Abstract: Many major world economies are at risk of slipping from a period of falling inflation (disinflation) into outright negative inflation (deflation), and the eurozone is leading the trend. The European Central Bank and Fed in particular must strive to avoid this outcome by striking a balance between continuing quantitative easing and tightening monetary policy.
    Keywords: the Fed,quantitative easing,eurozone,European Central Bank,Economic outlook,deflation
    JEL: A E
    Date: 2013–11
  9. By: Landström, Mats (School of Technology and Business Studies)
    Abstract: Data on central bank independence (CBI) and implementation dates of CBI-reforms were used to investigate the relationship between CBI and a possible trade-off between inflation variability and output variability. No such trade-off was found, but there might still be stabilization gains from CBI-reform.
    Keywords: price stability; output stability; monetary policy; Taylor curve; inflation
    JEL: E52 E58
    Date: 2013–11–19
  10. By: Primus, Keyra
    Abstract: This paper examines the financial and real effects of excess reserves in a New Keynesian Dynamic Stochastic General Equilibrium (DSGE) model with monopoly banking, credit market imperfections and a cost channel. The model explicitly accounts for the fact that banks hold excess reserves and they incur costs in holding these assets. Simulations of a shock to required reserves show that although raising reserve require- ments is successful in sterilizing excess reserves, it creates a procyclical e¤ect for real economic activity. This result implies that financial stability may come at a cost of macroeconomic stability. The findings also indicate that using an augmented Taylor rule in which the policy interest rate is adjusted in response to changes in excess re- serves reduces volatility in output and inflation but increases fluctuations in financial variables. To the contrary, using a countercyclical reserve requirement rule helps to mitigate fluctuations in excess reserves, but increases volatility in real variables.
    Keywords: Excess Reserves, Reserve Requirements, Countercyclical Rule
    JEL: E4 E5 E52 E58
    Date: 2013–10
  11. By: Chance Mwabutwa, Manoel Bittencourt and Nicola Viegi
    Abstract: This paper investigates the evolution of monetary transmission mechanism in Malawi between 1981 and 2010 using a time varying parameter vector autoregressive (TVP-VAR) model with stochastic volatility. We evaluate how the responses of real output and general price level to bank rate, exchange rate and credit shocks have changed over time since Malawi adopted financial reforms in 1980s. The paper finds that inflation, real output and exchange rate responses to monetary policy shocks changed over the period under review. Importantly, beginning mid-2000, the monetary policy transmission performed consistently with predictions of economic theory and there is no evidence of a price puzzle as found in the previous literature on Malawi. However, the statistical significance of the private credit supply remains weak and this calls for more financial reforms targeting the credit market which can contribute to monetary transmission and promote further economic growth in Malawi.
    Keywords: Transmission Mechanism, price puzzle, Financial Reforms, Bayesian TVP-VAR
    JEL: C49 D12 D91 E21 E44
    Date: 2013
  12. By: Dennis P. J. Botman; Irineu E. Carvalho Filho; Raphael W. Lam
    Abstract: During risk-off episodes, the yen is a safe haven currency and on average appreciates against the U.S. dollar. We investigate the proximate causes of yen risk-off appreciations. We find that neither capital inflows nor expectations of the future monetary policy stance can explain the yen’s safe haven behavior. In contrast, we find evidence that changes in market participants’ risk perceptions trigger derivatives trading, which in turn lead to changes in the spot exchange rate without capital flows. Specifically, we find that risk-off episodes coincide with forward hedging and reduced net short positions or a buildup of net long positions in yen. These empirical findings suggest that offshore and complex financial transactions should be part of spillover analyses and that the effectiveness of capital flow management measures or monetary policy coordination to address excessive exchange rate volatility might be limited in certain cases.
    Keywords: Currencies;Japan;Exchange rate appreciation;Capital flows;Monetary policy;Risk management;Safe Haven, Yen Volatility, Capital Flows, Derivatives
    Date: 2013–11–06
  13. By: Theophilos Papadimitriou (Department of Economics, University Campus Komotini, Democritus University of Thrace, Greece); Periklis Gogas (Department of Economics, University Campus Komotini, Democritus University of Thrace, Greece); Vasilios Plakandaras (Department of Economics, University Campus Komotini, Democritus University of Thrace, Greece)
    Abstract: In this paper, we approximate the empirical findings of Papadamou and Markopoulos (2012) on the NOK/USD exchange rate under a Machine Learning (ML) framework. By applying Support Vector Regression (SVR) on a general monetary exchange rate model and a Dynamic Evolving Neuro-Fuzzy Inference System (DENFIS) to extract model structure, we test for the validity of popular monetary exchange rate models. We reach to mixed results since the coefficient sign of interest rate differential is in favor only with the model proposed by Bilson (1978), while the inflation rate differential coefficient sign is approximated by the model of Frankel (1979). By adopting various inflation expectation estimates, our SVR model fits actual data with a small Mean Absolute Percentage Error when an autoregressive approach excluding energy prices is adopted for inflation expectation. Overall, our empirical findings conclude that for a small open petroleum producing country such as Norway, fundamentals possess significant forecasting ability when used in exchange rate forecasting.
    Keywords: International Financial Markets, Foreign Exchange, Support Vector Regression, Monetary exchange rate models
    JEL: G15 F30 F31
    Date: 2013–11
  14. By: Camilo GOnzález; Luisa Silva; Carmiña Vargas; Andrés Velasco
    Abstract: We set a dynamic stochastic model for the interbank daily market for funds in Colombia. The framework features exogenous reserve requirements and requirement period, competitive trading among heterogeneous commercial banks, daily open market operations held by the Central Bank(auctions and window facilities), and idiosyncratic demand shocks and uncertainty in the daily auction. Analytical derivations of their decision making process show that banks involvement in the interbank market and open market operations depend on their individual requirement constraint and daily liquid assets. Our results do not show a linkage between the uncertainty in the money supply mechanism and activity in the interbank market. Equilibrium interest rate for the interbank market is derived, and is shown that it is distorted by uncertainty at the daily auction held by the monetary authority. Using data for Colombia, we test the main results of the model and corroborate the Martingale hypothesis for the interbank interest rate.
    Keywords: Interbank Market; Overnight Rates; Reserve Demand. Classification JEL: E44, E52, G21
    Date: 2013–11
  15. By: Dungey, Mardi (School of Economics and Finance, University of Tasmania); Osborne, Denise (School of Economics and Finance, University of Tasmania)
    Abstract: This paper examines the influences of the two largest developed economies, namely the US and the Euro area, on Australia as an exemplar of a small open economy. To do so, we specify and estimate a structural VAR with bilateral linkages between the two large economies, and allow shocks originating there to affect the Australian economy. More specifically, we show the role of foreign demand shocks, the differential effects of US or European sourced inflation and interest rate shocks on the Australian economy, and the relative unimportance of these foreign shocks to variations in the value of the Australian currency
    Keywords: VAR, open economy, Australia
    JEL: F41 C51 C32
    Date: 2013–10–16
  16. By: NAKABAYASHI, Masaki (Institute of Social Science, The University of Tokyo)
    Abstract: Japan experienced a rapid expansion of the capital market in the 1880-1900s, introducing Western institutions combining it with Japanfs traditional bond market regime, which provided financial source of industrialization. The rapid expansion of the infant capital market was in fact accelerated by the banking sector. Faced with the first financial crisis, the central bank decided to directly prop-up the capital market leveraged by the banking sector, through rediscounting accommodation bills collateralized by specified corporate shares. The intervention asymmetrically sustained share prices, distorted risk distribution, but stabilized the young market by socializing equity-risk of shares designated as collateral.
    Keywords: Capital market and the central bank; unconventional monetary policy; Japan
    JEL: G38 G28 N25
    Date: 2013–11–18
  17. By: Pavel Trunin (Gaidar Institute for Economic Policy); Andrey Zubarev (RANEPA)
    Abstract: The primary purpose of this paper is to test the hypothesis of capital mobility reduction in the wake of the global financial crisis of 2008-2009. Through the constructed models we tested hypotheses about the long- and short-term mobility of global capital by estimating the correlation between savings and investment rates. The paper also deals with the question of capital mobility in Russia. Recommendations on monetary policy in Russia in the coming years based on the obtained findings were made.
    Keywords: Feldstein-Harioka puzzle, capital mobility, monetary policy
    JEL: E52
    Date: 2013
  18. By: mamatzakis, e; Christodoulakis, G
    Abstract: This paper examines the exchange rate disconnect puzzle of Obstfeld and Rogoff, (2000) from a behavioural perspective. It provides evidence on the existence of substantial asymmetries in the underlying loss preferences for the difference between the spot and forward nominal exchange rates between the G7 countries for one-week and four-week forecast horizons. We further perform forecast breakdown tests in forward markets during the Greek and the Portuguese sovereign debt crisis, and then re-estimate the loss preferences showing a mean-reverting transition from optimism to pessimism and vice versa. Finally, we attribute the evolution of preferences to economic fundamentals and risk indexes and find that together with significant endogenous dynamics, variables such as growth and deficit differentials, interest rate and legal risk assert some significant impact on asymmetry. This new set of information suggests that the puzzle could have its roots on an underlying asymmetric loss function that reflects variability in preferences over exchange rate movements due to a variety of episodes in economic fundamentals.
    Keywords: Spot-forward exchange rates, Asymmetric preferences, Forecast breakdown, GMM estimation.
    JEL: F31 F47
    Date: 2013–11–19
  19. By: Bignon, Vincent; Breton, Régis; Rojas Breu, Mariana
    Abstract: This paper analyzes a two-country model of currency, banks and endogenous default to study whether impediments to credit market integration across jurisdictions impact the desirability of a currency union. We show that when those impediments induce a higher cost for banks to manage cross-border credit compared to domestic credit, welfare may not be maximal under a regime of currency union. But a banking union that would suppress hurdles to banking integration restores the optimality of that currency arrangement. The empirical and policy implications in terms of banking union are discussed.
    Keywords: E42; E50; F3; G21;
    Date: 2013
  20. By: Rangan Gupta (Department of Economics, University of Pretoria); Patrick T. kanda (Department of Economics, University of Pretoria); Mampho P. Modise (Department of Economics, University of Pretoria); Alessia Pacagnini (Dipartimento di Economia, Metodi Quantitativi e Strategie d'Impresa (DEMS), Facoltà di Economia, Università degli Studi di Milano-Bicocca)
    Abstract: Inflation forecasts are a key ingredient for monetary policymaking - especially in an inflation targeting country such as South Africa. Generally, a typical Dynamic Stochastic General Equilibrium (DSGE) only includes a core set of variables. As such, other variables,e.g. such as alternative measures of inflation that might be of interest to policymakers, do not feature in the model. Given this, we implement a closed-economy New Keynesian DSGE model-based procedure which includes variables that do not explicitly appear in the model. We estimate such a model using an in-sample covering 1971Q2 to 1999Q4, and generate recursive forecasts over 2000Q1-2011Q4. The hybrid DSGE performs extremely well in forecasting inflation variables (both core and non-modeled) in comparison with forecasts reported by other models, such as the AR(1).
    Keywords: DSGE model, in ation, core variables, non-core variables
    JEL: C11 C32 C53 E27 E47
    Date: 2013–11
  21. By: David M. Arseneau (Federal Reserve Board); Ryan Chahrour (Boston College); Sanjay K. Chugh (Boston College); Alan Finkelstein Shapiro (Universidad de los Andes)
    Abstract: This paper presents a model in which some goods trade in "customer markets." In these markets, advertising plays a critical role in facilitating long-lived relationships. We estimate both policy and non-policy parameters of the model (which includes New-Keynesian frictions) on U.S. data, including advertising expenditures. The estimated parameters imply a large congestion externality in the pricing of customer market goods. This pricing inefficiency motivates the analysis of optimal policy. When the planner has access to a complete set of taxes and chooses them optimally, fiscal policy eliminates the externalities with large adjustments in the tax rates that operate directly in customer markets; labor tax volatility remains low. If available policy instruments are constrained to the interest rate and labor tax, then the latter displays large and procyclical fluctuations, while the implications for monetary policy are largely unchanged from the model with no customer markets.
    Keywords: fiscal policy, monetary policy, advertising, customer markets
    JEL: E30 E50 E61 E63
    Date: 2013–11–18
  22. By: Andrés Fernández; Alessandro Rebucci; Martín Uribe
    Abstract: A growing recent theoretical literature advocates the use of prudential capital control policy, that is, the tightening of restrictions on cross-border capital flows during booms and the relaxation thereof during recessions. We examine the behavior of capital controls in a large number of countries over the period 1995-2011. We find that capital controls are remarkably acyclical. Boom-bust episodes in output, the current account, or the real exchange rate are associated with virtually no movements in capital controls. These results are robust to decomposing boom-bust episodes along a number of dimensions, including the level of development, the level of external indebtedness, or the exchange-rate regime. We also document a near complete acyclicality of capital controls during the Great Contraction of 2007-2009.
    JEL: E6 F3 F4 F5 G0 G1
    Date: 2013–11
  23. By: He, Xiaoli (University of Groningen); Jacobs, Jan P.A.M. (School of Economics and Finance, University of Tasmania); Kuper, Gerard H. (University of Groningen); Ligthart, Jenny E. (Tilburg University)
    Abstract: This paper analyses the impact of the Global Financial Crisis on the Euro area utilizing a simple dynamic macroeconomic model with interaction between monetary policy and fiscal policy. The model consists of an IS curve, a Phillips curve, a term structure relation, a debt accumulation equation and a Taylor monetary policy rule supplemented with a Zero Lower Bound, and a fiscal policy rule. The model is calibrated/estimated for EU-16 countries for the period 1980Q1{2009Q4. The impact of the Global Financial Crisis is studied by means of impulse responses following a combined, prolonged aggregate demand and public debt shock. The simulation mimicking the GFC turns out to work fairly well. However, the required size of the shock is quite large.
    Keywords: Global Financial Crisis; euro area; monetary policy; fiscal policy; New Neoclassical Synthesis model; Zero Lower Bound
    JEL: C51 C52 E63
    Date: 2013–10–16
  24. By: OGAWA Eiji; Zhiqian WANG
    Abstract: The global financial crisis affected the exchange rates of the U.S. dollar, the euro, and the Japanese yen, as well as some East Asian currencies. This paper investigates how the East Asian currencies were affected by the global financial crisis. We employ methodologies involving β-convergence and σ-convergence to examine the misalignments or divergence of East Asian currencies. Our empirical results show that East Asian currencies did diverge during most of the sample periods, especially after late 2005, and active international capital flows such as yen carry trades also affected their movements. We conclude that it is necessary to establish a surveillance system within the East Asian area for the purposes of early detection and prevention of intra-regional exchange rate misalignments.
    Date: 2013–11
  25. By: Nicola Amendola (University of Rome Tor Vergata); Leo Ferraris (Universidad Carlos III Madrid and University of Rome Tor Vergata)
    Abstract: We propose a model in which money performs an essential role in the process of exchange, despite the presence of a multilateral clearing house. Agents are assumed to be anonymous and unable to make binding commitments. The clearing house can detect deviations but it cannot identify the individual deviator, hence, it punishes all traders collectively. The records of past deviations can be kept for a limited amount of time, after which they are wiped out. These features are enough to make room for a record-keeping device, such as money, that strictly improves the functioning of the clearing house.
    Keywords: Money, Essentiality, Multilateral trade
    JEL: D50 E40 E42
    Date: 2013–11–25

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