nep-mon New Economics Papers
on Monetary Economics
Issue of 2016‒01‒29
twenty-one papers chosen by
Bernd Hayo
Philipps-Universität Marburg

  1. Understanding Inflation as a Joint Monetary-Fiscal Phenomenon By Campbell Leith; Eric Leeper
  2. DSGE model-based forecasting of modelled and nonmodelled inflation variables in South Africa By Rangan Gupta; Patrick T. Kanda; Mampho P. Modise; Alessia Paccagnini
  3. Asymmetric Inflation Expectations, Downward Rigidity of Wages and Asymmetric Business Cycles By David Rezza Baqaee
  4. Policy and macro signals as inputs to inflation expectation formation By Hubert, Paul; Maule, Becky
  5. Persistent Liquidity By Giulia Ghiani; Max Gillman; Michal Kejak
  6. Monetary policy and indeterminacy after the 2001 slump By Firmin Doko Tchatoka; Nicolas Groshenny; Qazi Haque; Mark Weder
  7. "Colonial Virginia's Paper Money Regime, 1755-1774: Value Decomposition and Performance" By Farley Grubb
  8. On the impact of dollar movements on oil currencies By Gabriel Gomes
  9. Monetary policy, trend inflation, and the Great Moderation: an alternative interpretation: comment based on system estimation By Van Zandweghe, Willem; Hirose, Yasuo; Kurozumi, Takushi
  10. What drives the global official/policy interest rate? By Ratti, Ronald; Vespignani, Joaquin
  11. Inflation expectations and monetary policy under disagreements By Yoshiyuki Nakazono
  12. Exploring International Differences in Inflation Dynamics By Yamin Ahmad; Olena Mykhaylova
  13. Understanding the deviations of the Taylor Rule: a new methodology with an application to Australia By Hudson, Kerry; Vespignani, Joaquin
  14. Policy alternatives for the relationship between ECB monetary and financial policies and new member states By Michal Jurek; Pawel Marszalek
  15. How Did Pre-Fed Banking Panics End? By Tallman, Ellis W.; Gorton, Gary
  16. The Shape of Regulation to Come By José Jorge
  17. European lending channel: differences in transmission mechanisms due to the global financial crisis By Tomáš Heryán; Panayiotis G. Tzeremes; Roman Matousek
  18. Fragility of Money Markets By Ranaldo, Angelo; Rupprecht, Matthias; Wrampelmeyer, Jan
  19. Taming macroeconomic instability : monetary and macro prudential policy interactions in an agent-based model By Lilit Popoyan; Mauro Napoletano; Andrea Roventini
  20. Global Liquidity and Monetary Policy Autonomy By Stefan Angrick
  21. Liquidity Traps, Capital Flows By Sushant ACHARYA; Julien BENGUI

  1. By: Campbell Leith; Eric Leeper
    Abstract: We develop the theory of price-level determination in a range of models using both ad hoc policy rules and jointly optimal monetary and fiscal policies and discuss empirical issues that arise when trying to identify monetary-fiscal regime. The article concludes with directions in which theoretical and empirical developments may go. The article is prepared for the Handbook of Macroeconomics, volume 2 (John B. Taylor and Harald Uhlig, editors, Elsevier Press).
    Date: 2016–01
  2. By: Rangan Gupta; Patrick T. Kanda; Mampho P. Modise; Alessia Paccagnini
    Abstract: Inflation forecasts are a key ingredient for monetary policy-making – especially in an inflation targeting country such as South Africa. Generally, a typical Dynamic Stochastic General Equilibrium (DSGE) only includes a core set of variables. As such, other variables, for example alternative measures of inflation that might be of interest to policy-makers, do not feature in the model. Given this, we implement a closed-economy New Keynesian DSGE model-based procedure which includes variables that do not explicitly appear in the model. We estimate such a model using an in-sample covering 1971Q2 to 1999Q4 and generate recursive forecasts over 2000Q1 to 2011Q4. The hybrid DSGE performs extremely well in forecasting inflation variables (both core and nonmodelled) in comparison with forecasts reported by other models such as AR(1). In addition, based on ex-ante forecasts over the period 2012Q1–2013Q4, we find that the DSGE model performs better than the AR(1) counterpart in forecasting actual GDP deflator inflation.
    Keywords: DSGE model; Inflation; Core variables; Noncore variables
    JEL: C11 C32 C53 E27 E47
    Date: 2015
  3. By: David Rezza Baqaee (Department of Economics, London School of Economics (LSE); Centre for Macroeconomics (CFM))
    Abstract: Household expectations of the in ation rate are much more sensitive to inflation than to disinflation. To the extent that workers have bargaining power in wage determination, this asymmetry in their beliefs can make wages respond quickly to inflationary forces but sluggishly to deflationary ones. I microfound asymmetric household expectations using ambiguity-aversion: households, who do not know the quality of their information, overweight inflationary news since it reduces their purchasing power, and underweight deflationary news since it increases their purchasing power. I embed asymmetric beliefs into a general equilibrium model and show that, in such a model, monetary policy has asymmetric effects on employment, output, and wage inflation in ways consistent with the data. Although wages are downwardly rigid in this environment, monetary policy need not have a bias towards using inflation to grease the wheels of the labor market.
    Date: 2015–12
  4. By: Hubert, Paul (OFCE — Sciences Po.); Maule, Becky (Bank of England)
    Abstract: How do private agents interpret central bank actions and communication? To what extent do the effects of monetary shocks depend on the information disclosed by the central bank? This paper investigates the effect of monetary shocks and shocks to the Bank of England’s inflation and output projections on the term structure of UK private inflation expectations, to shed light on private agents’ interpretation of central bank signals about policy and the macroeconomic outlook. We proceed in three steps. First, we correct our dependent variables — market-based inflation expectation measures — for potential risk, liquidity and inflation risk premia. Second, we extract exogenous shocks following Romer and Romer (2004)’s identification approach. Third, we estimate the linear and interacted effects of these shocks in an empirical framework derived from the information frictions literature. We find that private inflation expectations respond negatively to contractionary monetary policy shocks, consistent with the usual transmission mechanism. In contrast, we find that inflation expectations respond positively to positive central bank inflation or output projection shocks, suggesting private agents put more weight on the signal that they convey about future economic developments than about the policy outlook. However, when shocks to central bank inflation projections are interacted with shocks to output projections of the same sign, they have no effect on inflation expectations, suggesting that private agents understand the functioning of the central bank reaction function and put more weight on the policy signal when there is no trade-off. We also find that the effects of contractionary monetary shocks are amplified when they are accompanied by positive shocks to central bank inflation projections. The co-ordination of policy decisions and macroeconomic projections thus appears important for managing inflation expectations.
    Keywords: Monetary policy; information processing; signal extraction; market-based inflation expectations; central bank projections; real-time forecasts
    JEL: E52 E58
    Date: 2016–01–22
  5. By: Giulia Ghiani (Politecnico di Milano); Max Gillman (Department of Economics, University of Missouri-St. Louis); Michal Kejak (CERGE-EI Prague)
    Abstract: Using US post-war data we …find evidence of cointegration between the short term interest rate, inflation, unemployment and money supply growth. Rolling trace tests add robustness by showing lack of cointegration when money or one of the other variables are omitted. Signi…cant non-linear dynamics are found with three endogenous Markov-switching regimes, interpreted as contractions, expansions, and "unconventional" periods. We interpret the results in terms of a persistent liquidity effect with distinct dynamics over time as regimes shift across normal business cycle fluctuations and rare events.
    Keywords: Liquidity effect, money supply, inflation, cointegration, Markov-Switching VECM.
    JEL: C32 E40 E52
    Date: 2016–01
  6. By: Firmin Doko Tchatoka; Nicolas Groshenny; Qazi Haque; Mark Weder
    Abstract: This paper estimates a New Keynesian model of the U.S. economy over the period following the 2001 slump, a period for which the adequacy of monetary policy is intensely debated. To relate to this debate, we consider three alternative empirical inflation series in the estimation. When using CPI or PCE, we find some support for the view that the Federal Reserve's policy was extra easy and may have led to equilibrium indeterminacy. Instead, when measuring inflation with core PCE, monetary policy appears to have been reasonable and sufficiently active to rule out indeterminacy. We then relax the assumption that inflation in the model is measured by a single indicator. We re-formulate the artificial economy as a factor model where the theory's concept of inflation is the common factor to the three empirical inflation series. We find that CPI and PCE provide better indicators of the latent concept while core PCE is less informative. Again, this procedure cannot dismiss indeterminacy.
    Keywords: Great Deviation, Indeterminacy, Taylor Rules.
    JEL: E32 E52 E58
    Date: 2016–01
  7. By: Farley Grubb (Department of Economics, University of Delaware)
    Abstract: I decompose Virginia's paper money into expected real-asset present value, risk discount, and transaction premium or "moneyness" value. The value of Virginia's paper money was determined primarily by its real-asset present value. The transaction premium was small. Positive risk discounts occurred in years when treasurer malfeasance was suspected. Virginia's paper money was not a fiat currency, but a barter asset, with just enough "moneyness" value to make it the preferred medium of exchange for local transactions. Compared with alternative models, my decomposition model of inside monies is superior conceptually and statistically for explaining the performance of American colonial paper monies.
    Keywords: asset money, bills of credit, counterfeiting, fiat currency, quantity theory of money, transaction premium, treasury notes, zero-coupon bonds
    JEL: E42 E51 H60 G12 N12 N22
    Date: 2016
  8. By: Gabriel Gomes
    Abstract: This paper investigates to which extent dollar real exchange rate movements have a nonlinear impact on the short term dynamics of the real exchange rate of oil exporting economies. Estimating a panel cointegrating model for 11 OPEC and 5 major oil exporting countries over the 1980-2014 period, we find evidence to support their currencies can be considered as oil price driven. In fact, on the long run a 10% increase in the price of oil leads to a 2.1% appreciation of their real exchange rate. To analyse how dollar movements interact with the real exchange rate of those countries in the short run, we then estimate a panel smooth transition regression model. Results show that the real exchange rate of oil exporting economies is influenced by oil price fluctuations only if the dollar appreciation is lower than 2.6%. After the dollar appreciates beyond this threshold, their currencies are rather affected by other variables.
    Keywords: Oil price, Oil currencies, Oil exporting, Non-linearities.
    JEL: C33 F31 Q43
    Date: 2016
  9. By: Van Zandweghe, Willem (Federal Reserve Bank of Kansas City); Hirose, Yasuo; Kurozumi, Takushi
    Abstract: What caused the U.S. economy's shift from the Great Inflation era to the Great Moderation era? {{p}} A large literature shows that the shift was achieved by the change in monetary policy from a passive to an active response to inflation. However, Coibion and Gorodnichenko (2011) attribute the shift to a fall in trend inflation along with the policy change, based on a solely estimated Taylor rule and a calibrated staggered-price model. We estimate the Taylor rule and the staggered-price model jointly and demonstrate that the change in monetary policy responses to inflation and other variables suffices for explaining the shift.
    Keywords: Equilibrium indeterminacy; Monetary policy; Inflation
    JEL: C11 E31 E52
    Date: 2015–12–01
  10. By: Ratti, Ronald (School of Business, University of Western Sydney); Vespignani, Joaquin (Tasmanian School of Business & Economics, University of Tasmania)
    Abstract: We construct a GFAVAR model with newly released global data from the Federal Reserve Bank of Dallas to investigate the drivers of official/policy interest rate. We find that 62% of movement in global official/policy interest rates is attributed to changes in global monetary aggregates (21%), oil prices (18%), global output (15%) and global prices (8%). Global official/policy interest rates respond significantly to increases in global output and prices and oil prices. Increases in global policy interest rates are associated with reductions in global prices and global output. The response in official/policy interest rate for the emerging countries is more to global inflation, for the advanced countries (excluding the U.S.) is more to global output, and for the U.S. is to both global output and inflation.
    Keywords: Global interest rate, global monetary aggregates, oil prices, GFAVAR
    JEL: E44 E50 Q43
    Date: 2015
  11. By: Yoshiyuki Nakazono (Yokohama City University)
    Abstract: Using a wide range of survey data on Japanese inflation outlook, this study examines two types of disagreements regarding inflation expectations and accordingly, presents monetary policy implications. The analysis reveals three key findings. First, information rigidities are determinants of cross-sectional disagreement among not only households but also experts. Second, survey data indicate dissonance regarding the long-run forecasts of inflation rates between the central bank and economic entities, despite the adoption of a 2% inflation target in January 2013 and the introduction of an unconventional monetary policy (QQE) in April 2013. While short- and mid-term inflation forecasts by households are generally close to the 2% target rate, long-term forecasts fail to converge to the target level. Finally, under the two types of disagreements, the private sector's perception about a monetary policy stance does not significantly differ before and after the introduction of the inflation target and QQE. These findings suggest that the policy regime of the monetary policy dose not abruptly change on basis of perception; that is, there is no upheaval in the agentsf perception about a monetary policy stance enough to induce a regime change.
    Keywords: disagreement; forecast data; inflation expectations; inflation target; information rigidities; unconventional monetary policy
    JEL: E31 E44 E52 E58
    Date: 2016–01–14
  12. By: Yamin Ahmad (Department of Economics, University of Wisconsin-Whitewater); Olena Mykhaylova (Department of Economics, College of the Holy Cross)
    Abstract: Standard closed-economy DSGE models have difficulty replicating the persistence of inflation. We use a multicountry dataset to establish some empirical regularities on persistence and volatility of aggregate consumer prices for 161 countries. We find persistence to be high (low) on average for developed (developing) countries, while volatility is low (high) on average for the same country groupings. We then employ a two-country DSGE framework to investigate the extent to which structural open economy features, such as incomplete exchange rate pass-through, the existence of nontraded goods, and international financial market incompleteness, can help in replicating the persistence and volatility of consumer prices. Our simulation results indicate that nominal price inertia in both wholesale and retail sectors has the potential to reconcile both the persistence and volatility of simulated inflation series with the data. When we simulate inflation series in the version of the model calibrated to a developing-developed country pair by allowing for different price contract durations and export currency choices, we are able to replicate the empirical differences reported in the first part of the paper.
    Keywords: Inflation dynamics, persistence, volatility, DSGE modeling, simulations
    JEL: E31 F41 C22
    Date: 2015–09
  13. By: Hudson, Kerry (Tasmanian School of Business & Economics, University of Tasmania); Vespignani, Joaquin (Tasmanian School of Business & Economics, University of Tasmania)
    Abstract: This investigation aims to explain and quantify the deviations of the Taylor Rule. A novel three-step econometric procedure designed to reflect the data-rich environment in which central banks operate is proposed using information for 229 macroeconomic series. This procedure can be applied to data for any economy with inflation targeting monetary rule. Our application with Australian data shows that approximately 65% of Australia‘s deviation from the Taylor Rule can be explained systematically, with international factors and a domestic factor accounting for 41.9% and 22.5% respectively of the total variation in deviation from the rule. Australian deviation from the Taylor Rule is also associated with the deviation of the US´s Taylor Rule, indicating that the Reserve Bank of Australia appears to be following an international monetary policy trend set forth by the world‘s largest economy.
    Keywords: Taylor Rule, Monetary Policy, Small Open Economy
    JEL: E40 E52 E50
    Date: 2015
  14. By: Michal Jurek (Department of Money and Banking, Poznan University of Economics); Pawel Marszalek (Department of Money and Banking, Poznan University of Economics)
    Abstract: The global financial crisis has cast doubt on existing within the mainstream economics consensus on monetary policy. So called ‘New Consensus Monetary Policy’ appeared to lack many important operational, political and institutional issues, especially with regard to consistency of the monetary-fiscal policy mix within the eurozone, as well as with reference to policy mix in the individual member countries. When crisis emerged, problems with monetary- fiscal coordination turned to be more complicated. The crisis has proved also inefficiency of the “one size fits all” monetary policy, implemented by the ECB. The divergences of economic performance, business cycles, and financial development – all attending the financialisation process – have become eye striking among the EMU members. Extremely low inflation rates have brought new challenges into focus resulting i.a. from the zero bound on nominal short-term interest rates. Taking this into consideration, the aim of this paper is to investigate the ways in which the monetary and financial policies of the ECB can be conducted in a low interest rates environment. Undertaken analysis allows understanding the strengths and weaknesses of these policies. It also creates a background for formulating alternative policy proposals aimed at dealing with divergence and disparities between EU member countries
    Keywords: central banking, financial system, monetary policy, policy coordination, banking union, euro zone
    JEL: E42 E58 E63
    Date: 2015–09–01
  15. By: Tallman, Ellis W. (Federal Reserve Bank of Cleveland); Gorton, Gary (Yale University and NBER)
    Abstract: How did pre-Fed banking crises end? How did depositors’ beliefs change? During the National Banking Era, 1863-1914, banks responded to the severe panics by suspending convertibility; that is, they refused to exchange cash for their liabilities (checking accounts). At the start of the suspension period, the private clearing houses cut off bank-specific information. Member banks were legally united into a single entity by the issuance of emergency loan certificates, a joint liability. A new market for certified checks opened, pricing the risk of clearing house failure. Certified checks traded at a discount to cash (a currency premium) in a market that opened during the suspension period. Confidence was restored when the currency premium reached zero.
    Keywords: Financial crisis; bank runs; banking panic; clearing house; bank-specific information; currency premium
    JEL: E44 E58 N21
    Date: 2016–01–14
  16. By: José Jorge (Faculdade de Economia, Universidade do Porto, cef.up)
    Abstract: We identify the main changes in the global financial system over the last decade, pointing out the fragilities of the existing banking regulation. We then propose a variety of responses to the new challenges, like limiting banks’ non-core liabilities, introducing contingent capital and risk-weights that account for systemic risk, combining monetary policy with policies that promote financial stability, improving international cooperation regarding liquidity facilities, integrating regulation on deposit insurance and resolution of bank default. We point out some unexpected difficulties which threaten the reform agenda, and conclude with a warning: the business cycle matters when assessing the cost of new regulations, and imposing tighter rules that will create a credit crunch during a recession is questionable.
    Keywords: Keywords: Financial regulation
    JEL: G28
    Date: 2016–01
  17. By: Tomáš Heryán (Department of Finance and Accounting, School of Business Administration, Silesian University); Panayiotis G. Tzeremes (Department of Economics, University of Thessaly); Roman Matousek (University of Kent, Kent Business School)
    Abstract: This study focuses on the bank lending channels and transmission mechanisms of monetary policy in European Union (EU) countries. In accordance with previous empirical studies, we deploy the generalized method of moments (GMM) with pooled annual data. We examine the period from 1999 to 2012. We extend the current research on the transmission mechanisms of monetary policy in the following way: first, we compare the differences between the ‘old’ Economic Monetary Union (EMU) and ‘new’ EU countries. Second, we examine the interaction terms between bank characteristics and both monetary policy indicators. In particular, we examine the impact of short-term interest rates and monetary aggregate M2 on bank behaviour. Assuming a more obvious transmission mechanism, we argue that, in the group of ‘old’ EMU countries, the lending channel is affected by smaller banks that are less liquid or are strongly capitalized. For ‘new’ EU countries, we find similar results, i.e., the lending channel affects smaller banks. However, in terms of liquidity and capital adequacy and assuming a more obvious transmission mechanism, we find an opposing result. Those countries’ lending channel is affected by smaller banks with higher levels of liquidity and lower bank capital. Third, we describe how transmission mechanisms changed during the crises period.
    Keywords: lending channel, transmission mechanism, crisis times, old EMU and new EU countries
    JEL: C58 G01 G21 G28
    Date: 2016–01–04
  18. By: Ranaldo, Angelo; Rupprecht, Matthias; Wrampelmeyer, Jan
    Abstract: We provide the first comprehensive theoretical model for money markets encompassing unsecured and secured funding, asset markets, and central bank policy. Capital-constrained, leveraged banks invest in assets and raise short-term funds by borrowing in the unsecured and secured money markets. Our model derives how funding liquidity across money markets is related, explains how a shock to asset values can lead to mutually reinforcing liquidity spirals in both money markets, and shows how borrowers' flight-to-safety and risk-seeking behavior impacts their liability structure. We derive the social optimum and show which combination of conventional and unconventional monetary policies and regulatory measures can reduce money market fragility.
    Date: 2016–01
  19. By: Lilit Popoyan (Institute of Economics, (LEM)); Mauro Napoletano (OFCE Sciences Po and Skema Businnes School); Andrea Roventini (Institute of Economics, (LEM))
    Abstract: We develop an agent-based model to study the macroeconomic impact of alternative macroprudential regulations and their possible interactions with dierent monetary policy rules.The aim is to shed light on the most appropriate policy mix to achieve the resilience of the banking sector and foster macroeconomic stability. Simulation results show that a triple- mandate Taylor rule, focused on output gap, inflation and credit growth, and a Basel III prudential regulation is the best policy mix to improve the stability of the banking sector and smooth output fluctuations. Moreover, we consider the different levers of Basel III and their combinations. We find that minimum capital requirements and counter-cyclical capital buffers allow to achieve results close to the Basel III first-best with a much more simplifiedregulatory framework. Finally, the components of Basel III are non-additive: the inclusion of an additional lever does not always improve the performance of the macro prudential regulation
    Keywords: Macro-prudential policy, Basel III regulation, financial stability, monetary policy, agent-based computational economics.
    JEL: C63 E52 E6 G01 G21 G28
    Date: 2015–12
  20. By: Stefan Angrick
    Abstract: This paper examines the monetary policy constraints facing economies on a fixed peg or managed float regime, contrasting the Mundell-Fleming Trilemma view against the Compensation view commonly found at central banks. While the former holds that foreign exchange inflows and outflows affect the domestic money base, constraining monetary policy under non-floating regimes unless capital controls are adopted, the latter purports that endogenous sterilisation of foreign exchange flows invalidates this trade-off. The predictions of both theories are empirically evaluated for five East Asian economies using central bank balance sheets, vector error correction models and impulse response functions. The findings indicate that the dynamics for the economies studied correspond more closely to the Compensation view than the Trilemma view, suggesting that it is a sustained loss of foreign ex-change reserves that imposes a relevant constraint on autonomy rather than the adoption of a non-floating exchange rate regime.
    Keywords: central banking, balance sheets, monetary policy, exchange rates, policy autonomy
    JEL: E51 E58 F41
    Date: 2015
  21. By: Sushant ACHARYA; Julien BENGUI
    Abstract: This paper explores the role of capital flows and exchange rate dynamics in shaping the global economy's adjustment in a liquidity trap. Using a multi-country model with nominal rigidities, we shed light on the global adjustment since the Great Recession, a period where many advanced economies were pushed to the zero bound on interest rates. We establish three main results: (i) When the North hits the zero bound, downstream capital flows alleviate the recession by reallocating demand to the South and switching expenditure toward North goods. (ii) A free capital flow regime falls short of supporting efficientent demand and expenditure reallocations and induces too little downstream (upstream) flows during (after) the liquidity trap. (iii) When it comes to capital flow management, individual countries' incentives to manage their terms of trade conflict with aggregate demand stabilization and global efficiency. This underscores the importance of international policy coordination in liquidity trap episodes.
    Keywords: Capital flows, international spillovers, liquidity traps, uncovered interest parity, capital flow management, policy coordination, optimal monetary policy
    JEL: E52 F32 F42 F44
    Date: 2015

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