nep-mon New Economics Papers
on Monetary Economics
Issue of 2016‒07‒23
38 papers chosen by
Bernd Hayo
Philipps-Universität Marburg

  1. Fiscal implications of central bank balance sheet policies By Orphanides, Athanasios
  2. Central Bank Collateral Frameworks By Kjell G. NYBORG
  3. Monetarism, Indeterminacy and the Great Inflation By Qureshi, Irfan
  4. Unconventional monetary policies: a re-appraisal By Claudio Borio; Anna Zabai
  5. Exchange Rates and Monetary Policy Uncertainty By Andrea Vedolin; Alireza Tahbaz-Salehi; Philippe Mueller
  6. Limited Commitment and the Demand for Money By Aleksander Berentsen
  7. Currency Wars, Coordination, and Capital Controls By Olivier Blanchard
  8. Reemergence of Islamic Monetary Economics: A Review of Theory and Practice By Uddin, Md Akther
  9. Macroeconomic effectiveness of non-standard monetary policy and early exit. A model-based evaluation By Lorenzo Burlon; Andrea Gerali; Alessandro Notarpietro; Massimiliano Pisani
  10. Monetary Policy under the Microscope: Intra-bank Transmission of Asset Purchase Programs of the ECB By Cycon, Lisa; Koetter, Michael
  11. A Possible Explanation of the ‘Exchange Rate Disconnect Puzzle’: A Common Solution to Three Major Macroeconomic Puzzles? By Charles Yuji Horioka; Nicholas Ford
  12. Toward a Unified Framework of Credit Creation By Susanne VON DER BECKE; Didier SORNETTE
  13. The Information Contained in Money Market Interactions: Unsecured vs. Collateralized Lending. By A. Bernales; M. di Filippo
  14. Follow the money: The monetary roots of bubbles and crashes By Monique JEANBLANC; Didier SORNETTE
  15. Regional Banking Instability and FOMC Voting By Eichler, Stefan; Lähner, Tom; Noth, Felix
  16. A “reverse Robin Hood”? The distributional implications of non-standard monetary policy for Italian households By Marco Casiraghi; Eugenio Gaiotti; Lisa Rodano; Alessandro Secchi
  17. A Double Counting Problem in the Theory of Rational Bubbles By Hajime Tomura
  18. Time-varying Volatility, Financial Intermediation and Monetary Policy By Eickmeier, Sandra; Metiu, Norbert; Prieto, Esteban
  19. Extracting the Information Shocks from the Bank of England Inflation Density Forecasts By Carlos Diaz Vela
  20. Does a Higher Frequency of Micro-level Price Changes Matter for Macro Price Stickiness?: Assessing the Impact of Temporary Price Changes By Yoshiyuki Kurachi; Kazuhiro Hiraki; Shinichi Nishioka
  21. The Risky Steady State and the Interest Rate Lower Bound By Taisuke Nakata; Sebastian Schmidt; Timothy Hills
  22. Payment Instruments, Enforceability and Development: Evidence from Mobile Money Technology By Thorsten Beck; Ravindra Ramrattan; Haki Pamuk; Burak R. Uras
  23. Liquidity Traps, Capital Flows By Julien Bengui; Sushant Acharya
  24. Monetary-Fiscal Policy Interaction and Fiscal Inflation: A Tale of Three Countries By Kliem, Martin; Kriwoluzky, Alexander; Sarferaz, Samad
  25. Monetary Policy, Financial Conditions, and Financial Stability By Adrian, Tobias; Liang, Nellie
  26. Monetary Policy Through Production Networks: Evidence from the Stock Market By Michael Weber; Ali Ozdagli
  27. Macroeconomic trade effects of vehicle currencies: Evidence from 19th century China By El-Shagi, Makram; Zhang, Lin
  28. Exit Expectations and Debt Crises in Currency Unions By Kriwoluzky, Alexander; Müller, Gernot J.; Wolf, Martin
  29. Toward Removal of the Swiss Franc Cap: Market Expectations and Verbal Interventions By Mirkov, Nikola; Pozdeev, Igor; Soderlind, Paul
  30. Monetary policy, the financial cycle and ultra-low interest rates By Mikael Juselius; Claudio Borio; Piti Disyatat; Mathias Drehmann
  31. QE in the future: the central bank's balance sheet in a financial crisis By Ricardo Reis
  32. Finding the equilibrium real interest rate in a fog of policy deviations By Taylor, John B.; Wieland, Volker
  33. What We Learn from China's Rising Shadow Banking: Exploring the Nexus of Monetary Tightening and Banks' Role in Entrusted Lending By Tao Zha; Jue Ren; Kaiji Chen
  34. On the optimality of bank competition policy By Ioannis G. Samantas
  35. “The German Saver” and the Low Policy Rate Environment By Gropp, Reint; Saadi, Vahid
  36. Minimum quantitative requirements for commercial lending with interest rate caps: The case of Argentina By Mario Ravioli
  37. Fiscal and Monetary Policy Interactions in Pakistan Using a Dynamic Stochastic General Equilibrium Framework By Shahid, Muhammad; Qayyum, Abdul; Shahid, Waseem
  38. Financial Vulnerabilities, Macroeconomic Dynamics, and Monetary Policy By Aikman, David; Lehnert, Andreas; Liang, J. Nellie; Modugno, Michele

  1. By: Orphanides, Athanasios
    Abstract: Under ordinary circumstances, the fiscal implications of central bank policies tend to be seen as relatively minor and escape close scrutiny. The global financial crisis of 2008, however, demanded an extraordinary response by central banks which brought to light the immense power of central bank balance sheet policies as well as their major fiscal implications. Once the zero lower bound on interest rates is reached, expanding a central bank's balance sheet becomes the central instrument for providing additional monetary policy accommodation. However, with interest rates near zero, the line separating fiscal and monetary policy is blurred. Furthermore, discretionary decisions associated with asset purchases and liquidity provision, as well as with lender-of-last-resort operations benefiting private entities, can have major distributional effects that are ordinarily associated with fiscal policy. In the euro area, discretionary central bank decisions can have immense distributional effects across member states. However, decisions of this nature are incompatible with the role of unelected officials in democratic societies. Drawing on the response to the crisis by the Federal Reserve and the ECB, this paper explores the tensions arising from central bank balance sheet policies and addresses pertinent questions about the governance and accountability of independent central banks in a democratic society.
    Keywords: quantitative easing,lender of last resort,monetary financing,loss sharing,central bank independence,central bank accountability,central bank governance,rules vs discretion
    JEL: E52 E58 E61 G01 H12
    Date: 2016
  2. By: Kjell G. NYBORG (University of Zurich, Swiss Finance Institute, and CEPR)
    Abstract: This paper seeks to inform about a feature of monetary policy that is largely overlooked, yet occupies a central role in modern monetary and financial systems, namely central bank collateral frameworks. Their importance can be understood by the observation that the money at the core of these systems, central bank money, is injected into the economy on terms, not defined in a market, but by the collateral frameworks and interest rate policies of central banks. Using the collateral framework of the Eurosystem as a basis of illustration and case study, the paper brings to light the functioning, reach, and impact of collateral frameworks. A theme that emerges is that collateral frameworks may have distortive effects on financial markets and the wider economy. They can, for example, bias the private provision of real liquidity and thereby also the allocation of resources in the economy as well as contribute to financial instability. Evidence is presented that the collateral framework in the euro area promotes risky and illiquid collateral and, more generally, impairs market forces and discipline. The paper also emphasizes the important role of ratings and government guarantees in the Eurosystem’s collateral framework.
    Keywords: central bank, banks, collateral, money, liquidity, monetary system, financial system, monetary policy, ratings, guarantees, haircuts, Eurosystem, ECB
    JEL: E58 E42 E52 E44 G10 G01 G21
  3. By: Qureshi, Irfan (Department of Economics, University of Warwick)
    Abstract: I study whether money growth targeting leads to indeterminacy in the price level. I extend a conventional framework and show that the price level may be indeterminate if the central bank's response to money growth is weak even when the Taylor principle is satisfied. Based on this reasoning, policy coefficients estimated using novel FOMC meeting-level data propose a new channel of the policy mistakes that may have triggered indeterminacy during the Great Inflation. I show that 'passively' pursuing money growth objectives generates significantly larger welfare loss compared to alternative specifications of the monetary policy rule but 'active' money growth targeting drastically minimizes welfare and loss. I confirm the relationship between money and growth objectives and macroeconomic volatility using cross-country evidence.
    Keywords: Money Growth Objectives, Time-Varying Policy, Indeterminacy, Macroeconomic Volatility
    JEL: I30 I31
    Date: 2016
  4. By: Claudio Borio; Anna Zabai
    Abstract: We explore the effectiveness and balance of benefits and costs of so-called "unconventional" monetary policy measures extensively implemented in the wake of the financial crisis: balance sheet policies (commonly termed "quantitative easing"), forward guidance and negative policy rates. Our objective is to provide the reader with a helpful entry point to the burgeoning empirical literature and with a specific perspective on the complex issues involved. We reach three main conclusions: there is ample evidence that, to varying degrees, these measures have succeeded in influencing financial conditions even though their ultimate impact on output and inflation is harder to pin down; the balance of the benefits and costs is likely to deteriorate over time; and the measures are generally best regarded as exceptional, for use in very specific circumstances. Whether this will turn out to be the case, however, is doubtful at best and depends on more fundamental features of monetary policy frameworks. In the paper, we also provide a critique of prevailing analyses of "helicopter money" and explore in more depth the role of negative nominal interest rates in our fundamentally monetary economies, highlighting some risks.
    Keywords: unconventional monetary policies, balance sheet policies, forward guidance, negative interest rates
    Date: 2016–07
  5. By: Andrea Vedolin (London School of Economics); Alireza Tahbaz-Salehi (Columbia Business School); Philippe Mueller (London School of Economics)
    Abstract: We document that a trading strategy that is short the U.S. dollar and long other currencies exhibits significantly larger excess returns on days with scheduled Federal Open Market Committee (FOMC) announcements. We also show that these excess returns (i) are higher for currencies with higher interest rate differentials vis-a`-vis the U.S.; (ii) increase with uncertainty about monetary policy; and (iii) intensify when the Federal Reserve adopts a policy of monetary easing. We interpret these excess returns as a compensation for monetary policy uncertainty within a parsimonious model of constrained financiers who intermediate global demand for currencies.
    Date: 2016
  6. By: Aleksander Berentsen (University of Basel)
    Abstract: Understanding money demand is important for our comprehension of macroeconomics and monetary policy. Its instability has made this a challenge. Common explications for the instability are financial regulations and financial innovations that shift the money demand function. We provide a complementary view by showing that a model where borrowers have limited commitment can significantly improve the fit between the theoretical money demand function and the data. Limited commitment can also explain why the ratio of credit to M1 is currently so low, despite that nominal interest rates are at their lowest recorded levels. In a low interest rate environment, incentives to default are high and so credit constraints bind tightly, which depresses credit activities.
    Date: 2016
  7. By: Olivier Blanchard
    Abstract: The strong monetary policy actions undertaken by advanced economies' central banks have led to complaints of “currency wars” by some emerging market economies, and to widespread demands for more macroeconomic policy coordination. This paper revisits these issues. It concludes that, while advanced economies' monetary policies indeed have had substantial spillover effects on emerging market economies, there was and still is little room for coordination. It then argues that restrictions on capital flows were and are a more natural instrument for advancing the objectives of both macro and financial stability.
    JEL: F3 F33 F42
    Date: 2016–07
  8. By: Uddin, Md Akther
    Abstract: This paper reviews important theoretical and empirical literatures on Islamic monetary economics. The reemergence of Islamic economics and finance in the twenty first century has motivated the issue. The prohibition of Riba has imposed challenges on Islamic economists to come up with the viable alternatives to achieve Islamic monetary policy goals. Equity based profit and loss sharing instruments have been proposed for conducting open market operations in an interest-free economy. Moreover, a number of conventional monetary instruments are still available: changes in reserve requirements, overall and selective controls on credit flows, changes in the monetary base through management of currency issue, and moral suasion. Theoretically, the Central Bank can achieve desired goals by manipulating money supply and profit-sharing ratios, also, the evidence from empirical literature suggests money demand tend to be more stable in an interest-free economy. Whether monetary transmission works through Islamic banking channel is yet controversial but the literature is growing. These findings are not surprising as majority Muslim countries lack sustainable and equitable economic growth; suffer from higher inflation and unemployment, little or no monetary freedom due to fixed exchange rate regime, shallow financial markets and strict capital control. A number of policy implications have been proposed.
    Keywords: Islamic monetary policy, interest-free economy, Islamic economics, monetary policy instruments
    JEL: N1
    Date: 2016–04–27
  9. By: Lorenzo Burlon (Bank of Italy); Andrea Gerali (Bank of Italy); Alessandro Notarpietro (Bank of Italy); Massimiliano Pisani (Bank of Italy)
    Abstract: This paper evaluates the macroeconomic effects of the Eurosystem’s expanded Asset Purchase Programme (APP) under alternative strategies as regards (i) the unwinding of asset positions accumulated under the APP and (ii) communication of current and future paths of the policy rate (forward guidance). To this purpose, we simulate a New Keynesian model of the euro area. Our results are as follows. First, as the monetary authority brings forward the selling of long-term sovereign bonds, the stimulus from the APP on inflation and economic activity is correspondingly reduced. In particular, if the bonds are sold immediately after purchases end, the impact on inflation is negligible. Second, if the monetary authority communicates that it will hold the policy rate constant for one year instead of two, the APP is less effective, and the inflation increase is halved. Third, the subdued impact of the APP associated with an early exit from the programme delays the return to a standard monetary policy regime.
    Keywords: DSGE models, open-economy macroeconomics, non-standard monetary policy, zero lower bound
    JEL: E43 E52 E58
    Date: 2016–07
  10. By: Cycon, Lisa; Koetter, Michael
    Abstract: With a unique loan portfolio maintained by a top-20 universal bank in Germany, this study tests whether unconventional monetary policy by the European Central Bank (ECB) reduced corporate borrowing costs. We decompose corporate lending rates into refinancing costs, as determined by money markets, and markups that the bank is able to charge its customers in regional markets. This decomposition reveals how banks transmit monetary policy within their organizations. To identify policy effects on loan rate components, we exploit the co-existence of eurozone-wide security purchase programs and regional fiscal policies at the district level. ECB purchase programs reduced refinancing costs significantly, even in an economy not specifically targeted for sovereign debt stress relief, but not loan rates themselves. However, asset purchases mitigated those loan price hikes due to additional credit demand stimulated by regional tax policy and enabled the bank to realize larger economic margins.
    Keywords: unconventional monetary policy,asset purchase programs,ECB,interest rate channel,internal capital markets
    JEL: G01 G21 E42 E43 E52
    Date: 2015
  11. By: Charles Yuji Horioka; Nicholas Ford
    Abstract: Meese and Rogoff (1983) and subsequent studies find that economic fundamentals are apparently not able to explain exchange rate movements, but we argue that this so-called “Exchange Rate Disconnect Puzzle” arose because researchers such as Meese and Rogoff (1983) did not use the right fundamentals and because they did not allow for the forward-looking nature of exchange rate determination. Further, because they apparently were not aware that financial markets by themselves could not equalise interest rates across countries, they did not properly appreciate that the exchange rate is strongly influenced by agents’ expectations of aggregated differences in local returns. Thus, we believe that the same underlying explanation provided by Ford (2015) and Ford and Horioka (2016a and 2016b) for the Feldstein-Horioka (1980) Puzzle and the PPP Puzzle--namely that financial markets alone cannot achieve net transfers of financial capital and cannot equalise real interest rates across countries--also helps explain why previous attempts to connect changes in the exchange rate to economic fundamentals have not been successful, and so can also be said to contribute to solving the Exchange Rate Disconnect Puzzle.
    Date: 2016–07
  12. By: Susanne VON DER BECKE (ETH Zurich); Didier SORNETTE (ETH Zurich and Swiss Finance Institute)
    Abstract: We identify the origin of the contradicting perspectives on credit creation offered by Austrian, Mainstream and Post Keynesian economists as the neglect of the primacy of such assets as goods, properties and securities, which always pre-exist any transaction and loan. We develop a unified framework of credit creation based on three leading variables: (i) the amount of collateral assets accepted, (ii) the level of leverage and (iii) the level of trust and confidence. As credit expands along these dimensions, the money supply becomes more endogenous and the financial system more vulnerable to internally generated instabilities manifested as booms and busts. Empirical evidence demonstrates a significant shift in the components of bank balance sheets and a decoupling of bank assets from deposits since the mid-1980s, marking a shift from credit creation within traditional fractional reserve banking to "securitized-fractional reserve banking". Applying our framework of credit creation to the global financial crisis, we argue that growth over recent decades has been increasingly financed by credit creation and that the subprime crisis was both a signature and only one possible trigger in an increasingly unstable financial system. As trust began to recede, so did leverage and the amount of assets accepted as collateral, leading to a contraction in credit and to liquidity spirals. Subsequent measures by policymakers can be interpreted as attempts to avoid further contraction along these three variables.
    Keywords: Credit creation, Financial crises, Leverage, Liquidity, Confidence
    JEL: B53 E12 E13 E51 G01
  13. By: A. Bernales; M. di Filippo
    Abstract: We study the information contained in the interaction between unsecured and collateralized money markets. We present a model to capture probabilities of migration between lending segments, and probabilities of liquidity shocks (which move the trading-activity in both markets in the same direction). We apply our model to a novel dataset of European interbank-lending, and we show that useful information is obtained from money market interactions. We report that information captured by our model describes historical macroeconomic and liquidity events in the European banking system, and explains interest rate spreads after controlling for different measures commonly used to characterize money markets. In particular, an increase in 10% of the probability of migration from the Unsecured to Secured Market is associated to a 20% percent increase in the spread between Unsecured and Secured rates.
    Keywords: Money markets, collateralized lending, unsecured lending, equilibrium model, structural model, systemic risk, liquidity.
    JEL: E42 E58 G21 G28
    Date: 2016
  14. By: Monique JEANBLANC (University of St. Gallen and Swiss Finance Institute); Didier SORNETTE (ETH Zurich and Swiss Finance Institute)
    Abstract: We propose a reduced form model for the Minskian dynamics of liquidity and of asset prices in terms of the so-called financial accelerator mechanism. In a nutshell, credit creation is driven by the market value of the financial assets employed as collateral in the bank loans. This leads to a self-reinforcing feedback between financial prices and liquidity that we model by coupled non–linear stochastic processes. We show that the resulting dynamics are characterized by a transient super- exponential growth qualifying a bubble regime. Unchecked, this would lead to a finite time singularity (FTS). The underlying singularity expresses the unsustainable dynamics of the corresponding econ- omy and announces a regime change, such as a crash. We propose to describe the dynamics of the crisis by the same coupled non–linear stochastic process with inverted signs, i.e., nonlinear negative feedbacks of value and money on their growth rates. Casting the financial accelerator dynamics into a simple macroeconomic model, we show that the cycle of booms and bursts of financial assets and liquidity determines economic recessions in the form of increasing aggregate default rates and decreas- ing GDP. Finally, by exploiting the implications of the proposed model on the dynamics of financial asset returns, we introduce a generalized GARCH process, called FTS-GARCH, that can provide an early warning identification of bubbles. Estimating the FTS-GARCH on well-known historical bubble episodes suggest the possibility to diagnose in real-time the presence of bubbles in financial time series.
    Keywords: Minskian dynamics, financial bubbles, positive feedback, financial accelerator, general- ized FTS-GARCH
    JEL: G01 G17 C53
  15. By: Eichler, Stefan; Lähner, Tom; Noth, Felix
    Abstract: This study analyzes if regionally affiliated Federal Open Market Committee (FOMC) members take their districts' regional banking sector instability into account when they vote. Considering the period from 1978 to 2010, we find that a deterioration in a district's bank health increases the probability that this district's representative in the FOMC votes to ease interest rates. According to member-specific characteristics, the effect of regional banking sector instability on FOMC voting behavior is most pronounced for Bank presidents (as opposed to governors) and FOMC members who have career backgrounds in the financial industry or who represent a district with a large banking sector.
    Keywords: FOMC voting,regional banking sector instability,lobbying
    JEL: E43 E52 E58 G21
    Date: 2016
  16. By: Marco Casiraghi (Bank of Italy); Eugenio Gaiotti (Bank of Italy); Lisa Rodano (Bank of Italy); Alessandro Secchi (Bank of Italy)
    Abstract: We study empirically the distributional implications of a non-standard monetary policy expansion, considering the measures implemented by the Eurosystem in 2011-2012 and exploiting a rich micro dataset on Italian households’ income and wealth, in order to take contemporaneously into account a number of income- and wealth-related channels. Our results do not support the claim that an unconventional monetary loosening acts as a “reverse Robin Hood”. Larger benefits accrue to households at the bottom of the income scale, as the effects via the stimulus to economic activity and employment outweigh those via financial variables. The response of net wealth is U-shaped: less wealthy households take advantage of their leveraged positions, wealthier households of their larger share of financial assets. Overall, the effects on inequality are negligible. The results also suggest that the risk of an “expropriation of savers” is not likely to materialize, as the decrease in the remuneration of savings is compensated by support to labour income and by capital gains.
    Keywords: monetary policy, interest rates, policy effects, inequality
    JEL: E52 E58 I14
    Date: 2016–07
  17. By: Hajime Tomura (Faculty of Political Science and Economics,Waseda University,)
    Abstract: In a standard overlapping generations model, the unique equilibrium price of a Lucas' tree can be decomposed into the present discounted value of dividends and the stationary monetary equilibrium price of fiat money, the latter of which is a rational bubble. Thus, the standard interpretation of a rational bubble as the speculative component in an asset price double-counts the value of pure liquidity that is already part of the fundamental price of an interest-bearing asset.
    Keywords: rational bubbles; liquidity.
    JEL: E3
    Date: 2016–05
  18. By: Eickmeier, Sandra; Metiu, Norbert; Prieto, Esteban
    Abstract: We document that expansionary monetary policy shocks are less effective at stimulating output and investment in periods of high volatility compared to periods of low volatility, using a regime-switching vector autoregression. Exogenous policy changes are identified by adapting an external instruments approach to the non-linear model. The lower effectiveness of monetary policy can be linked to weaker responses of credit costs, suggesting a financial accelerator mechanism that is weaker in high volatility periods. To rationalize our robust empirical results, we use a macroeconomic model in which financial intermediaries endogenously choose their capital structure. In the model, the leverage choice of banks depends on the volatility of aggregate shocks. In low volatility periods, financial intermediaries lever up, which makes their balance sheets more sensitive to aggregate shocks and the financial accelerator more effective. On the contrary, in high volatility periods, banks decrease leverage, which renders the financial accelerator less effective; this in turn decreases the ability of monetary policy to improve funding conditions and credit supply, and thereby to stimulate the economy. Hence, we provide a novel explanation for the non-linear effects of monetary stimuli observed in the data, linking the effectiveness of monetary policy to the procyclicality of leverage.
    Keywords: monetary policy,credit spread,non-linearity,intermediary leverage,financial accelerator
    JEL: C32 E44 E52
    Date: 2016
  19. By: Carlos Diaz Vela
    Abstract: This paper shows how to extract the density of the shocks of information perceived by the Bank of England between two consecutive releases of its inflation density forecasts. These densities are used to construct a new measure of ex ante in ex ante inflation uncertainty, and a measure of news incorporation into subsequent forecasts. Also dynamic tests of point forecast optimality is constructed. It is shown that inflation uncertainty as perceived by the Bank was decreasing before the financial crisis, increasing sharply during the period 2008-2011. Since then, uncertainty seems to have stabilized, but it remains still above its pre-crisis levels. Finally, it is shown that forecast optimality is lost at some points during the financial crisis, and that there are more periods of optimal forecasts in long term than in short term forecasting. This could be also interpreted as that short term forecasts are subject to profound revisions.
    Keywords: Inflation, density forecast, uncertainty, revisions, optimal forecasts.
    JEL: C22 C53 C63 E31 E37 E58
  20. By: Yoshiyuki Kurachi (Bank of Japan); Kazuhiro Hiraki (Bank of Japan); Shinichi Nishioka (Bank of Japan)
    Abstract: Even though prices at the macro level in Japan, like in Europe and the United States, are sticky, individual prices as measured in micro data change frequently. The reason for this puzzle, it has been argued in the context of the United States, is the presence of temporary price changes due to sales and other promotions. In other words, the impact of temporary price changes on the inflation rate is negligible, since some price cuts during sales are cancelled out by other price rebounds from the previous sale prices. The hypothesis thus is that what affects macro-level inflation is not temporary price changes but changes in regular prices, which change only infrequently and hence are responsible for sticky prices at the macro level. We investigate this hypothesis using the micro data underlying Japan's consumer price index (CPI) and find that, in general, that the hypothesis is supported in Japan's case. Unlike in the United States, however, the frequency of temporary price changes has trended upward since the 1990s, so that the impact of temporary price changes on the inflation rate has gradually increased. If this development were to continue, it could lead to greater elasticity of the inflation rate in the future.
    Date: 2016–07–12
  21. By: Taisuke Nakata (Federal Reserve Board); Sebastian Schmidt (European Central Bank); Timothy Hills (New York University)
    Abstract: Even when the policy rate is currently not constrained by its effective lower bound (ELB), the possibility that the policy rate will become constrained in the future lowers today's inflation by creating tail risk in future inflation and thus reducing expected inflation. In an empirically rich model calibrated to match key features of the U.S. economy, we find that the tail risk induced by the ELB causes inflation to undershoot the target rate of 2 percent by as much as 45 basis points at the economy's risky steady state. Our model suggests that achieving the inflation target may be more difficult now than before the Great Recession, if the recent ELB experience has led households and firms to revise up their estimate of the ELB frequency.
    Date: 2016
  22. By: Thorsten Beck; Ravindra Ramrattan (Innovations for Poverty Action); Haki Pamuk (Development Economics Group, Wageningen University); Burak R. Uras (Tilburg University)
    Abstract: The relationship between efficient payment instruments and enforcement constraints is studied in the context of economic development. Using a novel enterprise survey from Kenya, we document a strong positive association between the use of mobile money as a method to pay suppliers and access to trade credit. We propose a dynamic general equilibrium model with heterogeneous entrepreneurs, limited financial commitment and the risk of theft to account for this empirical pattern. Mobile money dominates fiat money as a medium of exchange in its capacity to avoid theft, but it comes with electronic transaction costs. The interaction between risk of theft and limited enforcement of trade credit contracts generates demand for mobile money as a payment method with suppliers. The use of mobile money in turn reinforces valuation of trade credit contracts and relaxes enforcement constraints. Calibrating the stationary equilibrium of the model to match a set of moments in Kenyan enterprise data, the importance of the endogenous interactions between mobile money and trade credit on entrepreneurial performance and macroeconomic development is investigated.
    Date: 2016
  23. By: Julien Bengui (Université de Montréal); Sushant Acharya (Federal Reserve Bank of New York)
    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 when many advanced economies were pushed to the zero bound on interest rates. We establish three main results. First, 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. Second, a free capital flow regime falls short of supporting efficient demand and expenditure reallocations and induces too little downstream (upstream) flows during (after) the liquidity trap. And third, 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.
    Date: 2016
  24. By: Kliem, Martin; Kriwoluzky, Alexander; Sarferaz, Samad
    Abstract: We study the impact of the interaction between fiscal and monetary policy on the low-frequency relationship between the fiscal stance and inflation using cross-country data from 1965 to 1999. In a first step, we contrast the monetary-fiscal narrative for Germany, the U.S. and Italy with evidence obtained from simple regression models and a time-varying VAR. We find that the low-frequency relationship between the fiscal stance and inflation is low during periods of an independent central bank and responsible fiscal policy and more pronounced in times of high fiscal budget deficits and accommodative monetary authorities. In a second step, we use an estimated DSGE model to interpret the low-frequency measure structurally and to illustrate the mechanisms through which fiscal actions affect inflation in the long run. The findings from the DSGE model suggest that switches in the monetary-fiscal policy interaction and accompanying variations in the propagation of structural shocks can well account for changes in the low-frequency relationship between the fiscal stance and inflation.
    Keywords: time-varying VAR,inflation,public deficits
    JEL: E42 E58 E61
    Date: 2015
  25. By: Adrian, Tobias; Liang, Nellie
    Abstract: We review a growing literature that incorporates endogenous risk premiums and risk taking in the conduct of monetary policy. Accommodative policy can create an inter-temporal tradeoff between improving current financial conditions at a cost of increasing future financial vulnerabilities. In the U.S., structural and cyclical macroprudential tools to reduce vulnerabilities at banks are being implemented, but may not be sufficient because activities can migrate and there are limited tools for nonbank intermediaries or for borrowers. While monetary policy itself can influence vulnerabilities, its efficacy as a tool will depend on the costs of tighter policy on activity and inflation. We highlight how adding a risk-taking channel to traditional transmission channels could significantly alter a cost-benefit calculation for using monetary policy, and that considering risks to financial stability—as downside risks to employment--is consistent with the dual mandate.
    Keywords: financial conditions; financial stability; leaning against the wind; macroprudential policy; monetary policy rules; monetary policy transmission; risk taking channel of monetary policy
    Date: 2016–07
  26. By: Michael Weber (University of Chicago); Ali Ozdagli (Federal Reserve Bank of Boston)
    Abstract: Monetary policy shocks have a large impact on aggregate stock market returns in narrow event windows around press releases by the Federal Open Market Committee. A one percentage point higher than expected Federal Funds rate leads to a drop in the stock market by 4 percentage points within a 30 minutes event window. We decompose the overall event into a direct (demand) effect and an indirect (network) effect using spatial autoregressions. We use the empirical input-output structure from the Bureau of Economic Analysis to construct a spatial-weighting matrix. We attribute 50% to 85% of the overall effect to indirect effects. The effect is robust to different sample periods, event windows, type of announcements, and is symmetric in the shock sign. We rationalize our findings in a simple model with intermediate inputs. Our findings indicate that production networks might not only be important for the propagation of idiosyncratic shocks but might also be a propagation mechanism of monetary policy to the real economy.
    Date: 2016
  27. By: El-Shagi, Makram; Zhang, Lin
    Abstract: We use the Chinese experience between 1867 and 1910 to illustrate how the volatility of vehicle currencies affects trade. Today's widespread vehicle currency is the dollar. However, the macroeconomic effects of this use of the dollar have rarely been addressed. This is partly due to identification problems caused by its international importance. China had adopted a system, where silver was used almost exclusively for trade, similar to a vehicle currency. While being important for China, the global role of silver was marginal, alleviating said identification problems. We develop a bias corrected structural VAR showing that silver price fluctuations significantly affected trade.
    Keywords: vehicle currency,China,SVAR,small sample
    JEL: C32 F14 F31 F41 N15
    Date: 2016
  28. By: Kriwoluzky, Alexander; Müller, Gernot J.; Wolf, Martin
    Abstract: We study the impact of the interaction between fiscal and monetary policy on the low-frequency relationship between the fiscal stance and inflation using cross-country data from 1965 to 1999. In a first step, we contrast the monetary-fiscal narrative for Germany, the U.S. and Italy with evidence obtained from simple regression models and a time-varying VAR. We find that the low-frequency relationship between the fiscal stance and inflation is low during periods of an independent central bank and responsible fiscal policy and more pronounced in times of high fiscal budget deficits and accommodative monetary authorities. In a second step, we use an estimated DSGE model to interpret the low-frequency measure structurally and to illustrate the mechanisms through which fiscal actions affect inflation in the long run. The findings from the DSGE model suggest that switches in the monetary-fiscal policy interaction and accompanying variations in the propagation of structural shocks can well account for changes in the low-frequency relationship between the fiscal stance and inflation.
    Keywords: currency union,exit,sovereign debt crisis,fiscal policy,redenomination premium,euro crisis,regime-switching model
    JEL: E52 E62 F41
    Date: 2015
  29. By: Mirkov, Nikola; Pozdeev, Igor; Soderlind, Paul
    Abstract: We ask whether the markets expected the Swiss National Bank (SNB) to discontinue the 1.20 cap on the Swiss franc against the euro in January 2015. In the run-up to the SNB announcement, neither options on the euro/Swiss franc nor FX liquidity indicated a significant shift in market expectations. Furthermore, we find that the SNB's verbal interventions during the period of cap enforcement increased the credibility of the cap by reducing the uncertainty of future euro/Swiss franc rate. Therefore, we conclude that the markets did not anticipate the discontinuation of the policy.
    Keywords: Swiss franc, implied volatilities, market expectations
    JEL: E58 E44 G12
    Date: 2016–07
  30. By: Mikael Juselius; Claudio Borio; Piti Disyatat; Mathias Drehmann
    Abstract: Do the prevailing unusually and persistently low real interest rates reflect a decline in the natural rate of interest as commonly thought? We argue that this is only part of the story. The critical role of financial factors in influencing medium-term economic fluctuations must also be taken into account. Doing so for the United States yields estimates of the natural rate that are higher and, at least since 2000, decline by less. As a result, policy rates have been persistently and systematically below this measure. Moreover, we find that monetary policy, through the financial cycle, has a long-lasting impact on output and, by implication, on real interest rates. Therefore, a narrative that attributes the decline in real rates primarily to an exogenous fall in the natural rate is incomplete. The influence of monetary and financial factors should not be ignored. Exploiting these results, an illustrative counterfactual experiment suggests that a monetary policy rule that takes financial developments systematically into account during both good and bad times could help dampen the financial cycle, leading to higher output even in the long run.
    Keywords: natural interest rate, financial cycle, monetary policy, credit, business cycle
    Date: 2016–07
  31. By: Ricardo Reis (Tel Aviv University; London School of Economics (LSE); Centre for Macroeconomics (CFM))
    Abstract: Analysis of quantitative easing (QE) typically focus on the recent past studying the policy's effectiveness during a financial crisis when nominal interest rates are zero. This paper examines instead the usefulness of QE in a future fiscal crisis, modeled as a situation where the fiscal outlook is inconsistent with both stable in ation and no sovereign default. The crisis can lower welfare through two channels, the first via aggregate demand and nominal rigidities, and the second via contractions in credit and disruption in financial markets. Managing the size and composition of the central bank's balance sheet can interfere with each of these channels, stabilizing in ation and economic activity. The power of QE comes from interest-paying reserves being a special public asset, neither substitutable by currency nor by government debt.
    Keywords: New-style central banks, Unconventional monetary policy
    JEL: E44 E58 E63
    Date: 2016–07
  32. By: Taylor, John B.; Wieland, Volker
    Abstract: Recently there has been an explosion of research on whether the equilibrium real interest rate has declined, an issue with significant implications for monetary policy. A common finding is that the rate has declined. In this paper we provide evidence that contradicts this finding. We show that the perceived decline may well be due to shifts in regulatory policy and monetary policy that have been omitted from the research. In developing the monetary policy implications, it is promising that much of the research approaches the policy problem through the framework of monetary policy rules, as uncertainty in the equilibrium real rate is not a reason to abandon rules in favor of discretion. But the results are still inconclusive and too uncertain to incorporate into policy rules in the ways that have been suggested.
    Date: 2016
  33. By: Tao Zha (Federal Reserve Bank of Atlanta); Jue Ren (Emory University); Kaiji Chen (Emory University)
    Abstract: We argue that China's rising shadow banking was inextricably linked to potential \emph{balance-sheet} risks in the banking system. We substantiate this argument with three didactic findings: (1) commercial banks in general were prone to engage in channeling \emph{risky} entrusted loans; (2) shadow banking through entrusted lending masked small banks' exposure to balance-sheet risks; and (3) two well-intended regulations and institutional asymmetry between large and small banks combined to give small banks an incentive to exploit regulatory arbitrage by bringing off-balance-sheet risks into the balance sheet. We reveal these findings by constructing a comprehensive transaction-based loan dataset, providing robust empirical evidence, and developing a theoretical framework to explain the linkages between monetary policy, shadow banking, and traditional banking (the banking system) in China
    Date: 2016
  34. By: Ioannis G. Samantas (University of Athens)
    Abstract: This study examines whether the effect of market structure on financial stability is persistent, subject to current regulation and supervision policies. Extreme Bounds Analysis (EBA) is employed over a sample of 2450 banks operating within the EU-27 during the period 2003-2010. The results show an inverse U-shaped association between market power and soundness and a stabilizing tendency in markets of less concentration, where policies lean towards limited restrictions on non-interest income, official intervention in bank management and book transparency. Regulation significantly contributes as a stability channel through which bank competition policy is optimally designed.
    Keywords: Market power; financial stability; regulation; extreme bound analysis
    JEL: D21 D4 L11 L51
    Date: 2016–07
  35. By: Gropp, Reint; Saadi, Vahid
    Abstract: It is widely claimed that “the German saver” suffers (i.e. generates significantly lower returns on her savings) in the low interest environment that Germany currently experiences relative to a high interest rate environment. With “low interest rate environment”, the observers tend to mean “low policy rates”, i.e. the European Central Bank’s (ECB) main refinancing rate.
    Keywords: European Union,German saver,Low Policy Rate Environment
    Date: 2015
  36. By: Mario Ravioli (Universitat Rovira i Virgili)
    Abstract: In 2012, Argentina passed a regulation imposing a minimum level of commercial lending on large banks. The regulation was meant to boost lending to SMEs in less favored regions via improved credit availability and capped interest rates, with the ultimate goal of spurring private investment. This paper studies two outcomes of the aforementioned regulation. First, using a difference-in- difference setup, it studies the degree to which this regulation fostered credit supplied by those banks affected by the new rules, and the speed of loan creation.Second, it investigates the performance of loans created as a result of the regulation. Overall, the paper highlights the potential bright and dark sides of imposing supply of banking services and products on private banks.
    Keywords: Interest rate caps, Priority lending schemes, Directed credit, SMEs
    JEL: G28 G21 E58
  37. By: Shahid, Muhammad; Qayyum, Abdul; Shahid, Waseem
    Abstract: Currently Pakistan’s economy is under stress and registered a sluggish growth for many years in a row. The performance of major economic indicators is not satisfactory. Low investment, double digit inflation, fiscal imbalances and low external capital inflows indicates the severity of the grave economic situation. This paper investigates fiscal and monetary policy interaction in Pakistan using dynamic stochastic general equilibrium model. Finding of the paper reveals that fiscal and monetary policy interacts with each other and with other macroeconomic variables. Inflation responds to fiscal policy shocks in the form of government spending, revenue and borrowing shocks. Monetary authority’s decisions are also affecting fiscal policy variables. It is also evident that fiscal discipline is critical for the effective formulation and execution of monetary policy.
    Keywords: Monetary Policy, Fiscal Dominance, DSGE, Pakistan
    JEL: E5 E52 H3
    Date: 2016–07
  38. By: Aikman, David; Lehnert, Andreas; Liang, J. Nellie; Modugno, Michele
    Abstract: We define a measure to be a financial vulnerability if, in a VAR framework that allows for nonlinearities, an impulse to the measure leads to an economic contraction. We evaluate alternative macrofinancial imbalances as vulnerabilities: nonfinancial sector credit, risk appetite of financial market participants, and the leverage and short-term funding of financial firms. We find that nonfinancial credit is a vulnerability: impulses to the credit-to-GDP gap when it is high leads to a recession. Risk appetite leads to an economic expansion in the near-term, but also higher credit and a recession in later years, suggesting an intertemporal tradeoff. Monetary policy is generally ineffective at slowing the economy once the credit-to-GDP gap is high, suggesting important benefits from avoiding excessive credit growth. Financial sector leverage and short-term funding do not lead directly to contractions and thus are not vulnerabilities by our definition.
    Keywords: Financial stability and risk ; Monetary policy ; Credit
    JEL: E58 E65 G28
    Date: 2016–07–07

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