nep-mon New Economics Papers
on Monetary Economics
Issue of 2016‒10‒30
37 papers chosen by
Bernd Hayo
Philipps-Universität Marburg

  1. A New Financial Order in Asia: Will a RMB bloc emerge? By Takatoshi Ito
  2. Connecting the dots: market reactions to forecasts of policy rates and forward guidance provided by the Fed By Michelle Bongard; Gabriele Galati; Richhild Moessner; William Nelson
  3. Central Bank sentiment and policy expectations By Paul Hubert; Fabien Labondance
  4. The role of bank balance sheets in monetary policy transmission. Evidence from Poland By Mariusz Kapuściński
  5. QE: The Story so far. By Haldane, Andrew; Roberts-Sklar, Matt; Wieladek, Tomasz; Young, Chris
  6. The Interdependence of Monetary and Macroprudential Policy under the Zero Lower Bound By Vivien Lewis; Stefania Villa
  7. Financial shocks and inflation dynamics By Abbate, Angela; Eickmeier, Sandra; Prieto, Esteban
  8. Optimal Fiscal Substitutes for the Exchange Rate in a Monetary Union By Christoph Kaufmann
  9. Monetary and Macroprudential Policy Games in a Monetary By Richard Dennis; Pelin Ilbas
  10. The trade-off between monetary policy and bank stability By Martien Lamers; Frederik Mergaerts; Elien Meuleman; Rudi Vander Vennet
  11. The transmission mechanism of credit support policies in the Euro Area By Jef Boeckx; Maite de Sola Perea; Gert Peersman
  12. Forward Guidance under Disagreement - Evidence from the Fed's Dot Projections By Gunda-Alexandra Detmers; ;
  13. Effects of South African Monetary Policy Implementation on the CMA: A Panel Vector Autoregression Approach By Monaheng Seleteng (PhD)
  14. Evolution of Exchange Rate Pass-through: Evidence from The Gambia By Jobarteh, Mustapha
  15. Mending the broken link: heterogeneous bank lending and monetary policy pass-through By Altavilla, Carlo; Canova, Fabio; Ciccarelli, Matteo
  16. Achieving Price Stability by Manipulating the Central Bank’s Payment on Reserves By Robert E. Hall; Ricardo Reis
  17. Macroprudential policies, the long-term interest rate and the exchange rate By Philip Turner
  18. The effect of ECB foreward guidance on policy expectations By Paul Hubert; Fabien Labondance
  19. The response of euro area sovereign spreads to the ECB unconventional monetary policies By Hans Dawachter; Leonardo Iania; jean-charles wijnandts
  20. Rethinking the current inflation target range in South Africa By Bonga-Bonga, Lumengo; Lebese, Ntsakeseni Letitia
  21. Forward guidance and heterogenous beliefs By Gaetano Gaballo; Eric Mengus; Benoït Mojon; Philippe Andrade
  22. Generalized stability of monetary unions under regime switching in monetary and fiscal policies By Dennis Bonam; Bart Hobijn
  23. Monetary Policy in the Presence of Random Wage Indexation By Jonathan A. Attey; Casper G. de Vries
  24. The Interplay Between Financial Conditions and Monetary Policy Shocks By Bassetto, Marco; Benzoni, Luca; Serrao, Trevor
  25. Anti-Cyclical Bank Capital Regulation and Monetary Policy By Aliaga-Díaz, Roger; Olivero , María Pía; Powell, Andrew
  26. Forward Guidance, Quantitative Easing, or both? By Ferre De Graeve; Konstantinos Theodoridis
  27. The euro as an international currency By Agnès Benassy-Quere
  28. Explaining the Failure of the Expectations Hypothesis with Short-Term Rates By Ranaldo, Angelo; Rupprecht, Matthias
  29. Optimal monetary policy with heterogeneous agents. By Galo Nuño; Carlos Thomas
  30. Payment Instruments and Collateral in the Interbank Payment System By Hajime Tomura
  31. Determinants of lending activity in the Euro area By Stefan Behrendt
  32. The signaling effect of raising inflation By Eric Mengus; Jean Barthelemy
  33. A Model of Fickle Capital Flows and Retrenchment: Global Liquidity Creation and Reach for Safety and Yield By Ricardo J. Caballero; Alp Simsek
  34. Macroeconomic responses to an independent monetary policy shock: a (more) agnostic identification procedure By Marco Capasso; Alessio Moneta
  35. Prudential measures in dealing with capital flows – case of Poland By Milena Kabza; Konrad Kostrzewa
  36. Assessing the role of interbank network structure in business and financial cycle analysis By Jean-Yves Gnabo; Nicolas K. Scholtes
  37. Capital Controls and Financial Frictions in a Small Open Economy By Shigeto Kitano; Kenya Takaku

  1. By: Takatoshi Ito
    Abstract: The objective of this paper is three-fold. First, the monetary and exchange rate regimes of the Asian countries are described and analyzed. The degrees of flexibility in exchange rates and capital controls vary across countries. Some countries have adopted a flexible inflation targeting framework, while others have pursued exchange rate targeting. The paper presents a new result of a tradeoff between price stability and exchange rate stability in the hyperbolic relationship of Asian countries. Second, a framework that analyzes and quantifies the degree of currency internationalization is proposed and applied to the RMB. In every indicator, the RMB’s weight in private-sector international finance has grown in the last several years, both in the private and public sectors. In the settlement role of currency, the RMB is ranked 8th in the BIS survey and 7th in SWIFT usage. This paper exploits data of a recent period when the RMB became de-pegged from the USD and show some of the emerging Asian currencies co-moving with the RMB, more so than the USD. In the official sector, RMB is also increasing its weight. The Chinese central bank has extended the currency-swap agreements with 30-some countries, so that the RMB can be used for trade finance and liquidity assistance. The RMB is adopted as a composition currency of the Special Drawing Rights (SDR), effective in October 2016, with 10.92 percent, ranking number 3, surpassing the JPY and GBP. Finally, potential impending changes in the Asian monetary and exchange rate regimes in Asia are discussed. Projecting the growth of the Chinese economy into the future, the weight of the RMB in the financial markets will increase globally as well as in Asia.
    JEL: E52 F31 F33 F38
    Date: 2016–10
  2. By: Michelle Bongard; Gabriele Galati; Richhild Moessner; William Nelson
    Abstract: This paper compares market reactions to forecasts of the policy rate path provided by FOMC participants ("dots") in the Summary of Economic Projections (SEP) with those to forward guidance provided by the FOMC in its statements. We find that market expectations of the time to lift-off from the zero lower bound are significantly affected in the expected direction by surprises in SEP dots and in forward guidance. We also find a significant impact of macroeconomic news on market participants' expectations of time to lift-off. These results are consistent with forward guidance about policy rates and SEP forecasts each contributing to the public's understanding of future Federal Reserve monetary policy, and with the conditionality of both forms of communication about future policy rates being understood. We also present evidence that market expectations concerning the time to lift-off are influenced by the maximum time to lift-off implied by forward guidance, the SEP and the economic outlook. An appendix provides the FOMC's forward guidance after each meeting from January 2012 to September 2015 and our interpretation of the implied days to liftoff.
    Keywords: forward guidance; policy rate forecasts; zero lower bound
    JEL: E52 E58
    Date: 2016–10
  3. By: Paul Hubert (OFCE-Sciences Po); Fabien Labondance (OFCE-Sciences Po - Université de Bourgogne Franche-Comté- CRESE)
    Abstract: We explore empirically the theoretical prediction that waves of optimism or pessimism may have aggregate effects, in the context of monetary policy. We investigate whether the sentiment conveyed by ECB and FOMC policymakers in their statements affect the term structure of private short-term interest rate expectations. First, we quantify central bank tone using a computational linguistics approach. Second, we identify sentiment as exogenous shocks to these quantitative measures using an augmented narrative approach following the information friction literature. Third, we estimate the impact of sentiment on private agents’ expectations about future short-term interest rates using a high-frequency methodology and an ARCH model. We find that sentiment shocks increase private interest rate expectations around maturities of one and two years. We also find that this effect is non-linear and depends on the state of the economy and on the characteristics (precision, sign and size) of the sentiment signal.
    Keywords: animal spirits, Optimism, Confidence, Central Bank communication, Interest-rate expectations, ECB, FOMC
    JEL: E43 E52 E58
    Date: 2016–09
  4. By: Mariusz Kapuściński
    Abstract: This study investigates whether the effects of monetary policy are amplified through its impact on bank balance sheet strength. Or, in other words, it tests whether the bank lending channel of the monetary transmission mechanism (as reformulated by Disyatat, 2011) works. To this end, panel vector autoregressions with high frequency identification and univariate panel regressions are applied to data for Poland. Counterfactual exercises show that the analysed channel accounts for about 23% of a decrease in lending following a monetary policy impulse. This is another piece of evidence showing that the financial accelerator works in both non-financial and financial sector. In some cases it can make the interplay between monetary and macroprudential policy non-trivial.
    Keywords: monetary transmission mechanism, bank capital, panel vector autoregressions, high frequency identification
    JEL: E52 E51 C33 C23 E43
    Date: 2016
  5. By: Haldane, Andrew (Bank of England); Roberts-Sklar, Matt (Bank of England); Wieladek, Tomasz (Bank of England); Young, Chris (Bank of England)
    Abstract: In the past decade or so, a number of central banks have purchased assets financed by the creation of central bank reserves as a tool for loosening monetary policy – a policy often known as ‘quantitative easing’ or ‘QE’. The first half of the paper reviews the international evidence on the impact on financial markets and economic activity of this policy. It finds that these central bank balance sheet expansions had a discernible and significant impact on financial markets and the economy. The second half of the paper provides new empirical analysis on the macroeconomic impact of central bank balance sheet expansions, across time and countries. It finds three key results. First, it is only when central bank balance sheet expansions are used as a monetary policy tool that they have a significant macro-economic impact. Second, there is evidence for the US that the effectiveness of QE may vary over time, depending on the state of the economy and liquidity of the financial system. And third, QE can have strong spill-over effects cross-border, acting mainly via financial channels. For example, the impact of US QE on UK economic activity may be as large as the impact on US economic activity.
    Keywords: Quantitative Easing; QE; unconventional monetary policy; central bank balance sheet
    JEL: E43 E44 E52 E58 E60
    Date: 2016–10–24
  6. By: Vivien Lewis (Department of Economics, KU Leuven); Stefania Villa (Department of Economics, KU Leuven, Department of Economics, University of Foggia)
    Abstract: This paper considers the interdependence of monetary and macroprudential policy in a New Keynesian business cycle model under the zero lower bound constraint. Entrepreneurs borrow in nominal terms from banks and are subject to idiosyncratic default risk. The realized loan return to the bank varies with aggregate risk, such that bank balance sheets are affected by higher-than-expected rm defaults. Monetary and macroprudential policies are given by an interest rate rule and a capital requirement rule, respectively. We first characterize the model's stability properties under different steady state policies. We then analyze the transmission of a risk shock under the zero lower bound and different macroprudential policies. We finally investigate whether these policies are indeed optimal.
    Keywords: Triffin, European Payments Union (EPU), international monetary system (IMS)
    JEL: A11 B31 F02 F33 F36 N24
    Date: 2016–09
  7. By: Abbate, Angela; Eickmeier, Sandra; Prieto, Esteban
    Abstract: We assess the effects of financial shocks on inflation, and to what extent financial shocks can account for the "missing disinflation" during the Great Recession. We apply a vector autoregressive model to US data and identify financial shocks through sign restrictions. Our main finding is that expansionary financial shocks temporarily lower inflation. This result withstands a large battery of robustness checks. Moreover, negative financial shocks helped preventing a deflation during the latest financial crisis. We then explore the transmission channels of financial shocks relevant for inflation, and find that the cost channel can explain the inflation response. A policy implication is that financial shocks that move output and inflation in opposite directions may worsen the trade-off for a central bank with a dual mandate.
    Keywords: financial shocks,inflation dynamics,monetary policy,financial frictions,cost channel,sign restrictions
    JEL: E31 E44 E58
    Date: 2016
  8. By: Christoph Kaufmann
    Abstract: This paper studies Ramsey-optimal monetary and fiscal policy in a New Keynesian 2-country open economy framework, which is used to assess how far fiscal policy can substitute for the role of nominal exchange rates within a monetary union. Giving up exchange rate exibility leads to welfare costs that depend significantly on whether the law of one price holds internationally or whether firms can engage in pricing-to-market. Calibrated to the euro area, the welfare costs can be reduced by 86% in the former and by 69% in the latter case by using only one tax instrument per country. Fiscal devaluations can be observed as an optimal policy in a monetary union: if a nominal devaluation of the domestic currency were optimal under exible exchange rates, optimal fiscal policy in a monetary union is an increase of the domestic relative to the foreign value added tax.
    Keywords: Monetary union, Optimal monetary and fiscal policy, Exchange rate
    JEL: F41 F45 E63
    Date: 2016–09–21
  9. By: Richard Dennis (University of Glasgow); Pelin Ilbas (National Bank of Belgium)
    Abstract: We use the two-country model of the euro area developed by Quint and Rabanal (2014)to study policymaking in the European Monetary Union (EMU). In particular, we focus on strategic interactions: 1) between monetary policy and a common macroprudential authority, and; 2) between an EMU-level monetary authority and regional macroprudential authorities. In the .rst case, price stability and .nancial stability are pursued at the EMU level, while in the second case each macroprudential authority adopts region-speci.c objectives. We compare cooperative equilibria in the simultaneous-move and leadership solutions, each obtained assuming policy iscretion. Further, we assess the e¤ects on policy performance of assigning shared objectives across policymakers and of altering the level of importance attached to various policy objectives.
    Keywords: Monetary policy, macroprudential policy, policy coordination
    JEL: E42 E44 E52 E58
    Date: 2016–10
  10. By: Martien Lamers (University of Groningen, Netherlands); Frederik Mergaerts (Ghent University, Belgium); Elien Meuleman (Ghent University, Belgium); Rudi Vander Vennet (Ghent University, Belgium)
    Abstract: This paper investigates how monetary policy interventions by the European Central Bank and the Federal Reserve affect the stock market perception of bank systemic risk. In a first step, we identify monetary policy shocks using a structural VAR approach by exploiting the changes of the volatility of these shocks on days on which there are monetary policy announcements. The second step consists of a panel regression analysis, in which we relate monetary policy shocks to market-based measures of bank systemic risk. Our sample includes information on both Euro Area and U.S. listed banks, covering a sample period from October 2008 to December 2015. We condition the impact of the monetary policy shocks on a set of bank-specific variables, thereby allowing for a heterogeneous transmission of monetary policy. We furthermore use the differences between Euro Area core and periphery countries and the additional granularity of U.S. accounting data to assess which channels determine the transmission of monetary policy. Our results indicate that by supporting weaker banks and allowing banks to delay recognizing bad loans, accommodative monetary policy may contribute to the buildup of vulnerabilities in the banking sector and may make an eventual policy tightening more difficult. On the other hand, a continuation of expansionary monetary policy may increase risk-taking incentives by further compressing banks’ net interest margins.
    Keywords: Triffin, European Payments Union (EPU), international monetary system (IMS)
    JEL: G21 G32 E52
    Date: 2016–09
  11. By: Jef Boeckx (National Bank of Belgium, Research Department); Maite de Sola Perea (National Bank of Belgium, Research Department); Gert Peersman (Ghent University)
    Abstract: We use an original monthly dataset of 131 individual euro area banks to examine the effectiveness and transmission mechanism of the Eurosystem?s credit support policies since the start of the crisis. First, we show that these policies have indeed been succesful in stimulating the credit ?ow of banks to the private sector. Second, we ?nd support for the "bank lending view" of monetary transmission. Speci?cally, the policies have had a greater impact on loan supply of banks that are more constrained to obtain unsecured external funding, i.e. small banks (size effect), banks with less liquid balance sheets (liquidity effect), banks that depend more on wholesale funding (retail effect) and low-capitalized banks (capital effect). The role of bank capital is, however, ambiguous. Besides the above favorable direct e¤ect on loan supply, lower levels of bank capitalization at the same time mitigate the size, retail and liquidity effects of the policies. The drag on the other channels has even been dominant during tthe sample period, i.e. better capitalized banks have on average responded more to the credit support policies of the Eurosystem as a result of more favourable size, retail and liquidity effects.
    Keywords: unconventional monetary policy, bank lending, monetary transmission mechanism
    JEL: E51 E52 E58 G01 G21
    Date: 2016–10
  12. By: Gunda-Alexandra Detmers; ;
    Abstract: This paper compares the effectiveness of date- and state-based forward guidance issued by the Federal Reserve since mid-2011 accounting for the influence of disagreement within the FOMC. Effectiveness is investigated through the lens of interest rates’ sensitivity to macroeconomic news and I find that the Fed’s forward guidance reduces the sensitivity and therefore crowds out other public information. The sensitivity shrinkage is stronger in the case of date-based forward guidance due to its unconditional nature. Yet, high levels of disagreement among monetary policy makers as published through the FOMC’s dot projections since 2012 partially restore sensitivity to macroeconomic news. Thus, disagreement appears to lower the information content of forward guidance and to weaken the Fed’s commitment as perceived by financial markets. The dot projections are therefore able to reduce the focal point character of forward guidance.
    JEL: E52 E58
    Date: 2016–10
  13. By: Monaheng Seleteng (PhD)
    Abstract: The paper investigates the effects of South African monetary policy implementation on selected macroeconomic variables in the rest of the Common Monetary Area (CMA) looking specifically at the response of a shock to South African key interest rate (repo rate) on macroeconomic variables such as the regional lending rates, interest rate spread, private sector credit, money supply, inflation and economic growth in the rest of the CMA countries. The analysis is conducted using impulse-response functions derived from Panel Vector Autoregression (PVAR) methodology. The estimates are conducted using annual data for a panel of four CMA countries for the period 1980 – 2012. The results show that a positive shock to South African repo rate significantly affects lending rates, inflation and economic growth in the entire CMA countries. South African repo rate has more impact on lending rates in the entire CMA. This is then followed by the impact on inflation and then economic growth.
    Keywords: Monetary policy, Transmission Mechanism, interest rates, Impulse-Response Functions, PVAR Model, Variance-Decomposition.
    JEL: C3 E43 E47 E52 E58 E61
    Date: 2016–10
  14. By: Jobarteh, Mustapha
    Abstract: The degree to which a change in exchange rate is reflected in changes in the domestic prices is termed exchange rate pass through (ERPT). In this work, we trace the evolutionary path of the ERPT to domestic prices in The Gambia using 60 windows of rolling VARs from 2002m1 to 2012m12. Our findings show pass through is higher in the long run than in the short run, and that irrespective of the horizon considered EPRT has been declining since 2002. Hence, exchange rate fluctuations those not seem to pose any significant threat to monetary policy in The Gambia.
    Keywords: Exchange Rate Pass Through, Inflation, Rolling VAR, The Gambia
    JEL: E52 E58
    Date: 2016–10–19
  15. By: Altavilla, Carlo; Canova, Fabio; Ciccarelli, Matteo
    Abstract: We analyse the pass-through of monetary policy measures to lending rates to firms and households in the euro area using a unique bank-level dataset. Banks' characteristics such as the capital ratio and the exposure to sovereign debt are responsible for the heterogeneity of pass-through of conventional monetary policy changes. The location of a bank is instead irrelevant. Non-standard measures normalized the capacity of banks to grant loans resulting in a significant compression in lending rates. Banks with a high level of non-performing loans and a low capital ratio were the most responsive to the measures. Finally, we quantify the effects of non-standard policies on the real economic activity using a standard macroeconomic model and find that in absence of these measures both inflation and output gap would have been significantly lower.
    Keywords: European Banks; Heterogeneity; Monetary pass-through; VARs
    JEL: C23 E44 E52 G21
    Date: 2016–10
  16. By: Robert E. Hall; Ricardo Reis
    Abstract: Today, all major central banks pay or collect interest on reserves, and stand ready to use the interest rate as an instrument of monetary policy. We show that by paying an appropriate rate on reserves, the central bank can pin the price level uniquely to a target. The essential idea is to index reserves to the market interest rate, the price level, and the target price level in a way that creates a contractionary financial force if the price level is above the target and an expansionary force if below. Our payment-on-reserves policy process does not require terminal conditions like Taylor rules, exogenous fiscal surpluses like the fiscal theory of the price level, liquidity preference as in quantity theories, or local approximations as in new Keynesian models. The process accommodates liquidity services from reserves, segmented financial markets where only some institutions can hold reserves, and nominal rigidities. We believe it would be easy to implement.
    JEL: E31 E42 E58
    Date: 2016–10
  17. By: Philip Turner
    Abstract: The Bernanke-Blinder closed economy model suggests that macroprudential policies aimed at bank lending will affect the domestic long-term interest rate. In an open economy, domestic shocks to long-term rates are likely to influence capital flows and the exchange rate. Currency movements feed back into domestic credit through several channels, which will be influenced by balance sheet positions and not only by income flows. Macroprudential policies aimed at domestic credit and at foreign currency borrowing may be the best option open to small countries facing very low global interest rates and risky domestic credit expansion.
    Keywords: Bernanke-Blinder model, capital flows, interest rate policy, macroprudential policy
    Date: 2016–10
  18. By: Paul Hubert (OFCE-Sciences Po); Fabien Labondance (OFCE-Sciences Po - Université de Bourgogne Franche-Comté- CRESE)
    Abstract: This paper investigates the instantaneous and dynamic effects of ECB forward guidance announcements on the term structure of private short-term interest rate expectations. We estimate the static and dynamic impact of forward guidance on private agents’ expectations about future short-term interest rates using a high-frequency methodology and an ARCH model, complemented with local projections. We find that ECB forward guidance announcements decrease most of the term structure of private short-term interest rate expectations, this being robust to several specifications. The effect is stronger on longer maturities and persistent.
    Keywords: Central Bank communication, Interest-rate expectations, OIS
    JEL: E43 E52 E58
    Date: 2016–10
  19. By: Hans Dawachter (Economics and Research Department, NBB, University of Leuven, Center for Economic Studies and CESifo.); Leonardo Iania (University of Louvain, Louvain School of Management.); jean-charles wijnandts (University of Louvain, Louvain School of Management.)
    Abstract: We analyse variations in sovereign bond yields and spreads following unconventional monetary policy announcements by the European Central Bank. Using a two-country, arbitrage-free, shadow-rate dynamic term structure model (SR-DTSM), we decompose countries'yields into expectation and risk premium components. By means of an event study analysis, we show that the ECB's announcements reduced both the average expected instantaneous spread and risk repricing components of Italian and Spanish spreads. For countries such as Belgium and France, the ECB announcements impacted primarily the risk repricing component of the spread.
    Keywords: Triffin, European Payments Union (EPU), international monetary system (IMS)
    JEL: A11 B31 F02 F33 F36 N24
    Date: 2016–10
  20. By: Bonga-Bonga, Lumengo; Lebese, Ntsakeseni Letitia
    Abstract: With critics suggesting that inflation targeting is not an appropriate monetary policy framework for developing and emerging countries, this paper assesses whether or not the 3%-6% inflation target is the optimal inflation target band in South Africa. The optimal inflation target band is determined based on the time-varying non-accelerating inflation rate of unemployment (the NAIRU). The estimation results provide an estimated inflation range that is wider than the current range pursued by the South African Reserve Bank. This may suggest that the current range of inflation hinders real activities, especially employment in South Africa.
    Keywords: inflation target, NAIRU, unemployment, South Africa
    JEL: C13 E52
    Date: 2016–08–22
  21. By: Gaetano Gaballo (Banque de France); Eric Mengus (HEC Paris); Benoït Mojon; Philippe Andrade (Banque de France)
    Abstract: We analyze the effects of forward guidance when agents have heterogeneous interpretations of whether forward guidance contains a commitment on future policy actions. Using survey expectations, we document that forward guidance lowered disagreement about future short-term interest rates to historically low levels while it did not affect much disagreement about future inflation and future consumption. We introduce heterogeneous beliefs on future policy and fundamentals in an otherwise standard New-Keynesian model. We show that, because the commitment type of the central bank is unobserved, agreement on the future path of interest rates can coexist with disagreement on the length of the trap. Such heterogeneity of beliefs can strongly mitigate the effectiveness of forward guidance. It also alters the optimal policy at the zero lower bound compared to a situation where beliefs are homogenous.
    Date: 2016
  22. By: Dennis Bonam; Bart Hobijn
    Abstract: Earlier studies on the equilibrium properties of standard dynamic macroeconomic models have shown that an inflation-targeting central bank imposes strict budgetary requirements on fiscal policy needed to obtain a unique and stable equilibrium. The failure of only one fiscal authority within a monetary union to meet these requirements already results in non-existence of equilibrium and an unstable monetary union. We show that such outcomes can be averted if fiscal authorities can make a credible commitment to switch to more sustainable fiscal regimes in the future. In addition, we illustrate how alternative policy measures, such as fiscal bailouts and debt monetization by the central bank, also broaden the range of policy stances under which monetary unions are stable.
    Keywords: Markov switching; monetary union; equilibrium stability and uniqueness; monetary-fiscal interactions
    JEL: E62 E63
    Date: 2016–10
  23. By: Jonathan A. Attey (Erasmus University Rotterdam, The Netherlands); Casper G. de Vries (Erasmus University Rotterdam, The Netherlands)
    Abstract: Empirical estimations suggest heavy-tailed unconditional distributions for inflation, the output gap and the interest rate. However, standard NK models used in policy analysis imply normal distributions for these variables. In this study, we propose a model which replicates the above mentioned empirical features of inflation,the output gap and the interest rate and subsequently investigate the conduct of monetary policy in this model. The novelty of this study is the introduction of random wage indexation as a source of multiplicative shocks. The findings of this study include the following: Firstly, the unconditional distributions of inflation, the output gap and the interest rates exhibit heavy-tailed characteristics. Secondly, under an indexation to lagged inflation scheme, there exists a positive relationship between expected inflation and conditional variance of inflation. Finally, it is better to target current inflation rather than lagged inflation when conducting monetary policy under a Taylor rule.
    Keywords: Wage Indexation; Monetary Policy
    JEL: E31 E40 E52
    Date: 2016–10–17
  24. By: Bassetto, Marco (Federal Reserve Bank of Chicago); Benzoni, Luca (Federal Reserve Bank of Chicago); Serrao, Trevor (Federal Reserve Bank of Chicago)
    Abstract: We study the interplay between monetary policy and financial conditions shocks. Such shocks have a significant and similar impact on the real economy, though with different degrees of persistence. The systematic fed funds rate response to a financial shock contributes to bringing the economy back towards trend, but a zero lower bound on policy rates can prevent this from happening, with a significant cost in terms of output and investment. In a retrospective analysis of the U.S. economy over the past 20 years, we decompose the realization of economic variables into the contributions of financial, monetary policy, and other shocks.
    Keywords: Excess bond premium; financial conditions; monetary policy; zero lower bound
    JEL: E44 E52 G28
    Date: 2016–10–17
  25. By: Aliaga-Díaz, Roger (The Vanguard Group, Inc); Olivero , María Pía (Drexel University); Powell, Andrew (Research Department Inter-American Development Bank and Universidad Torcuato di Tella)
    Abstract: The financial crisis of 2008/09 revived attention given to credit booms and busts and bank credit pro-cyclicality. The regulation guidelines of Basel III attempt to improve the quality of bank capital and explicitly includes a capital buffer to address cyclicality. In this paper we study the interaction between cyclical capital rules and alternative types of monetary policy in the context of a dynamic stochastic general equilibrium model. We find that: First, capital requirements amplify the effects of various exogenous shocks. Second, anti-cyclical requirements (as in Basel III) indeed, and as intended by the regulation, have important stabilization properties relative to the case of constant requirements (as in Basel I). This is true for all types of fluctuations that we study, which include those caused by productivity, demand-side, preference and monetary shocks. The quantitative results are sensitive to the size of the capital buffer (over minimum requirements) optimally held by banks. In particular, with reasonably large buffers, the economy behaves just as when there is no regulation, in which case a very strongly cyclical capital rule would be required to have significant effects.
    Keywords: Credit crunch; cyclical capital requirements; monetary policy; business cycles
    JEL: E32 E44
    Date: 2016–09–01
  26. By: Ferre De Graeve (Department of Economics, KU Leuven); Konstantinos Theodoridis (Bank of England)
    Abstract: During the Great Recession numerous central banks have implemented various unconventional monetary policy measures. This paper aims to empirically evaluate two particular types of unconventional policies (forward guidance and quantitative easing)in a structural manner. The primary aim is to evaluate the policies jointly, to mitigate concerns that empirical evaluation of either policy in isolation is prone to at leastpartially absorb the effects of the other - typically simultaneously implemented - policy. The approach is structural to overcome inherent empirical difficulties in evaluating policies, e.g. in the wake of anticipation. The model is estimated for the US (1975-2015) and sheds light on the historical real effects of the government debt maturity structure as well as the contribution of Fed policy through its maturity policy during the crisis.
    Keywords: Unconventional monetary policy, quantitative easing, forward guidance
    JEL: E40 E43 E52 E58 E63
    Date: 2016–10
  27. By: Agnès Benassy-Quere (PSE - Paris School of Economics, CES - Centre d'économie de la Sorbonne - UP1 - Université Panthéon-Sorbonne - CNRS - Centre National de la Recherche Scientifique)
    Abstract: The euro, in spite of having many of the required attributes put forward by the theoretical literature and past experience, has failed to fulfill all the criteria that would enable it to rival the dollar as an international currency. This does not mean that the euro cannot achieve a status similar to that of the dollar; however, the window of opportunity may not last much more than a decade before the renminbi overtakes the euro. European monetary unification has never explicitly sought for its currency to gain an international status. This makes sense insofar as the key elements required for the euro to expand internationally are also those to be pursued internally: GDP growth; a fiscal backing to the single currency; a deep, liquid and resilient capital market; and a unified external representation of the euro area.
    Keywords: Euro area
    Date: 2015–04
  28. By: Ranaldo, Angelo; Rupprecht, Matthias
    Abstract: This paper provides the first systematic study of the temporal and cross-sectional variation in the risk premium of the expectations hypothesis. Using a unique and comprehensive data set of short-term European repo rates, we explain the sources and the time variation affecting the risk premium. Our results from unconditional and conditional analyses show that the expectations hypothesis cannot be rejected when repos constitute riskless loans. By contrast, the expectations hypothesis is violated when interest rates are affected by funding risk and collateral risk. Securing loans with safe collateral and unconventional monetary policy can substantially reduce risk premiums, thus supporting the validity of the expectations hypothesis.
    Keywords: Expectations hypothesis, interest rates, risk premium, monetary policy, repo
    JEL: D01 E43 E52 G10 G21
    Date: 2016–10
  29. By: Galo Nuño (Banco de España); Carlos Thomas (Banco de España)
    Abstract: Incomplete markets models with heterogeneous agents are increasingly used for policy analysis. We propose a novel methodology for solving fully dynamic optimal policy problems in models of this kind, both under discretion and commitment. We illustrate our methodology by studying optimal monetary policy in an incomplete-markets model with non-contingent nominal assets and costly inflation. Under discretion, an inflationary bias arises from the central bank’s attempt to redistribute wealth towards debtor households, which have a higher marginal utility of net wealth. Under commitment, this inflationary force is countered over time by the incentive to prevent expectations of future inflation from being priced into new bond issuances; under certain conditions, long run inflation is zero as both effects cancel out asymptotically. For a plausible calibration, we find that the optimal commitment features first-order initial inflation followed by a gradual decline towards its (near zero) long-run value. Welfare losses from discretionary policy are first-order in magnitude, affecting both debtors and creditors.
    Keywords: optimal monetary policy, commitment and discretion, incomplete markets, nominal debt, inflation, redistributive effects, continuous time
    JEL: E5 E62 F34
    Date: 2016–10
  30. By: Hajime Tomura (Faculty of Political Science and Economics, Waseda University)
    Abstract: This paper presents a three-period model to analyze the need for bank reserves in the presence of other liquid assets like Treasury securities. If a pair of banks settle bank transfers without bank reserves, they must prepare extra liquidity for interbank payments, because depositors' demand for timely payments causes a hold-up problem in the bilateral settlement of bank transfers. In light of this result, the interbank payment system provided by the central bank can be regarded as an implicit interbank settlement contract to save liquidity. The central bank is necessary for this contract as the custodian of collateral. Bank reserves can be characterized as the balances of liquid collateral submitted by banks to participate into this contract. This result explains the rate-of-return dominance puzzle and the need for substitution between bank reserves and other liquid assets simultaneously. The optimal contract is the floor system, not only because it pays interest on bank reserves, but also because it eliminates the over- the-counter interbank money market. The model indicates it is efficient if all banks share the same custodian of collateral, which justifies the current practice that a public institution provides the interbank payment system.
    Keywords: bank reserves; large value payment system; interbank money market; clear- ing house; collateral; legal tender.
    JEL: E41 E42
    Date: 2015–08
  31. By: Stefan Behrendt (School of Economics and Business Administration, Friedrich Schiller University Jena)
    Abstract: Empirical estimations of the drivers for loan extension mainly apply the outstanding stock of bank credit as the dependent variable. This paper picks up the critique of Behrendt (2016), namely that such estimations may lead to misleading results, as the change of the stock is not only driven by extended loans, but also by repayments, write-downs, revaluations and securitisation activity. This paper specifically applies a variable of new credit extensions for eight Euro area countries in a simultaneous equation panel model to evaluate potential determinants for credit extension, and compares the findings with a conventional specification using the outstanding stock. It is found that the new lending variable performs exceedingly better in respect to the underlying theory than the stock variable. This result has vast implications for the conduct of monetary policy while looking at credit trends. As most determinants have different coefficients, not only by magnitude, but also by significance and sign, central banks might react in a different way to changing trends in lending when looking at the stock variable rather than the underlying credit extension.
    Keywords: credit channel, monetary transmission, bank lending
    JEL: C18 C82 E51 E52
    Date: 2016–10–18
  32. By: Eric Mengus (HEC Paris); Jean Barthelemy (Sciences Po.)
    Abstract: This paper argues that central bankers can raise inflation to signal their ability to commit to forward guidance policies. As inflation can be stabilized in normal times either because of central banker’s commitment ability or because of his aversion to inflation, the private sector is unable to infer the central banker’s type from observing stable inflation before a liquidity trap, jeopardizing the efficiency of forward guidance policy. We derive optimal policy in a new-Keynesian model subject to liquidity traps where agents are uncertain about the central banker’s type and we show that the central banker with commitment ability can signal its type by raising inflation before a trap. The corresponding level of signaling inflation increases with the frequency, the severity as well as with the length of liquidity traps. Finally, we show that this signaling motive can explain level of inflation well above 2%.
    Date: 2016
  33. By: Ricardo J. Caballero; Alp Simsek
    Abstract: Gross capital flows are very large and highly cyclical. They are a central aspect of global liquidity creation and destruction. They also exhibit rich internal dynamics that shape fluctuations in domestic liquidity, such as the fickleness of foreign capital inflows and the retrenchment of domestic capital outflows during crises. In this paper we provide a model that builds on these observations to address some of the main questions and concerns in the capital flows literature. Within this model, we find that for symmetric economies, the liquidity provision aspect of capital flows vastly outweighs their fickleness cost, so that taxing capital flows, while could prove useful for a country in isolation, backfires as a global equilibrium outcome. However, if the system is heterogeneous and includes economies with abundant (DM) and with limited (EM) natural domestic liquidity, there can be scenarios when global liquidity uncertainty is high and EM's reach for safety can destabilize DMs, as well as risk-on scenarios in which DM's reach for yield can destabilize EMs.
    JEL: E3 E4 F3 F4 F6 G1
    Date: 2016–10
  34. By: Marco Capasso; Alessio Moneta
    Abstract: This study investigates the effects of a monetary policy shock on real output and prices, by means of a novel distribution-free nonrecursive identification scheme for structural vector autoregressions. Structural shocks are assumed to be mutually independent. The identification procedure is agnostic in Uhlig[2005]'s sense, since the response of output to a monetary shock is not restricted. Moreover, assuming mutual independence of the shocks allows us to impose no additional constraints derived from economic theory.
    Keywords: Structural Models, Vector Autoregressions, Independent Component Analysis, Identification, Monetary Policy
    Date: 2016–10–24
  35. By: Milena Kabza; Konrad Kostrzewa
    Abstract: In the run up to the financial crisis of 2007-2009 many emerging market economies, including Poland, were affected by considerable inflows of capital – capital that their financial systems found difficult to absorb. One of a number of policy options to respond to such inflows are currency-based measures (CBMs) directed at banks that are, in principle, motivated by (macro-)prudential concerns. These measures are bank regulations that apply a discrimination on the basis of the currency of an operation, typically foreign currencies. This paper presents and analyses a dataset of CBMs directed at banks in Poland between 2005 and 2013. We denote the motivations for imposing CBMs and assess their effectiveness by measuring their impact on capital flows. We find that there is evidence of negative impact of CBMs on capital inflows in the first quarter after the measure starts to be in effect. It means that actions have targeted capital inflows – despite the declared (macro-)prudential purpose of the measures. However, we also find that the model implies a stronger effect when the variable of unweighted CBMs is used. Moreover, the model implies a strong relationship between capital inflows and the exchange rate. However, we do not find the impact of CBMs on the exchange rate.
    Keywords: foreign currency-related measures, currency-based measures, currency risk, macro-prudential policy, capital flows, banking regulation, financial stability
    JEL: F3 F65 G21 G28 G32
    Date: 2016
  36. By: Jean-Yves Gnabo (Université de Namur); Nicolas K. Scholtes (European Central Bank & Université de Namur)
    Abstract: We develop a DSGE model incorporating a banking sector comprising 4 banks connected in a stylised network representing their interbank exposures. The micro-founded framework allows inter alia for endogenous bank defaults and bank capital requirements. In addition, we introduce a central bank who intervenes directly in the interbank market through liquidity injections. Model dynamics are driven by standard productivity as well as banking sector shocks. In our simulations, we incorporate four different interbank network structures: Complete, cyclical and two variations of the coreperiphery topology. Comparison of interbank market dynamics under the different topologies reveals a strong stabilising role played by the complete network while the remaining structures show a non-negligible shock propagation mechanism. Finally, we show that central bank interventions can counteract negative banking shocks with the effect depending again on the network structure.
    Keywords: Interbank network, DSGE model, banking, liquidity injections
    JEL: D85 E32 E44 E52 G21
    Date: 2016–10
  37. By: Shigeto Kitano (Research Institute for Economics & Business Administration (RIEB), Kobe University, Japan); Kenya Takaku (Faculty of Business, Aichi Shukutoku University)
    Abstract: We develop a small open economy model with financial frictions between domestic banks and foreign investors, and examine the welfare-improving effect of capital controls. We show that capital controls are effective in addressing the amplification effect due to financial frictions. As the degree of financial frictions increases, the welfare-improving effect of capital controls becomes larger. The monotonic relationship between the degree of financial frictions and the welfare-improving effect of capital controls is robust for varying degrees of country premium, home bias in goods, and trade elasticity. Comparing two economies, one with and one without "liability dollarization," we also find that the welfare-improving effect of capital controls is larger in the presence of "liability dollarization."
    Keywords: Capital control, Financial frictions, Financial intermediaries, Balance sheets, Small open economy, Liability dollarization, DSGE, Welfare
    JEL: E69 F32 F38 F41
    Date: 2016–10

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