nep-mon New Economics Papers
on Monetary Economics
Issue of 2015‒09‒18
forty-one papers chosen by
Bernd Hayo
Philipps-Universität Marburg

  1. Fear of liftoff: Uncertainty, rules and discreation in monetary policy normalization By Orphanides, Athanasios
  2. Bond markets and monetary policy dilemmas for the emerging markets By Jhuvesh Sobrun; Philip Turner
  3. Learning and the effectiveness of central bank forward guidance By Cole, Stephen
  4. Monetary policy during financial crises: Is the transmission mechanism impaired? By Jannsen, Nils; Potjagailo, Galina; Wolters, Maik H.
  5. 'Inflation Targeting and Inflation Persistence' By George J. Bratsiotis; Jakob Madsen; Christopher Martin
  6. Trend Fundamentals and Exchange Rate Dynamics By Daniel Kaufmann; Florian Huber
  7. The (De-)Anchoring of Inflation Expectations: New Evidence from the Euro Area By Laura Pagenhardt; Dieter Nautz; Till Strohsal; Strohsal
  8. A heterogeneous agent model for assessing the effects of capital regulation on the interbank money market under a corridor system By Jackson, Christopher; Noss, Joseph
  9. The Financial Market Impact of Unconventional Monetary Policies in the U.S., the U.K., the Eurozone, and Japan By Kaoru Hosono; Shogo Isobe
  10. Monetary Policy and Controlling Asset Bubbles By Masaya Sakuragawa
  11. What has driven inflation dynamics in the Euro area, the United Kingdom and the United States By Melolinna, Marko
  13. Interest on Reserves, Interbank Lending, and Monetary Policy By Williamson, Stephen D.
  14. Monetary policy effects on bank risk taking By Angela Abbate; Dominik Thaler
  15. The information content of money and credit for US activity By Albuquerque, Bruno; Baumann, Ursel; Seitz, Franz
  16. Shoe-leather costs in the euro area and the foreign demand for euro banknotes By Calza, Alessandro; Zaghini, Andrea
  17. Sovereign stress, unconventional monetary policy, and SME access to finance By Ferrando, Annalisa; Popov, Alexander; Udell, Gregory F.
  18. Rational Inattention, Multi-Product Firms and the Neutrality of Money By Raphael Schoenle; Ernesto Pasten
  19. Banker Preferences, Interbank Connections, and the Enduring Structure of the Federal Reserve System By Matthew S. Jaremski; David C. Wheelock
  20. Bank bailouts and competition - Did TARP distort competition among sound banks? By Koetter, Michael; Noth, Felix
  21. The exchange rate, asymmetric shocks and asymmetric distributions By Demian, Calin-Vlad; di Mauro, Filippo
  22. Monetary Economics Simulation: Stock-Flow Consistent Invariance, Monadic Style By Pierre Boudes; Antoine Kaszczyc; Luc Pellissier
  23. Fiscal and monetary policy rules in an unstable economy By Soon, Ryoo; Skott, Peter
  24. A Small Open Economy with the Balassa-Samuelson Effect By Robert Ambrisko
  25. The Changing Dynamics of South Africa's Inflation Persistence: Evidence from a Quantile Regression Framework By Rangan Gupta; Charl Jooste; Omid Ranjbar
  26. Capital inflows and euro area long-term interest rates By Carvalho, Daniel; Fidora, Michael
  27. Choice of market in the monetary economy By Ryoji Hiraguchi; Keiichiro Kobayashi
  28. Regulatory arbitrage in action: evidence from banking flows and macroprudential policy By Reinhardt, Dennis; Sowerbutts, Rhiannon
  29. Housing Debt and the Transmission of Monetary Policy By Paolo Surico; Clodomiro Ferreira; James Cloyne
  30. Critique of accommodating central bank policies and the 'expropriation of the saver' - A review By Bindseil, Ulrich; Domnick, Clemens; Zeuner, Jörg
  31. Monetary Shocks and Bank Balance Sheets By Sebastian Di Tella; Pablo Kurlat
  32. Search-Based Endogenous Illiquidity and the Macroeconomy By Soren Radde; Wei Cui
  33. On the Credibility of the Euro/Swiss Franc Floor: A Financial Market Perspective By Markus Hertrich; Heinz Zimmermann
  34. Risk Management for Monetary Policy at the Zero Lower Bound By Francois Gourio; Jonas Fisher
  35. Domestic and multilateral effects of capital controls in emerging markets By Bijsterbosch, Martin; Falagiarda, Matteo; Pasricha, Gurnain; Aizenman, Joshua
  36. Euro area macro-financial stability: A flow-of-funds perspective By Beck, Günter W.; Kotz, Hans-Helmut; Zabelina, Natalia
  37. The role of information in exchange rate policy and the reaction of banks during the 2007/08 crisis By Geoffrey Minne
  38. Liquidity trap and secular stagnation By Yannick Kalantzis; Kenza Benhima; Philippe Bacchetta
  39. Does a Currency Union Need a Capital Market Union? By Thomas Philippon; Joseba Martinez
  40. This time is different: lessons from past tightening cycles By Rosengren, Eric S.
  41. Does Calvo Meet Rotemberg at the Zero Lower Bound? By Phuong Ngo; Jianjun Miao

  1. By: Orphanides, Athanasios
    Abstract: The Federal Reserve's muddled mandate to attain simultaneously the incompatible goals of maximum employment and price stability invites short-term-oriented discretionary policymaking inconsistent with the systematic approach needed for monetary policy to contribute best to the economy over time. Fear of liftoff-the reluctance to start the process of policy normalization after the end of a recession-serves as an example. Causes of the problem are discussed, drawing on public choice and cognitive psychology perspectives. The Federal Reserve could adopt a framework that relies on a simple policy rule subject to periodic reviews and adaptation. Replacing meeting-by-meeting discretion with a simple policy rule would eschew discretion in favor of systematic policy. Periodic review of the rule would allow the Federal Reserve the flexibility to account for and occasionally adapt to the evolving understanding of the economy. Congressional legislation could guide the Federal Reserve in this direction. However the Federal Reserve may be best placed to select the simple rule and could embrace this improvement on its own, within its current mandate, with the publication of a simple rule along the lines of its statement of longer-run goals.
    Keywords: Federal Reserve,liftoff,discretion,policy rules,policy normalization
    JEL: E32 E52 E58 E61
    Date: 2015
  2. By: Jhuvesh Sobrun; Philip Turner
    Abstract: Financial conditions in the emerging markets (EMs) have become more dependent on the 'world' long-term interest rate, which has been driven down by monetary policies in the advanced economies - notably Quantitative Easing (QE) - and by several non-monetary factors. This paper analyses some new mechanisms that link global long-term rates to monetary policy and to domestic bank lending in the EMs. Understanding these mechanisms could help EM central banks prepare for the exit from QE and higher (and perhaps divergent) policy rates in advanced economies. Although monetary policy in the EMs has continued to be guided by domestic objectives, it has nevertheless lost some traction. Difficult trade-offs now confront central banks.
    Keywords: Exit from QE, long-term interest rate, emerging market economies, bond markets
    Date: 2015–08
  3. By: Cole, Stephen
    Abstract: The unconventional monetary policy of forward guidance operates through the management of expectations about future paths of interest rates. This paper examines the link between expectations formation and the effectiveness of forward guidance. A standard New Keynesian model is extended to include forward guidance shocks in the monetary policy rule. Agents form expectations about future macroeconomic variables via either the standard rational expectations hypothesis or a more plausible theory of expectations formation called adaptive learning. The results show the efficacy of forward guidance depends on the manner in which agents form their expectations. In response to forward guidance, the paths of the output gap and inflation under adaptive learning overshoot and undershoot those implied by rational expectations. The adaptive learning impulse responses of the endogenous variables to a forward guidance shock exhibit more persistence before and after the forward guidance shock has been realized upon the economy. During an economic crisis (e.g. a recession), the assumption of rational expectations overstates the effects of forward guidance relative to adaptive learning. Specifically, the output gap is higher under rational expectations than adaptive learning. Thus, if monetary policy is based on a model with rational expectations, which is the standard assumption in the macroeconomic literature, the results of forward guidance could be potentially misleading.
    Keywords: Forward Guidance; Monetary Policy; Adaptive Learning; Expectations
    JEL: D84 E30 E50 E52 E58 E60
    Date: 2015–09–07
  4. By: Jannsen, Nils; Potjagailo, Galina; Wolters, Maik H.
    Abstract: We study the macroeconomic effects of monetary policy during financial crises using a Bayesian panel vector autoregressive (PVAR) model for 20 advanced economies. We interact all of the endogenous variables with financial crisis dummies, which are constructed using the narrative approach. We also distinguish between an acute initial phase of financial crises and a subsequent recovery phase. We show that an expansionary monetary policy shock has large positive effects on output and inflation during the acute phase of a financial crisis. These effects are larger than those during non-crisis periods. Decreased uncertainty as well as increases in consumer confidence and share prices explain these large effects, whereas these variables are much less relevant for monetary policy transmission outside financial crises. Counterfactual analysis shows that the transmission mechanism would be impaired without the effects of monetary policy on these variables, where credit would not react at all and the response of output would be substantially lower. During the recovery phase of a financial crisis, output and inflation are generally non-responsive to monetary policy shocks.
    Keywords: monetary policy transmission,financial crisis,financial stability,state-dependence,uncertainty,panel VAR
    JEL: C33 E52 E58 G01
    Date: 2015
  5. By: George J. Bratsiotis; Jakob Madsen; Christopher Martin
    Abstract: This paper argues that the adoption of an inflation target reduces the persistence of inflation. We develop the theoretical literature on inflation persistence by introducing a Taylor Rule for monetary policy into a model of persistence and showing that inflation targets reduce inflation persistence. We investigate changes in the time series properties of inflation in seven countries that introduced inflation targets in the late 1980s or early 1990s. We find that the persistence of inflation is greatly reduced or eliminated following the introduction of inflation targets.
    Date: 2015
  6. By: Daniel Kaufmann (KOF Swiss Economic Institute, ETH Zurich, Switzerland); Florian Huber (Oesterreichische Nationalbank, Vienna, Austria)
    Abstract: We estimate a multivariate unobserved components-stochastic volatility model to explain the dynamics of a panel of six exchange rates against the US Dollar. The empirical model is based on the assumption that both countries' monetary policy strategies may be well described by Taylor rules with a time-varying inflation target, a time-varying natural rate of unemployment, and interest rate smoothing. The estimates closely track major movements along with important time-series properties of the real and nominal exchange rates across all currencies considered. The model generally outperforms a simple benchmark model that does not account for changes in trend inflation and trend unemployment.
    Keywords: Exchange rate models, trend inflation, natural rate of unemployment, Taylor rule, unobserved components-stochastic volatility model
    JEL: F31 E52 F41 C5 E31
    Date: 2015–09
  7. By: Laura Pagenhardt; Dieter Nautz; Till Strohsal; Strohsal
    Abstract: Well-anchored inflation expectations are a key factor for achieving economic stability. This paper provides new empirical results on the anchoring of long-term inflation expectations in the euro area. In line with earlier evidence, we find that euro area inflation expectations have been anchored until fall 2011. Since then, however, they respond significantly to macroeconomic news. Our results obtained from multiple endogenous break point tests suggest that euro area inflation expectations have remained de-anchored ever since.
    Keywords: Anchoring of Inflation Expectations, Break-Even Inflation Rates, News-Regressions, Multiple Structural Break Tests
    JEL: E31 E52 E58 C22
    Date: 2015–09
  8. By: Jackson, Christopher (Bank of England); Noss, Joseph (Bank of England)
    Abstract: Money markets play an important role in the implementation of monetary policy. Their structure and dynamics have, however, changed significantly in recent years. In particular, a number of new banking regulations will affect the behaviour of money market participants, and so have the potential to affect money market interest rates. This paper offers a model to examine how prudential regulation might affect interbank overnight interest rates where the central bank implements monetary policy using a corridor system. Combined with a set of assumptions as to the cost banks might incur in meeting regulatory capital requirements, it offers a framework with which to explore how such prudential regulation might affect the dynamics of overnight interest rates. The results — which are illustrative — estimate the interest rates at which banks might borrow and lend reserves overnight in the presence of prudential regulation. They suggest that risk-weighted capital requirements might increase the average level of overnight interbank interest rates, while the regulatory minimum leverage ratio might decrease it. If applied to real-world data on central bank reserves balances and regulatory metrics, this model also offers an insight into how central bank policymakers could — if they so choose — amend their operational frameworks to account for the effects of regulation.
    Keywords: Monetary policy implementation; money markets; bank regulation; central bank operations.
    JEL: E43 E43 E58 G12
    Date: 2015–09–11
  9. By: Kaoru Hosono (Professor Faculty of Economics, Gakushuin University); Shogo Isobe (Researcher, Policy Research Institute)
    Abstract: This paper investigates the impact of the unconventional policies implemented by the Federal Reserve, the Bank of England, the European Central Bank, and the Bank of Japan on the returns on a broad class of assets in a comprehensive and consistent manner. Controlling for market expectations, we find that for most economies and periods, policies had the effect of lowering long-term government bond yields and the exchange rate of the home currency; for some economies and periods we also find an impact on corporate bond spreads, interbank loan spreads, and stock prices. We further find that policy announcements that were accompanied by forward guidance tended to have a more significant and greater impact on a broad range of assets than policy announcements without forward guidance.
    Keywords: Unconventional monetary policies; Event study; Announcement
    JEL: E58 G12 F31
  10. By: Masaya Sakuragawa (Faculty of Economics, Keio University)
    Abstract: A great concern is whether there is any means of monetary policy that works for the "leaning against the wind" policy in the bubbly economy. This paper explores the scope for monetary policy that can control bubbles within the framework of the stochastic version of overlapping-generations model with rational bubbles. The policy that raises the cost of external finance, could be identified as monetary tightening, represses the boom, but appreciate bubbles. In contrast, an open market operation using public bonds is conductive as the "leaning against the wild" policy. Selling public bonds in the open market by the central bank raises the interest rate, represses the boom, and depreciates bubbles. In conducting monetary tightening, the central bank faces the tradeoff between the loss from killing the boom and the gain from lessening the loss of the bursting of bubbles.
    Keywords: rational bubbles, monetary policy, open market operation
    JEL: E52
    Date: 2015–02
  11. By: Melolinna, Marko
    Abstract: This paper studies factors behind inflation dynamics in the euro area, the UK and the US. It introduces a factor-augmented vector autoregression (FAVAR) framework with sign restrictions to study the effects of fundamental macroeconomic shocks on inflation in the three economies. The FAVAR model framework is also applied to study the effects on inflation subcomponents in the more recent past. The FAVAR models suggest that headline inflation in the three economies has reacted in a relatively similar fashion to macroeconomic shocks over the last four decades, with demand shocks causing the most persistent effects on inflation. According to the subcomponent FAVAR models, the responses of inflation subcomponents to macroeconomic shocks have also been relatively similar in the three economies. However, there is evidence of a stronger foreign exchange channel of monetary policy transmission as well as supply shocks in the responses of non-energy tradable goods prices in the UK than the other two economies, while the reaction of services inflation has been more muted to all types of shocks in the euro area than the other two economies. JEL Classification: C22, C32, E31, E52
    Keywords: FAVAR, inflation, macroeconomic shocks, sign restrictions
    Date: 2015–06
  12. By: Pippenger, John E
    Abstract: The Forward-Bias Puzzle, failure of uncovered interest parity and related puzzles suggest that there is a fundamental failure in international financial markets.  Many theories attempt to explain this bias and failure.  But none of them has been widely accepted; at least partly because they are not consistent with the related puzzles.  The model of monetary policy in Table 6 explains the Forward-Bias Puzzle and UIP failure without appealing to information failures.  It also explains, or is at least consistent with, the related puzzles.  Finally it suggests that we need to change the way we think about UIP.
    Keywords: Social and Behavioral Sciences, exchange rates, interest rates, risk premia, rational expectations, uncovered and covered interest parity, forward bias, speculation, arbitrage.
    Date: 2015–09–14
  13. By: Williamson, Stephen D. (Federal Reserve Bank of St. Louis)
    Abstract: A two-sector general equilibrium banking model is constructed to study the functioning of a floor system of central bank intervention. Only retail banks can hold reserves, and these banks are also subject to a capital requirement, which creates “balance sheet costs” of holding reserves. An increase in the interest rate on reserves has very different qualitative effects from a reduction in the central bank’s balance sheet. Increases in the central bank’s balance sheet can have redistributive effects, and can reduce welfare. A reverse repo facility at the central bank puts a floor un- der the interbank interest rate, and is always welfare improving. However, an increase in reverse repos outstanding can increase the margin between the interbank interest rate and the interest rate on government debt.
    JEL: E4 E5
    Date: 2015–09–13
  14. By: Angela Abbate (Deutsche Bundesbank and European University Institute, Department of Economics); Dominik Thaler (European University Institute, Department of Economics)
    Abstract: Motivated by VAR evidence on the risk-taking channel in the US, we develop a New Keynesian model where low levels of the risk-free rate induce banks to grant credit to riskier borrowers. In the model an agency problem between depositors and equity holders incentivizes banks to take excessive risk. As the real interest rate declines these incentives become stronger and risk taking increases. We estimate the model on US data using Bayesian techniques and assess optimal monetary policy conduct in the estimated model, assuming that the interest rate is the only available instrument. Our results suggest that in a risk taking channel environment, the monetary authority should seek to stabilize the path of the real interest rate, trading off more inflation volatility in exchange for less interest rate and output volatility.
    Keywords: Bank Risk; Monetary policy; DSGE Models
    JEL: E12 E44 E58
    Date: 2015–09
  15. By: Albuquerque, Bruno; Baumann, Ursel; Seitz, Franz
    Abstract: We analyse the forecasting power of different monetary aggregates and credit variables for US GDP. Special attention is paid to the influence of the recent financial market crisis. For that purpose, in the first step we use a three-variable single-equation framework with real GDP, an interest rate spread and a monetary or credit variable, in forecasting horizons of one to eight quarters. This first stage thus serves to pre-select the variables with the highest forecasting content. In a second step, we use the selected monetary and credit variables within different VAR models, and compare their forecasting properties against a benchmark VAR model with GDP and the term spread. Our findings suggest that narrow monetary aggregates, as well as different credit variables, comprise useful predictive information for economic dynamics beyond that contained in the term spread. However, this finding only holds true in a sample that includes the most recent financial crisis. Looking forward, an open question is whether this change in the relationship between money, credit, the term spread and economic activity has been the result of a permanent structural break or whether we might go back to the previous relationships. JEL Classification: E41, E52, E58
    Keywords: credit, forecasting, money
    Date: 2015–06
  16. By: Calza, Alessandro; Zaghini, Andrea
    Abstract: We estimate the shoe-leather costs of inflation in the euro area using monetary data adjusted for holdings of euro banknotes abroad. While we find evidence of marginally negative shoe-leather costs for very low levels of the nominal interest rate, our estimates suggest that the shoe-leather costs are non-negligible even for relatively moderate levels of anticipated inflation. We conclude that, despite the increased circulation of euro banknotes abroad, in the euro area the inflation tax is still predominantly borne by domestic agents, with transfers of resources from abroad remaining small. JEL Classification: E41, C22
    Keywords: currency abroad, euro, money demand, welfare cost of inflation
    Date: 2015–07
  17. By: Ferrando, Annalisa; Popov, Alexander; Udell, Gregory F.
    Abstract: We investigate the effect of sovereign stress and of unconventional monetary policy on small firms’ financing patterns during the euro area debt crisis. We find that after the crisis started, firms in stressed countries were more likely to be credit rationed, both in the quantity and in the price dimension, and to increase their use of debt securities. We also find evidence that the announcement of the ECB’s Outright Monetary Transactions Program was followed by an immediate decline in the share of credit rationed firms and of firms discouraged from applying. In addition, firms reduced their use of debt securities, trade credit, and government-subsidized loans. Firms with improved outlook and credit history were particularly likely to benefit from easier credit access. JEL Classification: D22, E58, G21, H63
    Keywords: Credit Access, SMEs, Sovereign debt, unconventional monetary policy
    Date: 2015–06
  18. By: Raphael Schoenle (Brandeis University); Ernesto Pasten (Banco Central de Chile, Toulouse School of Economics)
    Abstract: In a quantitative rational inattention model, monetary non-neutrality quickly vanishes as rms price more goods while monetary non-neutrality is strong in a single-product setting under otherwise identical conditions. This result is due to (1) economies of scope that arise naturally in the multi-product setting, where processing information is costly but using already internalized information is free, and (2) good-specic shocks that account for a nonzero fraction of the within-rm dispersion of log price changes, which we document in U.S. data. As a consequence, as rms price more goods, they shift attention from good-specic to common shocks, such as monetary shocks. Aggregate prices then respond much faster to monetary shocks due to strategic complementarity.
    Keywords: rational inattention, multi-product rms, monetary non-neutrality
    JEL: E3 E5 D8
    Date: 2015–08
  19. By: Matthew S. Jaremski; David C. Wheelock
    Abstract: Established by a three person Reserve Bank Organization Committee (RBOC) in 1914, the structure of the Federal Reserve System has remained essentially unchanged ever since, despite criticism at the time and over ensuing decades. This paper examines the selection of cities for Reserve Banks and branches, and of district boundaries. We show that each aspect of the Fed’s structure reflected the preferences of national banks, including adjustments to district boundaries after the Fed was established. Further, using newly-collected information on the locations of each national bank’s correspondents, we find that banker preferences mirrored established interbank connections. The Federal Reserve was thus formed on top of the structure that it was meant to replace.
    JEL: E58 N21 N22
    Date: 2015–09
  20. By: Koetter, Michael; Noth, Felix
    Abstract: This study investigates if the Troubled Asset Relief Program (TARP) distorted price competition in U.S. banking. Political indicators reveal bailout expectations after 2009, manifested as beliefs about the predicted probability of receiving equity support relative to failing during the TARP disbursement period. In addition, the TARP affected the competitive conduct of unsupported banks after the program stopped in the fourth quarter of 2009. The risk premium required by depositors was lower, and loan rates were higher for banks with higher bailout expectations. The interest margins of unsupported banks increased in the immediate aftermath of the TARP disbursement but not after 2010. These effects are economically very small though. No effects emerged for loan or deposit growth, which suggests that protected banks did not increase their market shares at the expense of less protected banks. JEL Classification: C30, C78, G21, G28, L51
    Keywords: bailout expectations, Banking, competition, TARP
    Date: 2015–06
  21. By: Demian, Calin-Vlad; di Mauro, Filippo
    Abstract: The elasticity of exports to exchange rate fluctuations has been the subject of a large literature without a clear consensus emerging. Using a novel sector level dataset based on firm level information, we show that exchange rate elasticities double in size when the country and sector specific firm productivity distribution is taken into account in empirical estimates. In addition, exports appear to be sensitive to appreciation episodes, but rather unaffected by depreciations. Finally, only rather large changes in the exchange rate appear to matter. JEL Classification: F14, F41, F31
    Keywords: bilateral trade, exchange rate elasticity, productivity dispersion, TFP
    Date: 2015–06
  22. By: Pierre Boudes (LIPN - Laboratoire d'Informatique de Paris-Nord - CNRS - Université Paris 13 - Université Sorbonne Paris Cité (USPC) - Institut Galilée); Antoine Kaszczyc (LIPN - Laboratoire d'Informatique de Paris-Nord - CNRS - Université Paris 13 - Université Sorbonne Paris Cité (USPC) - Institut Galilée); Luc Pellissier (LIPN - Laboratoire d'Informatique de Paris-Nord - CNRS - Université Paris 13 - Université Sorbonne Paris Cité (USPC) - Institut Galilée)
    Abstract: An agent-based simulation of a monetary economy as a whole should be stock-flow consistent [7]. We aim at providing a compile-time verification of the preservation of this invariant by the computation. We guarantee this invariant by wrapping the accounting operations in a monad. Our objective is to increase the confidence in the SFCness of an existing complex simulation with a minimal refactoring of code.
    Keywords: Stock-Flow Consistency,Agent-based simulation,Functional Programming,Monads,Static Typing,Strong Type Discipline
    Date: 2015–09–03
  23. By: Soon, Ryoo (Department of Finance and Economics, Adelphi University); Skott, Peter (Department of Economics, University of Massachusetts, Amherst, MA 01003,USA, and Aalborg University)
    Abstract: This paper examines the implications of different monetary and fiscal policy rules in an economy characterized by Harrodian instability. We show that (i) a monetary rule along Taylor lines can be stabilizing for low debt ratios but becomes de-stabilizing if the debt ratio exceeds a certain threshold, (ii) a `Keynesian' fiscal policy rule can stabilize the economy at full employment, (iii) a fiscal `austerity' rule that links fiscal parameters to deviations from a target debt ratio fails to adjust the `warranted' to the `natural' growth rate and destabilizes the warranted path, (iv) instability may arise from a combination of fiscal and monetary policy rules which separately would stabilize the system, and (v) austerity rules can in some circumstances enhance the stabilizing effects of monetary policy.
    Keywords: functional finance, fiscal policy rule, austerity, public debt, Harrodian instability
    JEL: E12 E52 E62 E63
    Date: 2015
  24. By: Robert Ambrisko
    Abstract: The Balassa-Samuelson (B-S) effect implies that highly productive countries have higher inflation and appreciating real exchange rates because of larger productivity growth differentials between tradable and nontradable sectors relative to advanced economies. The B-S effect might pose a threat to converging European countries, which would like to adopt the Euro because of the limits imposed on inflation and nominal exchange rate movements by the Maastricht criteria. The main goal of this paper is to judge whether the B-S effect is a relevant issue for the Czech Republic to comply with selected Maastricht criteria before adopting the Euro. For this purpose, a two-sector DSGE model of a small open economy is built and estimated using Bayesian techniques. The simulations from the model suggest that the B-S effect is not an issue for the Czech Republic when meeting the inflation and nominal exchange rate criteria. The costs of early adoption of the Euro are not large in terms of additional inflation pressures, which materialize mainly after the adoption of the single currency. Also, nominal exchange rate appreciation, driven by the B-S effect, does not breach the limit imposed by the ERM II mechanism.
    Keywords: Balassa-Samuelson effect; DSGE; European Monetary Union; exchange rate regimes; Maastricht convergence criteria;
    JEL: E31 E52 F41
    Date: 2015–08
  25. By: Rangan Gupta (Department of Economics, University of Pretoria); Charl Jooste (Department of Economics, University of Pretoria); Omid Ranjbar (Ministry of Industry, Mine and Trade, Tehran, Iran)
    Abstract: We study inflation persistence in South Africa using a quantile regression approach. We control for structural breaks using a quantile structural break test on a long span of inflation data. Our study includes persistence estimates for headline and core inflation - thus controlling for possible biases emanating from extremely volatile periods. South Africa's inflation persistence is lowest during the inflation targeting period regardless of the inflation measure. Inflation persistence is also constant over all quantiles during the inflation targeting regime for core inflation. There is a difference between the estimates from headline and core - headline persistence increases in relation to higher quantiles. Thus energy and food price shocks might de-stabilise inflation altogether.
    Keywords: Inflation persistence, quantile regression, structural breaks
    JEL: C21 E31
    Date: 2015–08
  26. By: Carvalho, Daniel; Fidora, Michael
    Abstract: Capital flows into the euro area were particularly large in the mid-2000s and the share of foreign holdings of euro area securities increased substantially between the introduction of the euro and the outbreak of the global financial crisis. We show that the increase in foreign holdings of euro area bonds in this period is associated with a reduction of euro area long-term interest rates by about 1.55 percentage points, which is in line with previous studies that document a similar impact of foreign bond buying on US Treasury yields. These results are relevant both from a euro area and a global perspective, as they show that the phenomenon of lower long-term interest rates due to foreign bond buying is not exclusive to the United States and foreign inflows into euro area debt securities may have added to increased risk appetite and hunt-for-yield at the global level. JEL Classification: E43, E44, F21, F41, G15
    Keywords: capital flows, long-term interest rates ECB
    Date: 2015–06
  27. By: Ryoji Hiraguchi; Keiichiro Kobayashi
    Abstract: We investigate a monetary model `a la Lagos and Wright (2005), in which there are two kinds of decentralized markets, and each agent stochastically chooses which one to participate in by expending effort. In one market, the pricing mechanism is competitive, whereas in the other market, the terms of trade are determined by Nash bargaining. It is shown that the optimal monetary policy may deviate from the Friedman rule. As the nominal interest rate deviates from zero, buyers expend more effort because a higher interest rate increases the gain for buyers from entering the competitive market, while the marginal increase in social welfare by entering the competitive market is also positive.
    Date: 2015–08
  28. By: Reinhardt, Dennis (Bank of England); Sowerbutts, Rhiannon (Bank of England)
    Abstract: We use a new database on macroprudential policy actions to examine whether macroprudential regulations affect international banking flows. We find evidence that borrowing by the domestic non-bank sector from foreign banks increases after home authorities take a macroprudential capital action. We find no increase in borrowing from foreign banks after an action which tightens lending standards (such as limits on loan-to-value ratios for house purchase). Evidence on reserve requirements is mixed. Differences in the application of regulation for lending standards and capital regulation for international banks mean that while there is a level playing field for lending standards regulation, this does not always apply for capital regulation, giving foreign branches regulated by their home authorities a competitive advantage. Our results are, at first sight, different from the literature on regulatory arbitrage: we find that foreign banks expand their lending into host countries where regulation is tightened. But this does not occur when regulations apply also to them. The results have implications for macroprudential instrument choice and calibration, and for reciprocating regulation internationally.
    Keywords: Macroprudential policies; cross-border banking flows; leakages.
    JEL: F32 F34 G21
    Date: 2015–09–11
  29. By: Paolo Surico (London Business School); Clodomiro Ferreira (European University Institute); James Cloyne (Bank of England)
    Abstract: In response to an unanticipated change in interest rates, households with mortgage debt adjust markedly their expenditure, especially on durable goods, renters react to a lesser extent and outright home-owners do not react at all. All housing tenure groups experience a significant change in disposable income (over and above the direct impact on mortgage repayments). The response of house prices is sizable, driving a significant adjustment in loan-to-income ratios but little change in loan-to-value ratios. A simple collateral constraint model augmented with durable goods and renters generates predictions consistent with these novel empirical findings and suggests that heterogeneity in housing debt positions plays an important role in the transmission of monetary policy.
    Date: 2015
  30. By: Bindseil, Ulrich; Domnick, Clemens; Zeuner, Jörg
    Abstract: In parts of the German media, with the support of a number of German economists, the ECB’s low nominal interest rate policy is criticised as unnecessary, ineffective and as expropriating the German saver. This paper provides a review of the relevant arguments. It is recalled that returns on savings are anchored to the real rate of return on capital. Good monetary policy tries to avoid being a source of disturbance in itself, and may be able to smooth the effects of temporary external shocks, but beyond that cannot structurally improve the real rate of return on capital. Against this general background, the paper critically analyses a number of recent arguments as to why low interest rate policies could actually be counterproductive. Finally, the paper reviews what can be done about the medium to long-term real rate of return on capital, which remains in any case the basic issue for the saver, focusing on the specific case of Germany. The key policies identified relate to demographics, education, labour markets, infrastructure and technology. Low growth dynamics in the coming decades and correspondingly low real rates of return on investments are not inevitable. JEL Classification: D81
    Keywords: growth, natural rate, real interest rate, zero lower bound
    Date: 2015–05
  31. By: Sebastian Di Tella (Stanford GSB); Pablo Kurlat (Stanford University)
    Abstract: We propose a model to explain why banks' balances sheets are exposed to interest rate risk despite the existence of markets where that risk can be hedged. A rise in nominal interest rates raises the opportunity cost of holding currency; since bank liabilities are close substitutes of currency, demand for bank liabilities rises and banks earn higher spreads. If risk aversion is higher than 1, the optimal dynamic hedging strategy is to sustain capital losses when nominal interest rates rise and, conversely, capital gains when they fall. A traditional bank balance sheet with long duration nominal assets achieves that.
    Date: 2015
  32. By: Soren Radde (European Central Bank); Wei Cui (University College London)
    Abstract: We endogenize asset liquidity in a dynamic general equilibrium model with search frictions on asset markets. In the model, asset liquidity is tantamount to the ease of issuance and resaleability of private financial claims, which is driven by investors' participation on the search market. Limited funding ability of private claims creates a role for liquid assets, such as government bonds or fiat money, to ease funding constraints. We show that liquidity and asset prices can positively co-move. When the capacity of the asset market to channel funds to entrepreneurs deteriorates, investment drops while the hedging value of liquid assets increases. Our model is thus able to match the liquidity hoarding observed during recessions, together with the dynamics of key macro variables.
    Date: 2015
  33. By: Markus Hertrich; Heinz Zimmermann (University of Basel)
    Abstract: <span lang="EN-US">The sheer existence of EUR/CHF put options with strike prices below the EUR/CHF 1.20 floor, trading at non-zero cost, challenged the full credibility of the Swiss National Bank (SNB) in enforcing the lower barrier implemented in September 6, 2011 and abandoned on January 15, 2015. We estimate the risk-neutral break probabilities of a realignment of the floor from market prices of put options, using an extension of the Veestraeten option pricing model which assumes that the underlying security price exhibits a lower barrier. We estimate probabilities considerably different from zero, even when the exchange rate traded far above the EUR/CHF 1.20 floor. We observe a drastic increase in the break-probabilities after August 2014, reaching a level of nearly 50%. The credibility of the SNB in maintaining the floor, as seen from the option market, was thus substantially lower than publicly claimed.</span>
    Keywords: currency options, central banking, credibility, Euro/Swiss franc floor, Vanna-Volga method, barrier
    JEL: E42 E58 F31 G13
    Date: 2015
  34. By: Francois Gourio (FRB Chicago); Jonas Fisher (Federal Reserve Bank of Chicago)
    Abstract: As labor markets improve and projections have inflation heading back toward target, the Fed has begun to contemplate lifting the federal funds rate from its zero lower bound (ZLB). Under what conditions should the Fed start raising rates? We lay out an argument that calls for caution. It is founded on a risk management principle that says policy should be formulated taking into account the dispersion of outcomes around the mean forecast. On the one hand, raising rates early increases the likelihood of adverse shocks driving a fragile economy back to the ZLB. On the other hand, delaying lift-off when the economy turns out to be resilient could lead to an unwelcome bout of inflation. Since the tools available to counter the first scenario are hard to implement and may be less effective than the traditional tool of raising rates to counter the second scenario, the costs of premature lift-o exceed those of delay. This article shows in a canonical framework that uncertainty about being constrained by the ZLB in the future implies an optimal policy of delayed lift-o. We present evidence that such a risk manage- ment policy is consistent with past Fed actions and that unconventional tools will be hard to implement if the economy were to be constrained by the ZLB after a hasty exit.
    Date: 2015
  35. By: Bijsterbosch, Martin; Falagiarda, Matteo; Pasricha, Gurnain; Aizenman, Joshua
    Abstract: Using a novel dataset on changes in capital controls and currency-based prudential measures in 17 major emerging market economies (EMEs) over the period 2001-2011, this paper provides new evidence on domestic and multilateral (or spillover) effects of capital controls before and after the global financial crisis. Our results, based on panel VARs, suggest that capital control actions do not allow countries to avoid the trade-offs of the monetary policy trilemma. Where they have a desired impact on the trilemma variables – net capital inflows, monetary policy autonomy and the exchange rate – the size of that impact is generally small. While we find some evidence of effectiveness before the global financial crisis, the usefulness of these measures weakened in the post-crisis environment of abundant global liquidity and relatively strong economic growth in EMEs. Our results also show that capital control policies can have unintended consequences, as resident outflows offset the impact of capital control actions on gross inflows (or vice versa). These findings highlight the importance of the macroeconomic context and of the increasing role of resident flows in understanding the effectiveness of capital inflow management. Using panel near-VARs, we find significant spillovers of capital control actions in BRICS (Brazil, Russia, India, China and South Africa) to other EMEs during the 2000s. Spillover effects were more important in the aftermath of the global financial crisis than before the crisis, and arose from inflow tightening actions, rather than outflow easing measures. The channels through which these policies spilled over to other countries were exchange rates as well as capital flows (especially cross-border bank lending). Spillovers seem to be more prevalent in Latin America than in Asia, reflecting the greater role of cross-border banking and more open capital accounts in the former countries. These results are robust to various specifications of our models. JEL Classification: F32, F41, F42
    Keywords: Capital controls, capital flows, emerging market economies, monetary policy trilemma, policy spillovers
    Date: 2015–08
  36. By: Beck, Günter W.; Kotz, Hans-Helmut; Zabelina, Natalia
    Abstract: The global financial crisis (as well as the European sovereign debt crisis) has led to a substantial redesign of rules and institutions - aiming in particular at underwriting financial stability. At the same time, the crisis generated a renewed interest in properly appraising systemic financial vulnerabilities. Employing most recent data and applying a variety of largely only recently developed methods we provide an assessment of indicators of financial stability within the Euro Area. Taking a "functional" approach, we analyze comprehensively all financial intermediary activities, regardless of the institutional roof - banks or non-bank (shadow) banks - under which they are conducted. Our results reveal a declining role of banks (and a commensurate increase in non-bank banking). These structural shifts (between institutions) are coincident with regulatory and supervisory reforms (implemented or firmly anticipated) as well as a non-standard monetary policy environment. They might, unintendedly, actually imply a rise in systemic risk. Overall, however, our analyses suggest that financial imbalances have been reduced over the course of recent years. Hence, the financial intermediation sector has become more resilient. Nonetheless, existing (equity) buffers would probably not suffice to face substantial volatility shocks.
    Keywords: bank and non-bank financial intermediation,shadow banking,financial stability,systemic risk,financial regulation
    Date: 2015
  37. By: Geoffrey Minne
    Abstract: The disclosure of information about the policy making process and the release of new databases may add relevant information about the exchange rate to guide the public's expectation, but may also mislead it. Asymmetric information also reinforces the importance of the learning process for policy makers and financial markets. This dissertation focuses on the role of information in the political economics of exchange rates. The two first chapters provide empirical studies of how access to information shapes and constraints the choice of exchange rate policy (official statement and implemented policy). The last chapter considers the question of whether international banks learn from their previous crisis experiences and reduce their lending to developing countries as a result of a financial crisis. It focuses on the experience accumulated with past financial crises.
    Keywords: International Monetary Fund; Global Financial Crisis, 2008-2009; Crise financière mondiale, 2008-2009; financial crisis; foreign banks; fear of floating; information; exchange rate regime
    Date: 2014–10–01
  38. By: Yannick Kalantzis (Banque de France); Kenza Benhima (University of Lausanne (HEC)); Philippe Bacchetta (University of Lausanne)
    Abstract: In this paper we analyze the link between the ZLB and slow growth in a model with heterogeneous agents and explicit money demand. While the model is neoclassical with small shocks, a large deleveraging shock in the spirit of Eggertsson and Krugman (2012) has permanent effects even with flexible prices. It affects supply rather than demand and implies a long-term decrease in potential output and an increase in cash holding. The basic reason is that in a liquidity trap, saving is allocated to cash rather than physical capital. With short-term price stickiness, monetary policy in the form of an expansion in money supply is effective in reducing unemployment in the short-run, but not in affecting the long term output level. An increase in debt may help exiting the ZLB, but it may lower the capital stock because of higher interest rates.
    Date: 2015
  39. By: Thomas Philippon (New York University); Joseba Martinez (New York University)
    Abstract: We study financial linkages and risk sharing in the context of the Eurozone crisis. We consider four types of currency unions: a currency union with (potentially) segmented markets; a banking union; a capital market union; and a currency union with complete financial markets. We then analyze how these economies respond to deleveraging shocks and to technology shocks. We find that a banking union is enough to deal with public and private deleveraging shocks, but a capital market union is necessary to approximate the complete market allocation when there are shocks that affect productivity or the terms of trade
    Date: 2015
  40. By: Rosengren, Eric S. (Federal Reserve Bank of Boston)
    Abstract: Remarks by Eric S. Rosengren, President and Chief Executive Officer, Federal Reserve Bank of Boston, at The Forecasters Club of New York, New York, New York, September 1, 2015.
    Date: 2015–09–01
  41. By: Phuong Ngo (Cleveland State University); Jianjun Miao (Boston University)
    Abstract: This paper compares the Calvo model with the Rotemberg model in a fully nonlinear dynamic new Keynesian framework with an occasionally binding zero lower bound (ZLB) on nominal interest rates. Although the two models are equivalent to a first-order approximation, they generate very different results regarding the policy functions and the government spending multiplier based on nonlinear solutions. The multiplier in the Calvo model is less than one for low persistence of the government spending shock and rises above one as the persistence increases, but eventually decreases with the persistence and falls below one for sufficiently high persistence. In addition, the multiplier increases with the duration of the ZLB. By contrast, the multiplier in the Rotemberg model is less than one and decreases with the persistence. Surprisingly, it also decreases with the duration of the ZLB.
    Date: 2015

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