nep-mon New Economics Papers
on Monetary Economics
Issue of 2017‒08‒13
seventeen papers chosen by
Bernd Hayo
Philipps-Universität Marburg

  1. The Effect of the Fed's Large-scale Asset Purchases on Inflation Expectations By Willem THORBECKE
  2. The FOMC Meeting Minutes : An Update of Counting Words By Melanie Josselyn; Ellen E. Meade
  3. The Tradeoffs in Leaning Against the Wind By François Gourio; Anil K Kashyap; Jae Sim
  4. Fixed on Flexible: Rethinking Exchange Rate Regimes after the Great Recession By Corsetti, Giancarlo; Kuester, Keith; Müller, Gernot
  5. Misallocation Costs of Digging Deeper into the Central Bank Toolkit By Robert J. Kurtzman; David Zeke
  6. Uphill Capital Flows and the International Monetary System By Balazs Csonto; Camilo E Tovar Mora
  7. Central Bank Emergency Support to Securities Markets By Darryl King; Luis Brandao-Marques; Kelly Eckhold; Peter Lindner; Diarmuid Murphy
  8. No-arbitrage Determinants of Japanese Government Bond Yield and Credit Spread Curves By OKIMOTO Tatsuyoshi; TAKAOKA Sumiko
  9. Price Stickiness and Intermediate Materials Prices By Ahmed Jamal Pirzada
  10. Money-Multiplier Shocks By Luca Benati; Peter N. Ireland
  11. "An Inquiry Concerning Long-term US Interest Rates Using Monthly Data" By Tanweer Akram; Huiqing Li
  12. Interest Rates Under Falling Stars By Bauer, Michael D.; Rudebusch, Glenn D.
  13. Monetary Policy in the Capitals of Capital By Elena Gerko; Hélène Rey
  14. The Re-Emerging Privilege of Euro Area Membership By Johannes Wiegand
  15. Central Bank Balance Sheet Policies and Spillovers to Emerging Markets By Manmohan Singh; Haobin Wang
  16. Leaning Against Windy Bank Lending By Giovanni Melina; Stefania Villa
  17. Designing a Simple Loss Function for Central Banks; Does a Dual Mandate Make Sense? By Davide Debortoli; Jinill Kim; Jesper Lindé; Ricardo C Nunes

  1. By: Willem THORBECKE
    Abstract: In 2008, U.S. demand collapsed and triggered deflation. The U.S. Federal Reserve (Fed) employed large-scale asset purchases (LSAP) to fight deflation. How did news of LSAP affect inflationary expectations? If investors believed that LSAP would raise inflation, they would sell assets exposed to inflation and purchase inflation hedges. This would lower the prices of assets that are exposed to inflation and raise the prices of assets that benefit from inflation. Examining the relationship between asset price changes and inflation sensitivities can thus shed light on how financial markets process LSAP news. The results indicate that initially LSAP announcements lowered expected inflation. Only as inflation approached its target did news of LSAP raise expected inflation.
    Date: 2017–07
  2. By: Melanie Josselyn; Ellen E. Meade
    Abstract: An earlier Feds note provided information about the structure of the FOMC meeting minutes and the use of "quantitative" or "counting" words to characterize the number of policymakers aligned with particular views. This note extends that analysis through 2016.
    Date: 2017–08–03
  3. By: François Gourio; Anil K Kashyap; Jae Sim
    Abstract: Credit booms sometimes lead to financial crises which are accompanied with severe and persistent economic slumps. Does this imply that monetary policy should “lean against the wind” and counteract excess credit growth, even at the cost of higher output and inflation volatility? We study this issue quantitatively in a standard small New Keynesian dynamic stochastic general equilibrium model which includes a risk of financial crisis that depends on “excess credit”. We compare monetary policy rules that respond to the output gap with rules that respond to excess credit. We find that leaning against the wind may be attractive, depending on several factors, including (1) the severity of financial crises; (2) the sensitivity of crisis probability to excess credit; (3) the volatility of excess credit; (4) the level of risk aversion.
    JEL: E52 E58 G28
    Date: 2017–08
  4. By: Corsetti, Giancarlo; Kuester, Keith; Müller, Gernot
    Abstract: The zero lower bound problem during the Great Recession has exposed the limits of monetary autonomy, prompting a reevaluation of the relative benefits of currency pegs and monetary unions (see e.g. Cook and Devereux, 2016). We revisit this issue from the perspective of a small open economy. While a peg can be beneficial when the recession originates domestically, we show that a float dominates in the face of deflationary demand shocks abroad. When the rest of the world is in a liquidity trap, the domestic currency depreciates in nominal and real terms even in the absence of domestic monetary stimulus (if domestic rates are also at the zero lower bound) -- enhancing the country's competitiveness and insulating to some extent the domestic economy from foreign deflationary pressure.
    Keywords: Benign coincidence; Currency union; Exchange rate; Exchange rate peg; external shock; Fiscal Multiplier; great recession; zero lower bound
    JEL: E31 F41 F42
    Date: 2017–08
  5. By: Robert J. Kurtzman; David Zeke
    Abstract: Central bank large-scale asset purchases, particularly the purchase of corporate bonds of nonfinancial firms, can induce a misallocation of resources through their heterogeneous effect on firms cost of capital. First, we analytically demonstrate the mechanism in a static model. We then evaluate the misallocation of resources induced by corporate bond buys and the associated output losses in a calibrated heterogeneous firm New Keynesian DSGE model. The calibrated model suggests misallocation effects from corporate bond buys can be large enough to make them less effective than government bond buys, which is not the case without accounting for misallocation effects.
    Keywords: QE ; LSAPs ; Misallocation
    JEL: E22 E51 E52 G21
    Date: 2017–08–03
  6. By: Balazs Csonto; Camilo E Tovar Mora
    Abstract: Uphill capital flows constitute a key transmission channel through which reserve accumulation can distort the stability of the international monetary system. This paper examines and quantifies the importance of this transmission channel by examining how foreign official purchases of U.S. Treasuries influences the U.S. yield curve at different maturities. Our findings suggest that a percentage point increase in foreign official holdings relative to outstanding marketable securities reduces the term premium by 2.0–2.4 basis points at maturities of 2–3 years. These estimates are then used to gauge the role of a global policy in reducing excess reserve accumulation?e.g., a composite global reserve asset or through global liquidity facilities. Findings show that a policy that reduces the demand for Treasuries by $100 billion would increase yields by 1.5–1.8 basis points.
    Date: 2017–07–26
  7. By: Darryl King; Luis Brandao-Marques; Kelly Eckhold; Peter Lindner; Diarmuid Murphy
    Abstract: This paper considers the central bank mandate with respect to financial stability and identifies the links to the functioning of securities markets. It argues that while emergency support to securities markets is an important part of the crisis management response, a high bar should be set for its use. Importantly, it should be used only as part of a comprehensive policy package. The paper considers what types of securities markets may be important for financial stability, what market conditions could trigger emergency support measures, and how programs can be designed to restore market functioning while minimizing moral hazard.
    Keywords: Liquidity;Central banks and their policies;Lender-of-last resort, market maker of last resort, fire sales, and financial stability, financial stability, Government Policy and Regulation
    Date: 2017–07–10
  8. By: OKIMOTO Tatsuyoshi; TAKAOKA Sumiko
    Abstract: We introduce an affine term structure model with observed macroeconomic factors for the government bond yield and credit spread curves. Empirical results based on the model selection using Japanese data demonstrate that the government bond yield and credit spread curves are dominated by monetary policy and suggest that the flight-to-quality behavior considerably affects the government bond yield. In addition, our results indicate that global economic forces, such as the U.S. Treasury yield and Baa-Aaa credit spread, play a major role in the joint dynamics of government yield and credit spread curves, complementing a growing body of literature explaining what drives the yield and credit spread curves. Our contemporaneous response and historical decomposition analyses find that monetary policy and global economic and financial forces have large impacts on all maturities and curves.
    Date: 2017–07
  9. By: Ahmed Jamal Pirzada
    Abstract: The standard New Keynesian model requires large degree of price stickiness to match observed inflation dynamics. This is contrary to micro-evidence on prices. This paper addresses this criticism of the standard model. Firstly, the price mark-up shock is replaced with a sector-specific intermediate input-price shock. Secondly, survey data on long-term inflation expectations are also used when estimating the new model. Estimation results show that marginal costs in the model with intermediate materials are stable unlike in the model without. As a result, the new model does not require a large degree of price stickiness to match marginal costs and observed inflation. The model is estimated for both the US and the Euro area, thus showing that this result is not specific to the US only.
    Date: 2017–08–01
  10. By: Luca Benati (University of Bern); Peter N. Ireland (Boston College)
    Abstract: Shocks to the M1 multiplier–in particular, shocks to the reserves/deposits ratio–played a key role in driving U.S. macroeconomic fluctuations during the interwar period, but their role in the post-WWII era has been almost uniformly negligible. The only exception are shocks to the currency/deposits ratio, which played a sizeable role for inflation and M1 velocity. By contrast, shocks to the multiplier of the non-M1 component of M2, which had been irrelevant in the interwar period, have played a significant role in driving the nominal side of the economy during the post-WWII period up to the collapse of Lehman Brothers, in particular during the Great Inflation episode. During either period, the multiplier of M2-M1 has been cointegrated with the short rate. The monetary base had exhibited a non-negligible amount of permanent variation during the interwar period, whereas it has been trend-stationary during the post-WWII era. In spite of the important role played by shocks to the multiplier of M2-M1 during the post-WWII period, we still detect a non-negligible role for a nonmonetary permanent inflation shock, which has the natural interpretation of a disturbance originating from the progressive de-anchoring of inflation expectations which started in the mid-1960s, and their gradual re-anchoring following the beginning of the Volcker disinflation.
    Keywords: Money multiplier; money demand; Lucas critique; structural VARs; unit roots; cointegration; long-run restrictions.
    JEL: E31 E32 E41 E42 E51 E52 E58
    Date: 2017–08–01
  11. By: Tanweer Akram; Huiqing Li
    Abstract: This paper undertakes an empirical inquiry concerning the determinants of long-term interest rates on US Treasury securities. It applies the bounds testing procedure to cointegration and error correction models within the autoregressive distributive lag (ARDL) framework, using monthly data and estimating a wide range of Keynesian models of long-term interest rates. While previous studies have mainly relied on quarterly data, the use of monthly data substantially expands the number of observations. This in turn enables the calibration of a wide range of models to test various hypotheses. The short-term interest rate is the key determinant of the long-term interest rate, while the rate of core inflation and the pace of economic activity also influence the long-term interest rate. A rise in the ratio of the federal fiscal balance (government net lending/borrowing as a share of nominal GDP) lowers yields on long-term US Treasury securities. The short- and long-run effects of short-term interest rates, the rate of inflation, the pace of economic activity, and the fiscal balance ratio on long-term interest rates on US Treasury securities are estimated. The findings reinforce Keynes's prescient insights on the determinants of government bond yields.
    Keywords: Government Bond Yields; Long-term Interest Rates; Short-term Interest Rates; Monetary Policy; Central Bank; John Maynard Keynes
    JEL: E43 E50 E58 E60 G10 G12
    Date: 2017–08
  12. By: Bauer, Michael D. (Federal Reserve Bank of San Francisco); Rudebusch, Glenn D. (Federal Reserve Bank of San Francisco)
    Abstract: Theory predicts that the equilibrium real interest rate, r*, and the perceived trend in inflation, pi*, are key determinants of the term structure of interest rates. However, term structure analyses generally assume that these endpoints are constant. Instead, we show that allowing for time variation in both r* and pi* is crucial for understanding the empirical dynamics of U.S. Treasury yields and risk pricing. Our evidence reveals that accounting for fluctuations in both r* and pi* substantially increases the accuracy of long-range interest rate forecasts, helps predict excess bond returns, improves estimates of the term premium in long-term interest rates, and captures a substantial share of interest rate variability at low frequencies.
    JEL: E43 E44 E47
    Date: 2017–07–10
  13. By: Elena Gerko; Hélène Rey
    Abstract: The importance of financial markets and international capital flows have increased greatly since the 1990s. How does this affect the effectiveness of monetary policy? We analyse the transmission of monetary policy in two important financial centres, the United States and the United Kingdom. Studying the responses of mortgage and corporate spreads we find evidence in favour of an important financial channel in both countries. Our identification strategy allows us to study movements in the policy rates and the effect of forward guidance, broadly defined. We also analyse international financial spillovers, which we find to be asymmetric.
    JEL: E4 E52 E58 F41 G15
    Date: 2017–08
  14. By: Johannes Wiegand
    Abstract: When the euro was introduced in 1998, one objective was to create an alternative global reserve currency that would grant benefits to euro area countries similar to the U.S. dollar’s “exorbitant privliege”: i.e., a boost to the perceived quality of euro denominated assets that would increase demand for such assets and reduce euro area members’ funding costs. This paper uses risk perceptions as revelaed in investor surveys to extract a measure of privilege asscociated with euro membership, and traces its evolution over time. It finds that in the 2000s, euro area assets benefited indeed from a significant perceptions premium. While this premium disappeared in the wake of the euro crisis, it has recently returned, although at a reduced size. The paper also produces time-varying estimates of the weights that investors place on macro-economic fundmentals in their assessments of country risk. It finds that the weights of public debt, the current account and real growth increased considerably during the euro crisis, and that these shifts have remained in place even after the immediate financial stress subsided.
    Keywords: Euro;Euro Area;euro crisis, exorbitant privilege, investor perceptions, exorbitant privlege, General
    Date: 2017–07–18
  15. By: Manmohan Singh; Haobin Wang
    Abstract: We develop a theoretical model that shows that in the near future, the monetary policies of some key central banks in advanced economies (AEs) will have two dimensions—changes in short-term policy rates and balance sheet adjustments. This will affect emerging market economies (EMs), especially those with a pegged exchange rate, as these EMs primarily use a single monetary policy tool, i.e., the short-term policy rate. We show that changes in policy rates and balance sheet adjustments in AEs may differ in their respective financial spillovers to pegged EMs. Thus, it will be difficult for EMs to mitigate different types of spillovers with a single monetary policy tool. In that context, we use the model to show how EMs might use additional tools—capital controls and/or macro-prudential policy—to complement their monetary policy and financial stability toolkit. We also discuss how balance sheet adjustments that affect long-term interest rates may percolate to influence short-term interest rates via financial plumbing.
    Date: 2017–07–25
  16. By: Giovanni Melina; Stefania Villa
    Abstract: Using an estimated dynamic stochastic general equilibrium model with banking, this paper first provides evidence that monetary policy reacted to bank loan growth in the US during the Great Moderation. It then shows that the optimized simple interest-rate rule features no response to the growth of bank credit. However, the welfare loss associated to the empirical responsiveness is small. The sources of business cycle fluctuations are crucial in determining whether a “leaning-against-the-wind” policy is optimal or not. In fact, the predominant role of supply shocks in the model gives rise to a trade-off between inflation and financial stabilization.
    Date: 2017–07–31
  17. By: Davide Debortoli; Jinill Kim; Jesper Lindé; Ricardo C Nunes
    Abstract: Yes, it makes a lot of sense. This paper studies how to design simple loss functions for central banks, as parsimonious approximations to social welfare. We show, both analytically and quantitatively, that simple loss functions should feature a high weight on measures of economic activity, sometimes even larger than the weight on inflation. Two main factors drive our result. First, stabilizing economic activity also stabilizes other welfare relevant variables. Second, the estimated model features mitigated inflation distortions due to a low elasticity of substitution between monopolistic goods and a low interest rate sensitivity of demand. The result holds up in the presence of measurement errors, with large shocks that generate a trade-off between stabilizing inflation and resource utilization, and also when ensuring a low probability of hitting the zero lower bound on interest rates.
    Keywords: Central banks and their policies;Central banks' objectives, simple loss function, monetary policy design, sticky prices and sticky wages, DSGE models, Central banks’ objectives, Time-Series Models
    Date: 2017–07–19

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