nep-mon New Economics Papers
on Monetary Economics
Issue of 2015‒06‒05
38 papers chosen by
Bernd Hayo
Philipps-Universität Marburg

  1. Central bank balance sheet policies and inflation expectations By Jan Willem van den End; Christiaan Pattipeilohy
  2. Monetary policy expectations and economic fluctuations at the zero lower bound By Doehr, Rachel; Martinez-Garcia, Enrique
  3. Policy mandates for macro-prudential and monetary policies in a new Keynesian framework By Levine, Paul; Lima, Diana
  4. Private news and monetary policy forward guidance or (the expected virtue of ignorance) By Fujiwara, Ippei; Waki, Yuichiro
  5. Optimal Monetary Policy at the Zero Lower Bound By Azariadis, Costas; Bullard, James B.; Singh, Aarti; Suda, Jacek
  6. The risk management approach to monetary policy, nonlinearity and aggressiveness: the case of the US Fed By Moccero, Diego; Gnabo, Jean-Yves
  7. Policy regime change against chronic deflation? Policy option under a long-term liquidity trap By Fujiwara, Ippei; Nakazono, Yoshiyuki; Ueda, Kozo
  8. Towards Adopting Inflation Targeting in Emerging Markets: The (A)symmetric Transmission Mechanism in Jordan By Noura Abu Asab; Juan Carlos Cuestas
  9. Self-Fulfilling Debt Crises: Can Monetary Policy Really Help? By Bacchetta, Philippe; Perazzi, Elena; van Wincoop, Eric
  10. Interest rates, money, and banks in an estimated euro area model By Christoffel, Kai; Schabert, Andreas
  11. Global financial market impact of the announcement of the ECB's extended asset purchase programme By Georgiadis, Georgios; Grab, Johannes
  12. Segregated balance accounts By Garratt, Rod; Martin, Antoine; McAndrews, James J.; Nosal, Ed
  13. Sustainable international monetary policy cooperation By Fujiwara, Ippei; Kam, Timothy; Sunakawa, Takeki
  14. Central Bank Balance Sheet, Liquidity Trap, and Quantitative Easing By Arthur Galego Mendes; Tiago Couto Berriel
  15. Regional heterogeneity and monetary policy By Beraja, Martin; Fuster, Andreas; Hurst, Erik; Vavra, Joseph
  16. Monetary and macroprudential policy with foreign currency loans By Brzoza-Brzezina, Michał; Kolasa, Marcin; Makarski, Krzysztof
  17. Would a Free Banking System Target NGDP Growth? By Alexander William Salter; Andrew T. Young
  18. The euro as an international currency By Agnès Benassy-Quere
  19. Monetary Neutrality By Apostolos Serletis; Zisimos Koustas
  20. Collateral damage? Micro-simulation of transaction cost shocks on the value of central bank collateral By Lennkh, Rudolf Alvise; Walch, Florian
  21. Lack of confidence, the zero lower bound, and the virtue of fiscal rules By Schmidt, Sebastian
  22. Could there be a "Sub-market Interest Rate" in the IS-LM Framework? By Kui-Wai, Li
  23. Central Bank Balance Sheets: Expansion and Reduction since 1900 By Ferguson, Niall; Schaab, Andreas; Schularick, Moritz
  24. The U.S. Economic Outlook and Implications for Monetary Policy : A speech at the Center for Strategic and International Studies, Washington, D.C., June 2, 2015 By Brainard, Lael
  25. Interest rates, eurobonds and intra-European exchange rate misalignments: the challenge of sustainable adjustments in the eurozone By Vincent Duwicquet; Jacques Mazier; Jamel Saadaoui
  26. Fragility in money marketfunds: sponsor support and regulation By Parlatore, Cecilia
  27. What drives the global interest rate By Ratti, Ronald A.; Vespignani, Joaquin L.
  28. WHAT CAN WE LEARN FROM REVISIONS TO THE GREENBOOK FORECASTS? By Jeff Messina; Tara M. Sinclair; Herman O. Stekler
  29. Detection of Implicit Fluctuation Bands in The European Union Countries By Simón Sosvilla-Rivero; María del Carmen Ramos-Herrera
  30. Banks are not intermediaries of loanable funds – and why this matters By Jakab, Zoltan; Kumhof, Michael
  31. Forecasting local inflation with global inflation: when economic theory meets the facts By Duncan, Roberto; Martinez-Garcia, Enrique
  32. Inflation, Endogenous Market Segmentation and the Term Structure of Interest Rates By Casper de Vries; Xuedong Wang
  33. Different Types of Central Bank Insolvency and the Central Role of Seignorage By Ricardo Reis
  34. The 2012 Eurozone Crisis and the ECB’s OMT Program: A Debt-Overhang Banking and Sovereign Crisis Interpretation The 2012 Eurozone Crisis and the ECB’s OMT Program: A Debt-Overhang Banking and Sovereign Crisis Interpretation By Occhino, Filippo
  35. Currency Unions and Trade: A Post-EMU Mea Culpa By Glick, Reuven; Rose, Andrew K
  36. The Possible Tragedy of Quantitative Easing: An IS-LM Approach By Kui-Wai, Li; Bharat R., Hazari
  37. Macroprudential Policy in a Recovering Market: Too Much too Soon? By Duffy, David; Mc Inerney, Niall; McQuinn, Kieran
  38. Real estate markets and macroprudential policy in Europe By Hartmann, Philipp

  1. By: Jan Willem van den End; Christiaan Pattipeilohy
    Abstract: We analyse the empirical effects of credit easing and quantitative easing on inflation expectations and exchange rates. Both monetary policy strategies are summarised in measures for composition and size of the central bank balance sheet and included in a VAR model. The empirical results show that changes in balance sheet size had positive effects on inflation expectations in Japan, while the effects where negligible in the euro area. By contrast, an increasing balance sheet size is associated with reduced short-term inflation expectations in the US and UK, pointing at negative signalling effects. Shocks to balance sheet size or composition have no substantial effects on long-term inflation expectations in the euro area, US and UK. An expanding balance sheet size is associated with an appreciation of the US dollar and a depreciation of the euro, pound sterling and Japanese yen.
    Keywords: central banks and their policies; monetary policy
    JEL: E58 E52
    Date: 2015–05
  2. By: Doehr, Rachel (Claremont McKenna College); Martinez-Garcia, Enrique (Federal Reserve Bank of Dallas)
    Abstract: Using a panel of survey‐based measures of future interest rates from the Survey of Professional Forecasters, we study the dynamic relationship between shocks to monetary policy expectations and fluctuations in economic activity and inflation. We propose a smallscale structured recursive vector autoregression (VAR) model to identify the macroeconomic effects of changes in expectations about monetary policy. Our results show that when interest rates are away from the zero‐lower bound, a perception of higher future interest rates leads to a significant rise in current measures of inflation and a rise in economic activity. However, when interest rates approach zero, the effect on economic activity is the opposite, with significant but lagged decreases in economic activity following an upward revision to expected future interest rates. The impact of changes in expectations about monetary policy is robust when we control for other features of the transmission mechanism (e.g., long‐term interest rates, quantitative easing, exchange rate movements and even oil price shocks). Our findings also show that monetary policy expectations contribute up to 34 percent to the variability of economic activity (and 24 percent on inflation) while policy rates are fixed at the zero‐lower bound. This evidence points to the importance of managing monetary policy expectations (forward guidance) as a crucial policy tool for stimulating economic activity at the zero‐lower bound.
    JEL: E30 E32 E43 E52
    Date: 2015–05–01
  3. By: Levine, Paul; Lima, Diana
    Abstract: In the aftermath of the financial crisis, the role of monetary policy and macro-prudential regulation in promoting financial stability is under discussion. The old debate concerning whether monetary policy should respond to credit and asset price bubbles was revived, whereas macro-prudential regulation is being assessed as an alternative macroeconomic tool to deal with financial imbalances. The paper explores both sides of the debate in a New Keynesian framework with financial frictions by comparing the welfare and stabilisation impacts of distinct policy regimes. First, we investigate whether there is a welfare benefit from monetary policy leaning against financial instability. We show that monetary policy rules of this type perform better than conventional monetary rules. Second, by introducing macro-prudential regulation in the model, results from optimal policy analysis suggest also that there are welfare gains, even in the case in which monetary and macro-prudential authorities are independent and react to their own policy goal. JEL Classification: E30, E50, G28
    Keywords: DSGE, financial frictions, macro-prudential policy, monetary policy
    Date: 2015–04
  4. By: Fujiwara, Ippei (Keio University and Australian National University); Waki, Yuichiro (University of Queensland)
    Abstract: How should monetary policy be designed when the central bank has private information about future economic conditions? When private news about shocks to future fundamentals is added to an otherwise standard new Keynesian model, social welfare deteriorates by the central bank’s reaction to or revelation of such news. There exists an expected virtue of ignorance, and secrecy constitutes optimal policy. This result holds when news are about cost-push shocks, or about shocks to the monetary policy objective, or about shocks to the natural rate of interest, and even when the zero lower bound of nominal interest rates is taken into account. A lesson of our analysis for a central bank’s communication strategy is that Delphic forward guidance that helps the private sector form more accurate forecasts of future shocks can be undesirable and the central bank should instead aim to communicate its state-contingent policy.
    JEL: E30 E40 E50
    Date: 2015–04–01
  5. By: Azariadis, Costas (Federal Reserve Bank of St. Louis); Bullard, James B. (Federal Reserve Bank of St. Louis); Singh, Aarti (University of Sydney); Suda, Jacek (Narodowy Bank Polski)
    Abstract: We study optimal monetary policy at the zero lower bound. The macroeconomy we study has considerable income inequality which gives rise to a large private sector credit market. Households participating in this market use non-state contingent nominal contracts (NSCNC). A second, small group of households only uses cash and cannot participate in the credit market. The monetary authority supplies currency to cash-using households in a way that changes the price level to provide for optimal risk-sharing in the private credit market and thus to overcome the NSCNC friction. For sufficiently large and persistent negative shocks the zero lower bound on nominal interest rates may threaten to bind. The monetary authority may credibly promise to increase the price level in this situation to maintain a smoothly functioning (complete) credit market. The optimal monetary policy in this model can be broadly viewed as a version of nominal GDP targeting.
    Keywords: Zero lower bound; forward guidance; quantitative easing; optimal monetary policy; life cycle economies; heterogeneous households; credit market participation; nominal GDP targeting.
    JEL: E4 E5
    Date: 2015–05–27
  6. By: Moccero, Diego; Gnabo, Jean-Yves
    Abstract: We estimate regime switching models where the strength of the response of monetary policy to macroeconomic conditions depends on the level of risk associated with the inflation outlook and risk in financial markets. Using quarterly data for the Greenspan period we find that: i) risk in the inflation outlook and volatility in financial markets are a powerful driver of monetary policy regime changes in the U.S.; ii) the response of the US Fed to the inflation outlook is invariant across policy regimes; iii) however, in periods of high economic risk, monetary policy tends to respond more aggressively to the output gap and the degree of inertia tends to be lower than in normal circumstances; and iv) the US Fed is estimated to have responded aggressively to the output gap in the late 1980s and begging of the 1990s, and in the late 1990s and early 2000s. JEL Classification: C24, C51, E52
    Keywords: aggressiveness, monetary policy, risk management, smooth-transition regression model, US Fed
    Date: 2015–05
  7. By: Fujiwara, Ippei (Keio University and Australian National University); Nakazono, Yoshiyuki (Yokohama City University); Ueda, Kozo (Waseda University)
    Abstract: This paper evaluates the role of the first arrow of Abenomics in guiding public perceptions on monetary policy stance through the management of expectations. In order to end chronic deflation, a policy regime change must be perceived by economic agents. Analysis using the QUICK survey system (QSS) monthly survey data shows that the reaction of monetary policy to inflation has been declining since the mid 2000s, implying intensified forward guidance well before Abenomics. However, Japan seems to have moved closer to a long-term liquidity trap, where even long-term bond yields are constrained by the zero lower bound. Estimated changes in perceptions are not abrupt enough to satisfy Sargent's (1982) criteria for a regime change. This poses a serious challenge to central banks: what is an effective policy option left under the long-term liquidity trap?
    JEL: E47 E50 E60
    Date: 2015–03–01
  8. By: Noura Abu Asab (Department of Economics, University of Sheffield); Juan Carlos Cuestas (Department of Economics, University of Sheffield)
    Abstract: This paper is carried out to investigate adopting inflation targeting in Jordan. The interest rate pass-through channel is assessed to underline the possibility and challenges to target inflation when a country imports the credibility of low inflation from abroad. The interest rate pass through is examined within its intermediate lag of action to shed light on the effectiveness of monetary policy. The Johansen approach is performed to estimate the long-run degree of pass-through along with the speed of adjustment to disequilibrium. The dynamic model of Hendry and Doornik (1994) is employed to connect the short-run and long-run, and to estimate the mean lag of adjustment under (a)symmetric market response. The empirical findings suggest that the interest rate pass-through in Jordan is weak and slow and the symmetric mean lags in the loan and deposit market are highly sticky. In addition, an asymmetric adjustment is found in the loan market, where banks are faster to decrease their interest rates following a change in official interest rates, the behaviour which can be explained by the collusive pricing hypothesis. Comparing the results to the two inflation targeters: New Zealand and the UK, the study suggests that Jordan has to move to a more resilient exchange rate arrangement before committing to the lite-form of inflation targeting.
    Keywords: Passthrough, monetary policy, nonlinearties, Jordan
    JEL: C32 E40
    Date: 2015–05
  9. By: Bacchetta, Philippe; Perazzi, Elena; van Wincoop, Eric
    Abstract: This paper examines quantitatively the potential for monetary policy to avoid self-fulfilling sovereign debt crises. We combine a version of the slow-moving debt crisis model proposed by Lorenzoni and Werning (2014) with a standard New Keynesian model. We consider both conventional and unconventional monetary policy. Under conventional policy the central bank can preclude a debt crisis through inflation, lowering the real interest rate and raising output. These reduce the real value of the outstanding debt and the cost of new borrowing, and increase tax revenues and seigniorage. Unconventional policies take the form of liquidity support or debt buyback policies that raise the monetary base beyond the satiation level. We find that generally the central bank cannot credibly avoid a self-fulfilling debt crisis. Conventional policies needed to avert a crisis require excessive inflation for a sustained period of time. Unconventional monetary policy can only be effective when the economy is at a structural ZLB for a sustained length of time.
    Keywords: long-term debt; Monetary policy; Sovereign debt crises
    JEL: E52 E60 F34
    Date: 2015–05
  10. By: Christoffel, Kai; Schabert, Andreas
    Abstract: This paper examines monetary transmission and macroeconomic shocks in a medium scale macroeconomic model with costly banking estimated for euro area data. In addition to data on measures of real activity and prices, we include data on bank loans, loan rates, and reserves for the estimation of the model with Bayesian techniques. We find that loans and holdings of reserves affect banking costs to a small but significant extent. Furthermore, shocks to reserve holdings are found to contribute more to variations in the policy rate, inflation and output than shocks to the feedback rule for the policy rate. Hence, holdings of central bank money, which is typically neglected in the literature, plays a substantial role for macroeconomics dynamics. The analysis further shows that exogenous shifts in banking costs hardly play a role for fluctuations in real activity and prices, even during the recent financial crisis. JEL Classification: C54, E52, E32
    Keywords: Bayesian estimation, central bank money supply, costly banking, financial shocks
    Date: 2015–05
  11. By: Georgiadis, Georgios (European Central Bank); Grab, Johannes (European Central Bank)
    Abstract: We estimate the impact of the ECB’s announcement of the extended asset purchase programme (EAPP) on 22 January 2015 on global equity prices, bond yields and the euro exchange rate. We find that the EAPP announcement benefited global financial markets by boosting equity prices in the euro area and the rest of the world. At the same time, the EAPP announcement caused a depreciation of the euro vis-à-vis advanced and emerging market economy currencies. Comparing the EAPP to previous ECB announcements of unconventional monetary policies, the main channel of transmission of the EAPP announcement to global financial markets was through signalling—the ECB convincingly conveying to market participants that its future monetary policy stance will remain accommodative—rather than through improving confidence (as was the case for the OMT) or through portfolio re-balancing (as for the SMP). Similarly, in contrast to the OMT and the SMP announcements the signaling channel also played a major role for the domestic financial market impact of the EAPP. Cross-country heterogeneities in the global financial market spillovers from the EAPP announcement were linked to differences in economies’ financial openness, exchange rate regime, trade and financial integration with the euro area and their attractiveness for carry trades.
    JEL: E52 E58 G15
    Date: 2015–03–01
  12. By: Garratt, Rod (Federal Reserve Bank of New York); Martin, Antoine (Federal Reserve Bank of New York); McAndrews, James J. (Federal Reserve Bank of New York); Nosal, Ed (Federal Reserve Bank of Chicago)
    Abstract: This paper describes segregated balance accounts (SBAs), a concept for a new type of account that could provide increased competition for deposits, reduce system-wide balance sheet costs, and improve the transmission of monetary policy by facilitating greater pass-through of interest on excess reserves (IOER). SBAs are designed to remove credit risk by creating narrow accounts that could allow any bank to compete for money market funds. Because of increased competition, the rates paid on borrowings secured by SBAs, along with other money market rates, would likely be pushed up closer to the IOER rate and would be more tightly linked to that rate. SBAs could promote a more efficient allocation of reserves within the banking sector by shifting reserves from banks with high balance sheet costs to banks with low balance sheet costs. SBAs would not require setting an additional administered rate; IOER would be paid on the balances held in an SBA and the rate paid on the loan secured by the balances in the SBA would be competitively determined. We discuss a number of potential risks that SBAs could pose as well as further steps that would be required before SBAs could be implemented.
    Keywords: central bank; interest rate
    JEL: E40 E42 E50 E58
    Date: 2015–05–01
  13. By: Fujiwara, Ippei (Keio University and Australian National University); Kam, Timothy (Australian National University); Sunakawa, Takeki (University of Tokyo)
    JEL: E52 F41 F42
    Date: 2015–04–01
  14. By: Arthur Galego Mendes (Department of Economics PUC-Rio); Tiago Couto Berriel (Department of Economics PUC-Rio)
    Abstract: We show that, when a central bank is not fully financially backed by the treasury and faces a solvency constraint, an increase in the size or a change in the composition of it’s balance sheet (quantitative easing) can serve as a commitment device in a liquidity trap scenario. In particular, when the short-term interest rate is in zero lower bound, open market operations by the central bank that involve purchases of long-term bonds can help mitigate deflation and recession under a discretionary policy equilibrium. This change in central bank balance sheet, which increases its size and duration, provides an incentive to the central bank to keep interest rates low in future in order to avoid losses and satisfy its solvency constraints, approximating its full commitment policy.Creation-Date: 2015-05-08
  15. By: Beraja, Martin (University of Chicago); Fuster, Andreas (Federal Reserve Bank of New York); Hurst, Erik (University of Chicago); Vavra, Joseph (University of Chicago)
    Abstract: We study the implications of regional heterogeneity within a currency union for monetary policy. We ask, first, does monetary policy mitigate or exacerbate ex-post regional dispersion over the business cycle? And second, does ex-ante regional heterogeneity increase or dampen the aggregate effects of a given monetary policy? To help answer these questions, we use detailed U.S. micro data to explore the extent to which mortgage activity differed across local areas in response to the first round of Quantitative Easing (QE1), announced in November 2008. We document that QE1 increased both mortgage activity and real spending but that its effects were smaller in parts of the country with the largest employment declines. This heterogeneous regional effect is driven by the fact that collateral values were most depressed in the regions with the largest employment declines, reducing the extent to which borrowers were able to benefit from rate decreases. We explore the implications of our empirical results for theoretical monetary policymaking using an incomplete-markets, heterogeneous-agent model of a monetary union whereby monetary policy influences local spending through collateralized lending. Preliminary results suggest that both the distributional and aggregate consequences of monetary policy depend on the joint distribution of local shocks. We find that if regions with low relative income also have depressed collateral values (as in 2008), then expansionary mon
    Keywords: monetary policy; regional inequality; quantitative easing; mortgage refinancing
    JEL: E21 E52 G21
    Date: 2015–06–01
  16. By: Brzoza-Brzezina, Michał; Kolasa, Marcin; Makarski, Krzysztof
    Abstract: In a number of countries a substantial proportion of mortgage loans is denominated in foreign currency. In this paper we demonstrate how their presence affects economic policy and agents' welfare. To this end we construct a small open economy model with housing loans denominated in domestic or foreign currency. The model is calibrated for Poland - a typical small open economy with a large share of foreign currency loans (FCL). We show that FCLs negatively affect the transmission of monetary policy. In contrast, their impact on the effectiveness of macroprudential policy is much weaker but positive. We also demonstrate that FCLs increase welfare when domestic interest rate shocks prevail and decrease it when risk premium (exchange rate) shocks dominate. Under a realistic calibration of the stochastic environment FCLs are welfare reducing. Finally, we show that regulatory policies that correct the share of FCLs may cause a short term slowdown. JEL Classification: E32, E44, E58
    Keywords: DSGE models with banking sector, foreign currency loans, monetary and macroprudential policy
    Date: 2015–04
  17. By: Alexander William Salter (Berry College, Department of Economics); Andrew T. Young (West Virginia University, College of Business and Economics)
    Abstract: Building on Selgin (1994), we develop a simple model of free banking and study the system’s effects on familiar macroeconomic variables. We show a free banking system does in fact stabilize nominal income in response to aggregate demand shocks. However, in the event of an aggregate supply shock, a free banking system instead stabilizes inflation, engaging in mildly procyclical behavior. We conclude by calling for a broader study of nominal income targeting and free banking in the tradition of ‘monetary constitutionalism’ (Yeager 1962; White et al. 2014) to ascertain whether this result, while almost certainly not the best of all ossible worlds, is in fact the best of all probable worlds.
    Keywords: Central banking, free banking, inflation, monetary constitution, nominal income targeting
    JEL: E02 E32 E42 E52 P16
    Date: 2015–05
  18. By: Agnès Benassy-Quere (EEP-PSE - Ecole d'Économie de Paris - Paris School of Economics, CES - Centre d'économie de la Sorbonne - UP1 - Université Panthéon-Sorbonne - CNRS)
    Abstract: The euro, in spite of having many of the required attributes put forward by the theoretical literature and past experience, has failed to fulfill all the criteria that would enable it to rival the dollar as an international currency. This does not mean that the euro cannot achieve a status similar to that of the dollar; however, the window of opportunity may not last much more than a decade before the renminbi overtakes the euro. European monetary unification has never explicitly sought for its currency to gain an international status. This makes sense insofar as the key elements required for the euro to expand internationally are also those to be pursued internally: GDP growth; a fiscal backing to the single currency; a deep, liquid and resilient capital market; and a unified external representation of the euro area.
    Date: 2015–04
  19. By: Apostolos Serletis (University of Calgary); Zisimos Koustas
    Abstract: We test the long-run neutrality of money proposition for the United States using the King and Watson (1997) methodology paying attention to the integration and cointegration properties of the variables. We use quarterly data (over the period from 1967:1 to 2014:1) and the new Center for Financial Stability Divisia monetary aggregates, documented in detail in Barnett et al. (2013). We make a comparison among the narrower monetary aggregates, M1 M2M, M2M, M2, and ALL, and the broad monetary aggregates, M4+, M4-, and M3, and show that there is no statistically signifiÂ…cant evidence against long-run monetary neutrality, consistent with both monetarist and Keynesian macroeconomic theory.
    Date: 2015–05–29
  20. By: Lennkh, Rudolf Alvise; Walch, Florian
    Abstract: Transaction cost shocks in financial markets are known to affect asset prices. This paper analyses how changes in transaction costs may affect the value of assets that banks use to collateralise borrowings in monetary policy operations. Based on a simple asset pricing model and employing a dataset of hypothetical Eurosystem collateral positions, we simulate and quantify the resulting change in collateral value pledged by counterparties to the Eurosystem, resulting from a transaction cost shock. A 10 basis point increase in transaction costs entails a direct -0.30% decrease of collateral value and a -0.07% decrease when adjusted for the expected reduction in the number of trades of each asset. We conclude that banks will on average suffer small collateral losses while selected institutions could face a considerably larger collateral decrease. JEL Classification: C15, E59, G12
    Keywords: central bank, collateral, monetary policy, transaction cost
    Date: 2015–05
  21. By: Schmidt, Sebastian
    Abstract: In the presence of the zero lower bound, standard business cycle models with a Taylor-type monetary policy rule are prone to equilibrium multiplicity. A drop in confidence can drive the economy into a liquidity trap without any change in fundamentals. Using a prototypical sticky-price model, I show that Ricardian fiscal spending rules that prevent real marginal costs from declining in the face of a confidence shock insulate the economy from such expectations-driven liquidity traps. JEL Classification: E52, E62
    Keywords: government spending, liquidity trap, multiple equilibria, Ricardian fiscal policy, sunspots
    Date: 2015–05
  22. By: Kui-Wai, Li
    Abstract: This paper attempts to make a case of “sub-market interest rate” using the IS-LM framework. The argument is that when the market interest rate falls below a certain level, the low cost of borrowing would invite speculative varieties or unproductive investment, which could eventually crowd out productive investment. As such, both monetary policy and fiscal policy may not be effective under certain circumstances.
    Keywords: Interest rate, IS-LM, monetary policy
    JEL: E4 E40 E43 E5 E52
    Date: 2014–05–01
  23. By: Ferguson, Niall; Schaab, Andreas; Schularick, Moritz
    Abstract: In this paper we study the evolution of central banks’ balance sheets in 12 advanced economies since 1900. We present a new dataset assembled from a wide array of historical sources. We find that balance sheet size in most developed countries has fluctuated within rather clearly defined bands relative to output. Historically, clusters of big expansions and contractions of balance sheets have been associated with periods of geopolitical or financial crisis. This explains the co-movement between the size of central bank balance sheets and public debt levels in the past century. Relative to the size of the financial sector, moreover, central bank balance sheets had shrunk dramatically in the three decades preceding the global financial crisis. By that yardstick, their recent expansion partly marks a return to earlier levels. Some of the recent increase could therefore prove to be permanent if the financial sector maintains permanently higher liquidity ratios.
    Keywords: balance sheets; central banks; financial sector; monetary policy; public debt
    JEL: E31 E52 E58 N10
    Date: 2015–05
  24. By: Brainard, Lael (Board of Governors of the Federal Reserve System (U.S.))
    Date: 2015–06–02
  25. By: Vincent Duwicquet (CLERSE - Centre lillois d'études et de recherches sociologiques et économiques - CNRS - Université Lille 1 - Sciences et technologies); Jacques Mazier (CEPN - Centre d'Economie de l'Université Paris Nord - Université Paris 13 - Université Sorbonne Paris Cité (USPC) - CNRS); Jamel Saadaoui (BETA - Bureau d'économie théorique et appliquée - CNRS - Université Louis Pasteur - Strasbourg I)
    Abstract: The euro zone crisis illustrates the deficiencies of adjustment mechanisms in a monetary union characterized by a large heterogeneity. Exchange rate adjustments being impossible, they are very few alternative mechanisms. At the level of the whole euro zone the euro is close to its equilibrium parity. But the euro is strongly overvalued for Southern European countries, France included, and largely undervalued for Northern European countries, especially Germany. The paper gives a new evaluation of these exchange rate misalignments inside the euro zone, using a FEER approach, and examines the evolution of competitiveness. In a second step, we use a two-country SFC model of a monetary union with endogenous interest rates and eurobonds issuance. Three main results are obtained. Facing a competitiveness loss in southern countries due to exchange rates misalignments, increasing intra-European financing by banks of northern countries or other institutions could contribute to reduce the debt burden and induce a partial recovery but public debt would increase. Implementation of eurobonds as a tool to partly mutualize European sovereign debt would have a rather similar positive impact, but with a public debt limited to 60% of GDP. Furthermore, eurobonds could also be used to finance large European projects which could impulse a stronger recovery in the entire euro zone with stabilized current account imbalances. However, the settlement of a European Debt Agency in charge of the issuance of the eurobonds would face strong political obstacles.
    Date: 2014–05–31
  26. By: Parlatore, Cecilia
    Abstract: I develop a model of money market funds (MMFs) to study the ability of sponsor support to provide stability to the industry. I find that strategic complementarities in the sponsors’ support decisions can make MMFs vulnerable to runs different from the canonical bank-runs: it may lead to runs of intermediaries on each other through firesales in the money market. I then use the model to analyze the effects of imposing a floating net asset value and capital requirements on MMFs. I find that general equilibrium effects, which are mostly ignored in the policy discussion, can overturn conventional intuition. JEL Classification: G01, G21, G28
    Keywords: fire sales, money market funds, regulation, runs, support
    Date: 2015–03
  27. By: Ratti, Ronald A. (University of Western Sydney); Vespignani, Joaquin L. (University of Tasmania)
    Abstract: In this paper we study the drivers of global interest rate. Global interest rate is defined as a principal component for the largest developed and developing economies’ discount rates (the US, Japan, China, Euro area and India). A structural global factor-augmented error correction model is estimated. A structural change in the global macroeconomic relationships is found over 2008:09-2008:12, but not pre or post this GFC period. Results indicate that around 46% of movement in central bank interest rates is attributed to changes in global monetary aggregates (15%), oil prices (13%), global output (11%) and global prices (7%). Increases in global interest rates are associated with reductions in global prices and oil prices, increases in trade-weighted value of the US dollar, and eventually to reduce global output. Increases in oil prices are linked with increase in global inflation and global output leading to global interest rate tightening indicated by increases in central bank overnight lending rates.
    JEL: E44 E50 Q43
    Date: 2015–05–01
  28. By: Jeff Messina (The George Washington University); Tara M. Sinclair (The George Washington University); Herman O. Stekler (The George Washington University)
    Abstract: Although there have been many evaluations of the Fed Greenbook forecasts, we analyze them in a different dimension. We examine the revisions of these forecasts in the context of fixed event predictions to determine how new information is incorporated in the forecasting process. This analysis permits us to determine whether there was an underutilization of information. There is no evidence of forecast smoothing, but rather that the revisions were sometimes in the wrong direction.
    Keywords: Federal Reserve; Forecast Evaluation; Forecast Revisions
    JEL: C5 E2 E3
    Date: 2014–06
  29. By: Simón Sosvilla-Rivero (Department of Quantitative Economics, Universidad Complutense de Madrid); María del Carmen Ramos-Herrera (Department of Quantitative Economics, Universidad Complutense de Madrid)
    Abstract: This paper attempts to identify implicit exchange rate regimes for currencies of European Union member states vis-à-vis the euro. To that end, we apply three sequential procedures that consider the dynamics of exchange rates to data covering the period from 1999:01 to 2012:12 for twelve European countries. Our results indicate the presence of ± 2% and ± 1% implicit fluctuation bands in high percentages of the sample period even reach 100% in countries such as Bulgaria, Cyprus and Slovenia, among others. This paper provides new empirical evidence that strengthens the hypothesis of that the implemented policies differ from those announced by the monetary authorities, identifying the existence of de facto fixed monetary systems along large number of sub-periods for different currencies. It seems that the countries under study try to capture the benefits of their participation in the ERM-II moderating somewhat the potential problems arising from formal participation in the ERM-II.
    Keywords: Exchange-rate regimes, Implicit fluctuation bands, Exchange rates, De facto and de iure fixed regimes
    JEL: F31 F33
    Date: 2015–09
  30. By: Jakab, Zoltan (International Monetary Fund); Kumhof, Michael (Bank of England)
    Abstract: In the intermediation of loanable funds model of banking, banks accept deposits of pre-existing real resources from savers and then lend them to borrowers. In the real world, banks provide financing through money creation. That is they create deposits of new money through lending, and in doing so are mainly constrained by profitability and solvency considerations. This paper contrasts simple intermediation and financing models of banking. Compared to otherwise identical intermediation models, and following identical shocks, financing models predict changes in bank lending that are far larger, happen much faster, and have much greater effects on the real economy.
    Keywords: Banks; financial intermediation; loanable funds; money creation; loans; deposits; leverage; spreads
    JEL: E44 E52 G21
    Date: 2015–05–29
  31. By: Duncan, Roberto (Ohio University); Martinez-Garcia, Enrique (Federal Reserve Bank of Dallas)
    Abstract: This paper provides both theoretical insight as well as empirical evidence in support of the view that inflation is largely a global phenomenon. First, we show that inflation across countries incorporates a significant common factor captured by global inflation. Second, we show that in theory a role for global inflation in local inflation dynamics emerges over the business cycle even without common shocks, and under flexible exchange rates and complete international asset markets. Third, we identify a strong "error correction mechanism" that brings local inflation rates back in line with global inflation which explains the relative success of inflation forecasting models based on global inflation (e.g., Ciccarelli and Mojon (2010). Fourth, we argue that the workhorse New Open Economy Macro (NOEM) model of Martínez-García and Wynne (2010) can be approximated by a finiteorder VAR and estimated using Bayesian techniques to forecast domestic inflation incorporating all relevant linkages with the rest of the world. This NOEM-BVAR provides a tractable model of inflation determination that can be tested empirically in forecasting. Finally, we use pseudo-out-of-sample forecasts to assess the NOEM-BVAR at different horizons (1 to 8 quarters ahead) across 17 OECD countries using quarterly data over the period 1980Q1-2014Q4. In general, we find that the NOEM-BVAR model produces a lower root mean squared prediction error (RMSPE) than its competitors—which include most conventional forecasting models based on domestic factors and also the recent models based on global inflation. In a number of cases, the gains in smaller RMSPEs are statistically significant. The NOEM-BVAR model is also accurate in predicting the direction of change for inflation, and often better than its competitors along this dimension too.
    JEL: E31 F41 F42 F47
    Date: 2015–04–01
  32. By: Casper de Vries (Erasmus School of Economics, Erasmus University Rotterdam, the Netherlands); Xuedong Wang (Erasmus School of Economics, Erasmus University Rotterdam, the Netherlands)
    Abstract: The term structure of interest rates does not adhere to the expectations hypothesis, possibly due to a risk premium. We consider the implications of a risk premium that arises from endogenous market segmentation driven by variable inflation rates. In the absence of autocorrelation in inflation, the risk premium is constant. If inflation is correlated, however, the risk premium becomes time varying and we can rationalize the failure of the expectations hypothesis. Indirect empirical tests of the model’s implications are provided.
    Keywords: Expectations hypothesis; Term structure; Time-Varying Risk Premia; Segmented markets; Inflation
    JEL: E43 G12
    Date: 2015–05–29
  33. By: Ricardo Reis
    Abstract: A central bank is insolvent if its plans imply a Ponzi scheme on reserves so the price level becomes infinity. If the central bank enjoys fiscal support, in the form of a dividend rule that pays out net income every period, including when it is negative, it can never become insolvent independently of the fiscal authority. Otherwise, this note distinguishes between intertemporal insolvency, rule insolvency, and period insolvency. While period and rule solvency depend on analyzing dividend rules and sources of risk to net income, evaluating intertemporal solvency requires overcoming the difficult challenge of measuring the present value of seignorage.
    JEL: E42 E58 E59
    Date: 2015–05
  34. By: Occhino, Filippo (Federal Reserve Bank of Cleveland)
    Abstract: This paper develops a model to interpret the 2012 eurozone crisis and the ECB’s policy response. In the model, bank lending is distorted by debt overhang, banks hold sovereign bonds, and the government guarantees the bailout of bank creditors. A self-fulfilling pessimistic view of the economy can trigger a banking and sovereign crisis: with pessimistic economic expectations, the value of sovereign bonds declines, the bank risk of default rises, and the debt overhang distortion worsens; this leads to a contraction in bank lending and to a decline in economic activity, which confi rms the initial pessimistic expectations. A commitment by the central bank to purchase the sovereign bonds at pre-crisis market spreads manages to eliminate the crisis equilibrium.
    Keywords: Debt overhang; multiple equilibria; self-fulfilling expectations; financial fragility; systemic risk
    JEL: G01
    Date: 2015–06–02
  35. By: Glick, Reuven; Rose, Andrew K
    Abstract: In our European Economic Review (2002) paper, we used pre-1998 data on countries participating in and leaving currency unions to estimate the effect of currency unions on trade using (then-) conventional gravity models. In this paper, we use a variety of empirical gravity models to estimate the currency union effect on trade and exports, using recent data which includes the European Economic and Monetary Union (EMU). We have three findings. First, our assumption of symmetry between the effects of entering and leaving a currency union seems reasonable in the data but is uninteresting. Second, EMU typically has a smaller trade effect than other currency unions, often estimated to be negligible or negative. Third and most importantly, estimates of the currency union effect on trade are sensitive to the exact econometric methodology; we find no substantive reliable and robust effect of currency union on trade.
    Keywords: bilateral; common; country; exports; fixed; gravity; Poisson; specific; time-varying
    JEL: F15 F33
    Date: 2015–05
  36. By: Kui-Wai, Li; Bharat R., Hazari
    Abstract: The object of this paper is to demonstrate the possible risks of quantitative easing in the long run. The analysis is conducted in the conventional framework of IS-LM curves in a sequential model, which assumes that the independence of supply and demand curves does not necessarily hold. It is established that this lack of independence coupled with a very flat (or kinked) IS curve may lead to falls in income in second period as a consequence of quantitative easing. Such easing may alter the behavior of investors who get encouraged to undertake very risky and leveraged investments. Thus, short term gains may be outweighed by long term losses from quantitative easing. In some cases such easing may create bubbles in the economy, for example, in the housing and stock markets which collapse at some point in time.
    Keywords: Interest rate, quantitative easing, IS-LM framework, non-independence of supply and demand curves
    JEL: E4 E43 E5 E52
    Date: 2015–05–01
  37. By: Duffy, David; Mc Inerney, Niall; McQuinn, Kieran
    Abstract: The aftermath of the 2007/08 financial crisis has resulted in many Central Banks and regulatory authorities examining the appropriateness of macroprudential policy as an effective and efficient policy option in preventing the emergence of future credit bubbles. Specific limits on loan-to-value (LTV) and loan-to-income (LTI) ratios have been assessed and applied in a large number of markets both in developing and developed economies as a means of ensuring greater financial stability. The Irish property and credit market were particularly affected in the crisis as the domestic housing market had, since 1995, experienced sustained price and housing supply increases. Much of the activity in the Irish market was fuelled by a sizeable credit bubble which was greatly facilitated by the growth of international wholesale funding post 2003. After a period of pronounced declines, Irish house prices in late 2013 started to increase significantly. In early 2015, the Irish Central Bank responded by imposing new LTV and LTI limits to curb house price inflation. However, the introduction of these measures comes at a time when housing supply and mortgage lending are at historically low levels. In this paper we use a newly developed structural model of the Irish property and credit market to examine the implications of these measures for house prices and key activity variables in the mortgage market.
    Date: 2015–05
  38. By: Hartmann, Philipp
    Abstract: Boom-bust cycles in real estate markets have been major factors in systemic financial crises and therefore need to be at the forefront of macroprudential policy. The geographically differentiated nature of real estate market fluctuations implies that these policies need to be granular across regions and countries. Before the financial crisis that started in 2007 property markets were overvalued in a range of European countries, but much like in other constituencies active policies addressing this were an exception. An increasing number of studies suggest that borrower-based regulatory policies, such as reductions in loan-to-value or debt-to-income limits, can be effective in leaning against real estate booms. But many of the new macroprudential policy authorities in Europe do not have clear powers to determine them. Moreover, the cross-border spillovers they may give rise to suggest the establishment of a well-defined macroprudential coordination mechanism for the single European market. European System of Central Banks Macroprudential Research Network (MaRs) suggests, first, that policies adjusting loan-to-value ratios in a countercyclical way and combining them with debt-to-income limits can be expected to be more effective than traditional approaches. Second, cross-border regulatory spillovers may be significant. Much like in other constituencies, before the crisis active regulatory policies leaning against burgeoning real estate markets were the exception in Europe rather than the rule. A lesson from this experience is that going forward policy makers need be bold enough to lean against booming real estate markets that imply systemic risks. In terms of completing the regulatory setup in European Union (EU) countries for this purpose, it is important to note that only a subset of countries have the necessary legislation in place to actively use loan-to-value or debt-to-income limits. And among those who have, not all allocate their use to macroprudential authorities. Finally, the Single Supervisory Mechanism for banks, which started at the European Central Bank in November 2014, has a coordinating role for some lender based regulatory instruments (as included in the Capital Requirements Directive IV and the Capital Requirements Regulation implementing Basel III) in that it can tighten relevant bank regulations in countries that joined but not relax them. A more complete macroprudential policy framework for supporting the EU single market for financial services would probably require a legal basis for the use of borrower based instruments by macroprudential policy authorities in all member countries, including a well-defined cross-border coordination mechanism for both lender and borrower based instruments. JEL Classification: G01, G28, R39, G17, E5
    Keywords: bubbles, financial crises, financial regulation, financial stability indicators, macroprudential policy, real estate markets, systemic risk
    Date: 2015–05

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