nep-mon New Economics Papers
on Monetary Economics
Issue of 2018‒10‒01
twenty papers chosen by
Bernd Hayo
Philipps-Universität Marburg

  1. The role of central bank knowledge and trust for the public's inflation expectations By Mellina, Sathya; Schmidt, Tobias
  2. Measuring the Signaling Effect of the ECB’s Asset Purchase Programme at the Effective Lower Bound By Zhou, Siwen
  3. The boundaries of central bank independence: Lessons from unconventional times By Orphanides, Athanasios
  4. The Costs of Macroprudential Policy By Björn Richter; Moritz Schularick; Ilhyock Shim
  5. Estimating the Effective Lower Bound for the Czech National Bank’s Policy Rate By Dominika Kolcunova; Tomas Havranek
  6. Monetary Policy and Long-Run Systemic Risk-Taking By Gilbert Colletaz; Grégory Levieuge; Alexandra Popescu
  7. Macroeconomic Policies and Transmission Dynamics in India By Kapur, Muneesh
  8. Interest rate rules under financial dominance By Lewis, Vivien; Roth, Markus
  9. Commodity Prices, Monetary Policy and the Taylor Rule By Siami-Namini, Sima; Hudson, Darren; Trindade, A. Alexandre; Lyford, Conrad
  10. Excess liquidity and bank lending risks in the euro area By Zsolt Darvas; David Pichler
  11. A Neoclassical Theory of Liquidity Traps By Sebastian Di Tella
  12. TIIE-28 Swaps as Risk-Adjusted Forecasts of Monetary Policy in Mexico By García-Verdú Santiago; Ramos Francia Manuel; Sánchez-Martínez Manuel
  13. Missing Events in Event Studies: Identifying the Effects of Partially-Measured News Surprises By Refet S. Gürkaynak; Burçin Kısacıkoğlu; Jonathan H. Wright
  14. Discouraging Deviant Behavior in Monetary Economics By Lawrence Christiano; Yuta Takahashi
  15. Probability Forecast Using Fan Chart Analysis: A case of the Sierra Leone Economy By Jackson, Emerson Abraham; Tamuke, Edmund
  16. Inflation Expectations and Nonlinearities in the Phillips Curve By Alexander Doser; Ricardo Nunes; Nikhil Rao; Viacheslav Sheremirov
  17. Adapting lending policies when negative interest rates hit banks’ profits By Óscar Arce; Miguel García-Posada; Sergio Mayordomo; Steven Ongena
  18. Political Stabilization by an independent Central Bank By Francesco Salsano
  19. Exchange Rate Pass-Through to Consumer Prices and the Role of Energy Prices By Hyeongwoo Kim; Ying Lin
  20. Forward Guidance is More Powerful Than You Think By Adrien Auclert; Ludwig Straub; Matthew Rognlie

  1. By: Mellina, Sathya; Schmidt, Tobias
    Abstract: Since the financial crisis, central banks have stressed the role of trust and communication in connection with their objectives and strategies for aligning the public's inflation expectations with their own and, consequently, improving the effectiveness of monetary policy. Assessing how much the general public knows about and trust in central banks and how these factors influence inflation expectations is thus important. We shed light on these issues by relying on a representative survey conducted among individuals living in Germany. Although most respondents assume that they have a good or very good knowledge of the ECB and the Bundesbank, only about 20 percent cite "price stability" when asked directly about the two central banks' objectives. Knowledge of the ECB's and the Bundesbank's goals act as significant drivers of trust in these institutions, however. And greater trust in the ECB and Bundesbank, in turn, lowers individuals' inflation expectations. More specifically, having greater trust increases the probability of expecting unchanged prices and decreases the likelihood of expecting either slightly or sharply rising prices over the medium term. Interestingly, awareness of price stability as the primary objective of the ECB's monetary policy does not seem to affect inflation expectations directly once we control for trust, individuals' socio-demographic characteristics and their interest in economic topics. Our study indicates that central banks can influence households' inflation expectations through building trust and educating the public about their targets.
    Keywords: Inflation Expectations,Trust,Economic Knowledge,Central Bank Communications,European Central Bank,Deutsche Bundesbank
    JEL: D12 D84 E52 E58
    Date: 2018
  2. By: Zhou, Siwen
    Abstract: This paper analyses the signaling effect of the European Central Bank’s (ECB) statements related to its asset purchase programme (APP) on market expectations for the future path of short-term interest rates in the euro area. Considering a broad set of event days and daily changes in euro area stock indices as surprise reactions to the statements, an event-study analysis is employed to capture the changes in country-specific short-term interest rate expectations, as extracted from an effective lower bound (ELB) consistent shadow-rate term structure model. The empirical results generally support the presence of signaling effects in the euro area, but the estimated effectiveness of the channel has a considerable degree of uncertainty. Regarding country-specific differences, the reaction of interest rate expectations in the periphery countries tends to be stronger for dovish APP statement surprises, and thus these countries may benefit more from the signaling channel. Lastly, the responses of interest rate expectations to APP statement surprises are found to vary considerably depending on the identification strategy of the APP statements, which ultimately shows that these conclusions based on the empirical results are likely to be fragile.
    Keywords: Quantitative Easing, Asset Purchase Programme, European Central Bank, Shadow-Rate Term Structure Model, Signaling Channel
    JEL: C54 E43 E52 G15
    Date: 2018
  3. By: Orphanides, Athanasios
    Abstract: What institutional arrangements for an independent central bank with a price stability mandate promote good policy outcomes when unconventional policies become necessary? Unconventional monetary policy poses challenges. The large scale asset purchases needed to counteract the zero lower bound on nominal interest rates have uncomfortable fiscal and distributional consequences and require central banks to assume greater risks on their balance sheets. Lack of clarity on the precise definition of price stability, coupled with concerns about the legitimacy of large balance sheet expansions, hinders policy: It encourages the central bank to eschew the decisive quantitative easing needed to reflate the economy and instead to accommodate too-low inflation. The experience of the Bank of Japan's encounter with the zero lower bound suggests important benefits from a clear definition of price stability as a symmetric 2% goal for inflation, which the Bank adopted in 2013.
    Keywords: Bank of Japan,Federal Reserve,ECB,zero lower bound,quantitative easing,central bank independence,price stability,inflation target,balance sheet risk
    JEL: E52 E58 E61 N15
    Date: 2018
  4. By: Björn Richter; Moritz Schularick; Ilhyock Shim
    Abstract: Central banks increasingly rely on macroprudential measures to manage the financial cycle. However, the effects of such policies on the core objectives of monetary policy to stabilise output and inflation are largely unknown. In this paper, we quantify the effects of changes in maximum loan-to-value (LTV) ratios on output and inflation. We rely on a narrative identification approach based on detailed reading of policy-makers’ objectives when implementing the measures. We find that over a four year horizon, a 10 percentage point decrease in the maximum LTV ratio leads to a 1.1% reduction in output. As a rule of thumb, the impact of a 10 percentage point LTV tightening can be viewed as roughly comparable to that of a 25 basis point increase in the policy rate. However, the effects are imprecisely estimated and the effect is only present in emerging market economies. We also find that tightening LTV limits has larger economic effects than loosening them. At the same time, we show that changes in maximum LTV ratios have substantial effects on credit and house price growth. Using inverse propensity weights to rerandomise LTV actions, we show that these effects are likely causal.
    JEL: E58 G28
    Date: 2018–09
  5. By: Dominika Kolcunova (Institute of Economic Studies, Faculty of Social Sciences, Charles University in Prague, Smetanovo nabrezi 6, 111 01 Prague 1, Czech Republic; Czech National Bank, Na prikope 28, 115 03 Prague 1, Czech Republic); Tomas Havranek (Institute of Economic Studies, Faculty of Social Sciences, Charles University in Prague, Smetanovo nabrezi 6, 111 01 Prague 1, Czech Republic; Czech National Bank, Na prikope 28, 115 03 Prague 1, Czech Republic)
    Abstract: The paper focuses on the estimation of the effective lower bound for the Czech National Bank’s policy rate. The effective lower bound is determined by the value below which holding and using cash would be preferable to deposits with negative yields. This bound is approximated based on storage, insurance and transportation costs of cash and the loss of convenience associated with cashless payments and complemented with the estimate based on interest charges which present direct costs to the bank profitability. Overall we get a mean value slightly below -1%, approxi- mately in the interval (-2.0%, -0.4%). In addition, by means of a vector autoregression we show that the potential of negative rates would not be sufficient to deliver monetary policy easing similar in its effects to the impact of the Czech National Bank’s exchange rate commitment during the years 2013–2017.
    Keywords: effective lower bound, zero lower bound, negative interest rates, costs of cash, transmission of monetary policy
    JEL: E58 E43 E44
    Date: 2018–09
  6. By: Gilbert Colletaz; Grégory Levieuge; Alexandra Popescu
    Abstract: As an extension to the literature on the risk-taking channel of monetary policy, this paper studies the existence of a systemic risk-taking channel (SRTC) in the Eurozone, through an original macroeconomic perspective based on causality measures. Because the SRTC is effective after an “incubation period”, we make a distinction between short and long-term causality, following the methodology proposed by Dufour and Taamouti (2010). We find that causality from monetary policy to systemic risk, while not significant in the very short term, robustly represents 75 to 100% of the total dependence between the two variables in the long run. Reverse causality is rejected: systemic risk did not influence the policy of the European Central Bank before the global financial crisis. However, central banks must be aware that a too loose monetary policy stance may be conducive to a build-up of systemic risk.
    Keywords: Monetary Policy, Systemic Risk-Taking, Long Run Causality, SRisk.
    JEL: E52 E58 G21
    Date: 2018
  7. By: Kapur, Muneesh
    Abstract: Against the backdrop of the move to an inflation targeting monetary policy framework beginning 2014 with consumer price index (CPI) inflation as the nominal anchor, this paper revisits monetary transmission dynamics. Rather than confining to the typical three equation New Keynesian model, this paper assesses transmission in a broader, disaggregated model incorporating external sector, fiscal policy, banking sector and financial market variables to capture the interactions among key macroeconomic policies and macroeconomic aggregates. The empirical analysis confirms the role of monetary policy in containing demand and inflationary pressures. In view of the ongoing structural reforms, deregulation and opening up of the Indian economy, as well as ongoing initiatives in the monetary policy operating framework to improve the efficacy of monetary transmission, the transmission dynamics can be expected to evolve over time.
    Keywords: Bank Credit, Bond Yields, Capital Flows, Current Account, Exchange Rate, Fiscal Policy, India, IS curve, Monetary Policy, Monetary Transmission, Phillips Curve, Structural Econometric Model
    JEL: C30 C53 E31 E32 E43 E52 E58 E63 F31 F32 F41 G21
    Date: 2018–08–21
  8. By: Lewis, Vivien; Roth, Markus
    Abstract: We study the equilibrium properties of a business cycle model with financial frictions and price adjustment costs. Capital-constrained entrepreneurs finance risky projects by borrowing from banks. Banks, in turn, make loans using equity and deposits. Because financial contracts are not contingent on aggregate risk, bank balance sheets are hit when entrepreneurial defaults are higher than expected. Macroprudential policy imposes a positive response of the bank capital ratio to lending. Our main result is that the Taylor Principle is violated when this response is too weak. Then macroprudential policy is ineffective in stabilizing debt and monetary policy is subject to 'financial dominance'. A too aggressive response of the interest rate to inflation can lead to debt disinflation dynamics that destabilize the financial sector.
    Keywords: bank capital,financial dominance,interest rate rule,macroprudential policy,Taylor Principle
    JEL: E32 E44 E52 E58 E61
    Date: 2018
  9. By: Siami-Namini, Sima; Hudson, Darren; Trindade, A. Alexandre; Lyford, Conrad
    Abstract: One way to analyze the impact of commodity price shocks on monetary policy is to think about short-term interest rates set by Fed according to the Taylor rule. Taylor (1993) suggested a policy reaction function for moderating short-term interest rates to achieve the two-fold goals of stabilizing economic growth in the short-term and inflation in the long-term. One important question is why monetary policy makers focus on core inflation instead of headline inflation. Therefore, the main goal of this research article is to study the pattern of monetary policy responses to commodity price shocks derived from an impulse response function (IRF). To do this, we first estimate two individual Taylor rules based on core and headline consumer price index (CPI) inflation by using real-time data of the US economy for the Greenspan years from 1987 to 2006 and predict the residuals. Then, we estimate two regressions for core and headline CPI inflation as our two individual dependent variables against some independent variables including commodity price shocks, and the Taylor rule residuals. At the end, we predict the monetary policy responses to commodity price shocks by using IRF analysis in multivariate systems of a vector autoregression (VAR) model.
    Keywords: Agricultural Finance, Consumer/Household Economics, Financial Economics, Research Methods/ Statistical Methods
    Date: 2018–01–17
  10. By: Zsolt Darvas; David Pichler
    Abstract: This Policy Contribution was prepared for the European Parliament’s Committee on Economic and Monetary Affairs (ECON) as an input to the Monetary Dialogue of 24 September 2018 between ECON and the President of the European Central Bank. Copyright remains with the European Parliament at all times. Excess liquidity (defined as all kinds of commercial bank deposits held by the Eurosystem minus the minimum reserve requirements) in the euro area exceeded €1,900 billion, or 17 percent of euro-area GDP, in September 2018. Holding such excess liquidity is costly for commercial banks, given that the currently negative (-0.4 percent) deposit facility interest rate applies on excess liquidity holdings. The current stock of excess liquidity implies an annual €7.6 billion cost in total for those banks that hold this liquidity. More generally, the European Central Bank’s negative deposit interest rate and asset purchases further reduced market interest rates, with a negative impact on banks’ net interest income and thus profitability. This could incentivise a reach-for-yield race among banks. Additionally, the access to liquidity eased significantly and removed the liquidity constraint for most banks’ lending activities. These factors might incentivise banks to engage in risky lending in order to improve their profits. This in turn might create financial stability risks. The authors clarify the definition of excess liquidity, to highlight the reasons why such a large amount of it is being held, and to assess its financial stability implications.
    Date: 2018–09
  11. By: Sebastian Di Tella (Stanford GSB)
    Abstract: This paper provides an equilibrium theory of liquidity traps and the real effects of money. Money provides a safe store of value that prevents interest rates from falling enough during downturns, and the economy enters a persistent slump with depressed investment. This is an equilibrium outcome—prices are flexible, markets clear, and inflation is on target—but it’s not efficient. Investment is too high during booms and too low during liquidity traps. Although money has large real effects, monetary policy is ineffective—the zero lower bound is not binding, money is superneutral, and Ricardian equivalence holds. The optimal allocation requires the Friedman rule and a tax/subsidy on capital.
    Date: 2018
  12. By: García-Verdú Santiago; Ramos Francia Manuel; Sánchez-Martínez Manuel
    Abstract: Information extracted from financial derivatives on interest rates is commonly used to forecast movements in such rates. Yet, such an extraction generally assumes that agents are risk-neutral. Thus, it might be useful to account for their risk-aversion when doing forecasts. This can be done adding a risk-correction. In this context, we use TIIE-28 swaps to forecast changes in monetary policy in Mexico, using financial variables to account for the risk-correction. We assess whether models with a risk-correction outperform the TIIE-28 swaps rates. Their in-sample explained variability improves when using a risk-correction. Our main model’s out-of-sample forecasts are similar for short horizons (3-month), and statistically better for longer horizons (9 to 24-month), compared to the direct use of TIIE-28 swaps interest rates.
    Keywords: TIIE-28;Swaps;Interest Rates;Expected Monetary Policy
    JEL: E52 G12
    Date: 2018–08
  13. By: Refet S. Gürkaynak; Burçin Kısacıkoğlu; Jonathan H. Wright
    Abstract: Macroeconomic news announcements are elaborate and multi-dimensional. We consider a framework in which jumps in asset prices around macroeconomic news and monetary policy announcements reflect both the response to observed surprises in headline numbers and latent factors, reflecting other details of the release. The details of the non headline news, for which there are no expectations surveys, are unobservable to the econometrician, but nonetheless elicit a market response. We estimate the model by the Kalman filter, which essentially combines OLS- and heteroskedasticity-based event study estimators in one step, showing that those methods are better thought of as complements rather than substitutes. The inclusion of a single latent factor greatly improves our ability to explain asset price movements around announcements.
    JEL: E43 E52 E58 G12 G14
    Date: 2018–09
  14. By: Lawrence Christiano; Yuta Takahashi
    Abstract: We consider a model in which monetary policy is governed by a Taylor rule. The model has a unique equilibrium near the steady state, but also has other equilibria. The introduction of a particular escape clause into monetary policy works like the Taylor principle to exclude the other equilibria. We reconcile our finding about the escape clause with the sharply different conclusion reached in Cochrane (2011). Atkeson et al. (2010) study a different version of the escape clause policy, but that version is fragile in that it lacks a crucial robustness property.
    JEL: E5
    Date: 2018–08
  15. By: Jackson, Emerson Abraham; Tamuke, Edmund
    Abstract: This article made use of ARIMAX methodology in producing probability forecast from Fan Chart analysis for the Sierra Leone economy. In view of the estimation technique used to determine best model choice for outputting the Fan Chart, the outcomes have shown the importance of Exchange Rate variable as an exogenous component in influencing Inflation dynamics in Sierra Leone. The use of Brier Score probability was also used to ascertain the accuracy of the forecast methodology. Despite inflation outcome is showing an upward trend for the forecasted periods, the probability bands (upper and lower) have also revealed the peculiarity of the Sierra Leone economy when it comes to addressing policy measures for controlling spiralling inflation dynamics.
    Keywords: Inflation Forecast; ARIMAX; Fan Chart; Brier Score; Sierra Leone
    JEL: C32 C51 E27 E31 E37
    Date: 2018–08–31
  16. By: Alexander Doser (Northwestern University); Ricardo Nunes (University of Surrey and CIMS); Nikhil Rao (University of Michigan); Viacheslav Sheremirov (Boston Fed)
    Abstract: This paper examines the role of inflation expectations and nonlinearities in the Phillips curve. We find that nonlinearities per se can address the missing disinflation. The estimated model favors two regions, with a flatter slope of the Phillips curve when unemployment is already high. This can explain why during the Great Recession inflation did not decrease as much as predicted by linear models. We also find that consumer expectations can explain the missing disinflation and prove to be a more robust feature of the Phillips curve. Namely, consumer expectations are also key in addressing the Great Inflation in the 1970s and the Volcker disinflation in the 1980s, periods in which nonlinearities have difficulty fitting the data. Our results suggest that both nonlinearities and consumer expectations should be examined jointly and that the latter is a more prevalent feature of the Phillips curve.
    JEL: D84 E24 E31 E32
    Date: 2018–08
  17. By: Óscar Arce (Banco de España); Miguel García-Posada (Banco de España); Sergio Mayordomo (Banco de España); Steven Ongena (University of Zurich, SFI, KU LEUVEN and CEPR)
    Abstract: What is the impact of negative interest rates on bank lending and risk-taking? To answer this question we study the changes in lending policies using both the Euro area Bank Lending Survey and the Spanish Credit Register. Banks whose net interest income is adversely affected by negative rates are concurrently lowly capitalized, take less risk and adjust loan terms and conditions to shore up their risk weighted assets and capital ratios. These banks also increase non-interest charges more. But, importantly, we find no differences in banks’ credit supply or standard setting, neither in the Euro area nor in Spain. These findings suggest that negative rates do not necessarily contract the supply of credit and that the so-called “reversal rate” may not have been reached yet.
    Keywords: negative interest rates, risk taking, lending policies
    JEL: G21 E52 E58
    Date: 2018–09
  18. By: Francesco Salsano (Birkbeck, University of London; Università di Milano)
    Abstract: The paper is an extension of the Gabillon and Martimort model (2004), which studies how the independence of the institution in charge of monetary policy may stabilize inflationary fluctuations due to political uncertainty when the economy is characterized by lobbies that seek to promote their own interests to the detriment of the general interests of society.
    Keywords: Monetary Policy, Central Bank, Partisan politics
    JEL: E58 L51
    Date: 2018–07
  19. By: Hyeongwoo Kim; Ying Lin
    Abstract: A group of researchers has asserted that the rate of exchange rate pass-through (ERPT) to domestic prices has declined substantially over the last few decades. We revisit this claim of a downward trend in the rate of ERPT to the Consumer Price Index (CPI) by employing the vector autoregressive (VAR) model for the U.S. macroeconomic data under the current floating exchange rate regime. Our VAR approach that nests the conventional single equation method reveals very weak evidence of ERPT during the pre-1990 era. On the other hand, we observe statistically significant evidence of ERPT during the post-1990 era, which sharply contrasts with previous findings. After statistically confirming a structural break in ERPT to the total CPI via Hansen's (2001) test procedure, we seek the source of the structural break using the disaggregate level CPIs, which pinned down a key role of energy prices in explaining the emergence of the break. The dependency of the U.S. energy consumption on imports has increased since the 1990s. This change magnifies the effects of the exchange rate shock on domestic energy prices, resulting in greater responses of the total CPI via this energy price channel.
    Keywords: Exchange Rate Pass Through; Disaggregated CPI; Structural Break; Oil Price Shock
    JEL: E31 F31 F41
    Date: 2018–09
  20. By: Adrien Auclert (Stanford); Ludwig Straub (MIT); Matthew Rognlie (Northwestern University)
    Abstract: Forward guidance is more powerful than you think.
    Date: 2018

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