nep-mon New Economics Papers
on Monetary Economics
Issue of 2020‒04‒13
24 papers chosen by
Bernd Hayo
Philipps-Universität Marburg

  1. Exchange Rate Misalignment and External Imbalances: What is the Optimal Monetary Policy Response? By Giancarlo Corsetti; Luca Dedola; Sylvain Leduc
  2. Monetary Policy in the 1990s: Bank of Japan's Views Summarized Based on the Archives and Other Materials By Masanao Itoh; Yasuko Morita; Mari Ohnuki
  3. Role of money in the monetary policy: A New Keynesian and new monetarist perspective By Masudul Hasan Adil; Neeraj R. Hatekar; Taniya Ghosh
  4. Monetary Policy Implementation with an Ample Supply of Reserves By Gara Afonso; Kyungmin Kim; Antoine Martin; Ed Nosal; Simon M. Potter; Sam Schulhofer-Wohl
  5. Regime changes in Indias monetary policy and Tenures of RBI governors By Utso Pal Mustafi; Rajeswari Sengupta
  6. Cross border flows, financial Intermediation and interactions of policy rules in a small open economy model By Ashima Goyal; Akhilesh K. Verma
  7. Monetary policy and regional inequality By Hauptmeier, Sebastian; Holm-Hadulla, Fédéric; Nikalexi, Katerina
  8. the Butterfly Effect: Coronavirus may Redefine the Global Currency Landscape By Liu, Shaoshan
  9. Revenues from Financial Capital. A Formal Framework By Rohwer, Götz; Behr*, Andreas
  10. How the Fed Managed the Treasury Yield Curve in the 1940s By Kenneth D. Garbade
  11. REER Imbalances and Macroeconomic Adjustments: evidence from the CEMAC zone By Simplice A. Asongu; Joseph Nnanna
  12. Monetary Policy,Markup Dispersion, and Aggregate TFP By Matthias Meier; Timo Reinelt
  13. Non-traditional Monetary Policy and the Future of the Financial Industries By Willem THORBECKE
  14. A Fixed-Interest-Rate New Keynesian Model of China By Bing Tong; Guang Yang
  15. Exchange Rate Regimes and Foreign Direct Investment Flow in West African Monetary Zone (WAMZ) By Perekunah B. Eregha
  16. Monetary Policy, Macroprudential Policy, and Financial Stability By David Martinez-Miera; Rafael Repullo
  17. The Fed's enhanced swap lines and new interventions in the Treasury market By Richhild Moessner; William Anthony Allen
  18. The Short-Run Impact of Interest Rates on Exchange Rates: Results for the Swiss franc Against the Euro and US Dollar from Daily Data 2001-2011 By Kugler, Peter
  19. "A Simple Model of the Long-Term Interest Rate" By Tanweer Akram
  20. Bad Jobs and Low Inflation By Renato Faccini; Leonardo Melosi
  21. Heterogeneous Expectations, Indeterminacy, and Postwar US Business Cycles By Francisco Ilabaca; Fabio Milani
  22. GDP Synchronicity and Risk Sharing Channels in a Monetary Union: Blue State and Red States By Parsley, David; Popper, Helen
  23. Welfare Implications of Bank Capital Requirements under Dynamic Default Decisions By Toshiaki Ogawa
  24. Looking into the Rear-View Mirror: Lessons from Japan for the Eurozone and the U.S? By Pierre L. Siklos

  1. By: Giancarlo Corsetti (University of Cambridge and CEPR (E-mail:; Luca Dedola (European Central Bank and CEPR); Sylvain Leduc (Federal Reserve Bank of San Francisco)
    Abstract: How should monetary policy respond to capital inflows that appreciate the currency, widen the current account deficit and cause domestic overheating? Using the workhorse open-macro monetary model, we derive a quadratic approximation of the utility-based global loss function in incomplete market economies, solve for the optimal targeting rules under cooperation and characterize the constrained-optimal allocation. The answer is sharp: the optimal monetary stance is contractionary if the exchange rate pass-through (ERPT) on import prices is incomplete, expansionary if ERPT is complete-implying that misalignment and exchange rate volatility are higher in economies where incomplete pass through contains the effects of exchange rates on price competitiveness.
    Keywords: Currency misalignments, trade imbalances, asset markets and risk sharing, optimal targeting rules, international policy cooperation, exchange rate pass-through
    JEL: E44 E52 E61 F41 F42
    Date: 2020–03
  2. By: Masanao Itoh (President, Otsuma Women's University (E-mail:; Yasuko Morita (Director and Senior Economist, Institute for Monetary and Economic Studies, Bank of Japan (E-mail:; Mari Ohnuki (Deputy Director and Economist, Institute for Monetary and Economic Studies, Bank of Japan (E-mail:
    Abstract: This monographic paper summarizes views held by the Bank of Japan (hereafter BOJ or the Bank) in the 1990s regarding economic and financial conditions as well as the conduct of monetary policy, based on materials compiled during the period mainly in its Archives. The following points were confirmed in writing this paper. First, throughout the 1990s, the Bank's thinking behind the conduct of monetary policy had shifted toward emphasizing the transparency of its policy management. The basic background to this seemed to be the growing importance of dialogue with market participants, reflecting a change in the target for money market operations from official discount rate changes to the guiding of money market rates. In addition, the fact that the revised Bank of Japan Act (hereafter the Bank of Japan Act of 1997) came into effect in April 1998 under the two principles of independence and transparency accelerated the trend of attaching importance to transparency. Second, on the back of the emphasis on transparency, the Bank enhanced its communication by increasing its releases in the second half of the 1990s, particularly after the enforcement of the Bank of Japan Act of 1997. Thus, the materials, especially those referred to in the latter half of this paper, consist mainly of the Bank's releases. And third, in the 1990s, the Bank faced a critical situation in which it needed to conduct monetary policy while paying due attention to the functioning of the financial system. Therefore, this paper includes numerous references to the issues regarding the financial system, mainly the disposal of nonperforming loans.
    Keywords: Monetary policy conduct, Disposal of nonperforming loans, Financial system crisis, Bank of Japan Act of 1997, Zero interest rate policy
    JEL: E52 E58 N15 N25
    Date: 2020–03
  3. By: Masudul Hasan Adil (Mumbai School of Economics and Public Policy, University of Mumbai); Neeraj R. Hatekar (Mumbai School of Economics and Public Policy, University of Mumbai); Taniya Ghosh (Indira Gandhi Institute of Development Research)
    Abstract: In the recent scenario, one of the most pertinent changes in monetary economics has been the virtual disappearance of what was once a dominant focus, the role of money in monetary policy, and in parallel, the disappearance of the LM curve. Economists used to think about issues of monetary policy with the help of the LM curve as being part of the analytical framework which captures the demand for money. However, the workhorse model of modern monetary theory and policy, the New Keynesian Dynamic Stochastic General Equilibrium framework only comprises of, a dynamic aggregate demand (or the dynamic IS) curve, an aggregate supply (or the New Keynesian Phillips) curve, and a monetary policy rule. The monetary policy rule is generally the Taylor rule that relates the nominal interest rate to the output gap and inflation gap, but typically not to either the quantity or the growth rate of money. This change in the modern monetary model reflects how the central banks make monetary policy now. The present study provides a detailed discussion on the role of money in monetary policy formulation, in the context of New Keynesian and New Monetarist perspective. The pros and cons of abandonment of money or the LM curve from monetary policy models have been discussed in detail.
    Keywords: Money, DSGE, New Keynesian, new monetarist, LM curve and Monetary policy
    JEL: E41 E43 E52 E58
    Date: 2020–01
  4. By: Gara Afonso; Kyungmin Kim; Antoine Martin; Ed Nosal; Simon M. Potter; Sam Schulhofer-Wohl
    Abstract: Methods of monetary policy implementation continue to change. The level of reserve supply—scarce, abundant, or somewhere in between—has implications for the efficiency and effectiveness of an implementation regime. The money market events of September 2019 highlight the need for an analytical framework to better understand implementation regimes. We discuss major issues relevant to the choice of an implementation regime, using a parsimonious framework and drawing from the experience in the United States since the 2007–09 financial crisis. We find that the optimal level of reserve supply likely lies somewhere between scarce and abundant reserves, thus highlighting the benefits of implementation with what could be called "ample" reserves. The Federal Reserve's announcement in October 2019 that it would maintain a level of reserve supply greater than the one that prevailed in early September is consistent with the implications of our framework.
    Keywords: monetary policy implementation; federal funds market; ample reserve supply
    JEL: E42 E58
    Date: 2020–01–02
  5. By: Utso Pal Mustafi (Center for Monetary and Financial Studies (CEMFI), Madrid); Rajeswari Sengupta (Indira Gandhi Institute of Development Research)
    Abstract: In this paper, we estimate regime switches in Indian monetary policy during the period 1998-2017. Prior to the adoption of an inflation targeting rule in 2016, monetary policy in India was conducted in discretionary manner. The Reserve Bank of India followed a multiple indicator approach in which the policy rate was determined based on a multitude of macroeconomic indicators. Given the absence of any well defined framework, it is possible that monetary policy experienced multiple regime shifts as a consequence of overall macroeconomic developments as well as the discretionary setting of the policy rate by various RBI Governors. We apply a multivariate Markov-switching Vector Autoregression (MS-VAR) model to uncover the time variation in a system of variables related to monetary policy, as reflected through multiple regimes. We find that the optimal number of regimes during this period was three, with one of them being relatively less persistent. Among the other two, one regime corresponds closely to the tenure of Governor Jalan and sporadically appears during the tenure of Governor Reddy whereas the other regime overlaps with the time when Governor Rajan was in office. In contrast, Governor Subbarao's tenure does not correspond to any specific regime. We also characterise the regimes by the behaviour of specific macroeconomic variables.
    Keywords: Markov regime switches, Monetary policy, Inflation targeting, Reserve Bank of India, Discretionary monetary policy
    JEL: E4 E5 E6
    Date: 2020–03
  6. By: Ashima Goyal (Indira Gandhi Institute of Development Research); Akhilesh K. Verma (Indira Gandhi Institute of Development Research)
    Abstract: We present a small open economy New Keynesian model with financial intermediation to investigate the interaction between monetary policy and macroprudential regulations. Our model economy attempts to capture the vulnerability of emerging market economies in the face of external and domestic shocks. We build a model that closely captures the dynamics of emerging market economies to show that interest rate policy rules alone may not be an effective instrument to stabilize the economy under negative shocks. Monetary policy implementation through augmented Taylor rule (ATR) is an inadequate tool to absorb negative shocks given its conflict between inflation and exchange rate objectives. We show that the use of macroprudential regulations (MaPs) with simple Taylor rule improves business cycle dynamics relative to ATR under domestic and external shocks. We present two kinds of MaP regulations to show that they effectively mitigate losses during economic downturns and reduce excessive risk-taking behavior during economic booms when used along with a simple monetary policy rule (MP). In addition, we also conduct welfare evaluation that supports complementarity between MP and MaPs under different shocks.
    Keywords: DSGE model, cross border flows, monetary policy macroprudential regulation
    JEL: E44 E52 E61 F42 G28
    Date: 2020–03
  7. By: Hauptmeier, Sebastian; Holm-Hadulla, Fédéric; Nikalexi, Katerina
    Abstract: We study the impact of monetary policy on regional inequality using granular data on economic activity at the city- and county-level in Europe. We document pronounced heterogeneity in the regional patterns of monetary policy transmission. The output response to monetary policy shocks is stronger and more persistent in poorer regions, with the difference becoming particularly pronounced in the extreme tails of the distribution. Regions in the lower parts of the distribution exhibit hysteresis, consisting of long-lived adjustments in employment and labor productivity in response to the shocks. As a consequence, policy tightening aggravates regional inequality and policy easing mitigates it. JEL Classification: C32, E32, E52
    Keywords: local projections, monetary policy, quantile regressions, regional heterogeneity
    Date: 2020–03
  8. By: Liu, Shaoshan
    Abstract: In Trump’s political viewpoint, all problems within the U.S. were caused by external problems, such as the rise of China, and thus Trump has rejected globalism and took on the policy of ‘America First’. Trump’s policy inevitably leads to the decoupling between the U.S. and China, and the recent coronavirus outbreak may catalyze the decoupling process. In short term, the U.S. fiscal and monetary rescue plans may expose the national debt and deficit problems, hurting foreign countries’ confidence of the U.S. ability to pay its obligations. In long term, the U.S. has limited ability to stimulate economy without hurting the U.S. dollar’s supremacy; whereas China has a greater ability to coordinate fiscal and monetary policies to stimulate economy. May the decoupling continues, the U.S.-China capital war becomes inevitable and it may redefine the global currency landscape.
    Date: 2020–03–24
  9. By: Rohwer, Götz; Behr*, Andreas
    Abstract: The paper proposes a framework for a formal discussion of the sources of revenues which can be attributed to financial capital. The framework refers to individual units (firms, households, state institutions) and therefore allows for a representation of ownership relations. The framework distinguishes between central bank money and deposit money created by private banks and assumes an institutional setting in which the central bank is not permitted to directly finance state institutions. The paper considers a broad and a narrow definition of revenues. The broad definition includes revenues having origins in banks’ expansion of the money supply (in particular, revenues from new debts). Referring to this broad notion we find that the sum of these revenues has two sources: (1) revenues which public companies and investment funds receive from participating in the real economy (activities which aim to receive revenues from selling goods, services, and labor) and (2) the expansion of the money supply. The narrow definition includes only revenues from interest and from shares in public companies and investment funds. We find that the sum of these financial gains almost completely originates from revenues which public companies and investment funds receive from participating in the real economy.
    Keywords: Financial capital, revenues from financial capital, endogenous money, integrated ownership
    JEL: E1 E4 E5
    Date: 2020–03–27
  10. By: Kenneth D. Garbade
    Abstract: The coronavirus pandemic has prompted the Federal Reserve to pledge to purchase Treasury securities and agency mortgage-backed securities in the amount needed to support the smooth market functioning and effective transmission of monetary policy to the economy. But some market participants have questioned whether something more might not be required, including possibly some form of direct yield curve control. In the first half of the 1940s the Federal Open Market Committee (FOMC) sought to manage the level and shape of the Treasury yield curve. In this post, we examine what can be learned from the FOMC’s efforts of seventy-five years ago.
    Keywords: Math; Equation; Research
    JEL: G2
    Date: 2020–04–06
  11. By: Simplice A. Asongu (Yaoundé/Cameroon); Joseph Nnanna (The Development Bank of Nigeria, Abuja, Nigeria)
    Abstract: The EMU crisis holds special lessons for existing monetary unions. We assess the behavior of real effective exchange rates (REERs) of members of the Central African Economic and Monetary Community (CEMAC) zone with respect to their long-term equilibrium paths. A reduced form of the fundamental equilibrium exchange rate (FEER) model is estimated and associated misalignments. Our findings suggest that for majority of countries, macroeconomic fundamentals have the expected associations with the exchange rate fluctuations. The analysis also reveals that only the REER adjustments of Cameroon and Gabon are significant in restoring the long-term equilibrium in event of a shock. The Cameroonian economic fundamentals of terms of trade, government expenditure and openness have different long-term relations with the REER in comparison to those of other member states. There is no need for an adjustment in the level of the peg based on the present quantitative analysis of REER paths.
    Keywords: Exchange rate; Macroeconomic impact; CEMAC zone
    JEL: F31 F33 F42 F61 O55
    Date: 2019–01
  12. By: Matthias Meier; Timo Reinelt
    Abstract: We document three new empirical facts: (i) monetary policy shocks increase the markup dispersion across firms, (ii) monetary policy shocks increase the relative markup of firms that adjust prices less frequently, and (iii) firms that adjust prices less frequently have higher markups. This is consistent with a New Keynesian model in which price rigidity is heterogeneous across firms. In the model, firms with stickier prices optimally set higher markups and their markups increase by more after monetary policy shocks. The consequent increase in markup dispersion explains why aggregate TFP declines after monetary policy shocks. In the calibrated model, monetary policy shocks explain substantial fluctuations in markup dispersion and aggregate productivity.
    Keywords: Monetary policy, markup dispersion, heterogeneous price rigidity, aggregate TFP
    Date: 2020–03
  13. By: Willem THORBECKE
    Abstract: This paper investigates how expansionary monetary policy after the Global Financial Crisis (GFC) has affected the U.S. banking sector. In response to the GFC the Federal Reserve first lowered the overnight federal funds rate from 5.25% in August 2007 to zero in December 2008. It then turned to quantitative easing, purchasing housing agency debt, mortgage-backed securities, and longer-term Treasury bonds to stimulate the economy. While these policies helped the overall economy to recover, they may have harmed the banking sector. Banks accept safe short-term deposits and transform these into risky longer-term loans. They make a profit on the difference between the interest rate they earn on longer-term assets and the rate they pay of short-term deposits (the net interest margin). Low short-term interest rates and compressed spreads between long- and short-term interest rates may impair bank profitability. Bernanke and Gertler (1995) have shown that reduced bank profitability can hinder their ability to extend loans. Bernanke (1993) noted that this is problematic because banks play a special role in channeling savings to promising borrowers. Financial markets are plagued by information imperfections. Savers release funds today for the promise of obtaining funds later. Whether they get repaid depends on the character of the borrower, the quality of the investment, the collateral that the borrower can provide, and other factors. The lender needs to consider these items and not just interest rates. Asymmetric information can thus hinder the flow of funds from savers to small businesses and other borrowers whose quality is hard to evaluate. Banks can bridge imperfect information problems because they have a comparative advantage because of: 1) economies of specialization, as lending officers gain expertise in a particular industry; 2) economies of scale, as it is cheaper for bank to evaluate a loan than for small savers to; and 3) economies of scope, as it is cheaper to provide lending services together with other services. This paper investigates how lower short-term rates and falls in the spread between long-and short-term rates affect bank profitability. To do this it investigates how these variables affect bank stock prices. Stock prices provide valuable information since they are the expected present value of future cash flows. The results indicate that falls in short rates and in the spread have caused large drops in bank stock returns after the GFC. Banks are also facing competitive pressures from Fin Tech firms and big technology firms. Their performance after the GFC has lagged other parts of the U.S. economy. They are thus vulnerable to negative shocks that could arise during a downturn or a crisis. The Fed should take account of the impact of their policies on the banking sector, since an interruption on the flow of credit through the financial system could prevent funds from going to the most promising firms. This misallocation of resources could then hinder long-term economic growth.
    Date: 2020–03
  14. By: Bing Tong (Center for Financial Development and Stability at Henan University, and School of Economics at Henan University, Kaifeng, Henan); Guang Yang (School of Economics, Nankai University)
    Abstract: Nominal interest rates in China has long been controlled by the government, making their changes lagging behind price changes. We model this in a New Keynesian model with a transiently fixed interest rate, and prove that interest rate fixation can magnify model volatility and lead to economic instability. Under the fixed interest rate, the model enters a vicious spiral until monetary policy switches to a flexible interest rate rule, which represents the shadow rate of the economy, determined by discrete (and insufficient) interest rate adjustments and other policy tools. This explains Chinas large business cycle fluctuations over the past decades.
    Keywords: Interest rate peg, Chinese economy,New Keynesian Model, Monetary policy, Business cycle
    JEL: E31 E32 E42 E52 E58
    Date: 2020–04
  15. By: Perekunah B. Eregha (Pan-Atlantic University, Lekki-Lagos. Nigeria)
    Abstract: This study examines the effect of exchange rate regimes on Foreign Direct Investment (FDI) flow for WAMZ. The Arellano Panel Correction for Serial Correlation and Heteroskedaticity option of the Within Estimator for fixed effect panel data model as well as the Dynamic Panel Data Instrumental Variable Approach by Anderson and Hsiao (1981) for the countries selected based on data availability for the period 1980-2016 were used. The fixed exchange rate regime was found to hamper FDI flow in the zone while intermediate policy had a significantly positive effect in facilitating FDI flow during periods of declining foreign reserves and narrowing current account balance in WAMZ. This implies that the transmission of the effect of exchange rate regimes on FDI inflows depends on the positions of the foreign reserves and current account balance in the zone. Consequently, the fixed regime is not a good policy in periods of narrowing current account balance and depleting foreign exchange reserves. The study therefore recommends the need for monetary authorities to be cautious in managing their exchange rates especially in periods of depleting foreign reserves and narrowing current account so as not to deter the much needed FDI inflow.
    Keywords: Exchange Rate Regimes; Inflationary Expectation; Exchange rate uncertainty; Foreign Direct Investment Flow; Panel Data Analysis
    JEL: E31 F21 F31
    Date: 2019–01
  16. By: David Martinez-Miera (Universidad Carlos III de Madrid); Rafael Repullo (CEMFI, Centro de Estudios Monetarios y Financieros)
    Abstract: This paper reexamines from a theoretical perspective the role of monetary and macroprudential policies in addressing the build-up of risks in the financial system. We construct a stylized general equilibrium model in which the key friction comes from a moral hazard problem in firms' financing that banks' equity capital serves to ameliorate. Tight monetary policy is introduced by open market sales of government debt, and tight macroprudential policy by an increase in capital requirements. We show that both policies are useful, but macroprudential policy is more effective in terms of financial stability and leads to higher social welfare.
    Keywords: Bank monitoring, intermediation margin, monetary policy, macroprudential policy, capital requirements, financial stability.
    JEL: G21 G28 E44 E52
    Date: 2019–02
  17. By: Richhild Moessner; William Anthony Allen
    Abstract: In March 2020, the Federal Reserve enhanced its existing swap lines with foreign central banks, and introduced additional temporary swap lines with other central banks, in order to support the smooth functioning of U.S. dollar funding markets during the coronavirus epidemic. The Federal Reserve also announced purchases of US Treasuries and agency mortgage bonds in order to support the smooth functioning of the Treasury and mortgage-backed securities market. We analyse the motivations for and the effects of these measures.
    Keywords: Central bank swap lines, government bonds
    JEL: E52 E58
    Date: 2020–03
  18. By: Kugler, Peter (University of Basel)
    Abstract: This paper provides an econometric analysis of the short-run impact of interest rates on the Swiss franc exchange rate covering the period January 2001 to June 2011 using daily data. Our model includes both the exchange rate of the Swiss franc against euro and dollar and uses the plausible assumption that foreign interest rates and the euro-dollar exchange rate are exogenous. In addition, we consider not only money market interest differentials, but also those for 2 and 10 year governments bonds. GMM estimation indicates that a one-percentage point increase in the 3-month Swiss franc Libor rate leads to a 3.7 % appreciation of the Swiss franc against euro and dollar. This result seems to be robust with respect to considering only increasing or decreasing interest rates and omitting data around SNB target band adjustments. Our findings appear reasonable and are between the extremely low and high estimates of the impact of Swiss interest rate changes on the exchange rate reported in the literature.
    Date: 2020–02–01
  19. By: Tanweer Akram
    Abstract: This paper presents a simple model of the long-term interest rate. The model represents John Maynard Keynes’s conjecture that the central bank’s actions influence the long-term interest rate primarily through the short-term interest rate, while allowing for other important factors. It relies on the geometric Brownian motion to formally model Keynes’s conjecture. Geometric Brownian motion has been widely used in modeling interest rate dynamics in quantitative finance. However, it has not been used to represent Keynes’s conjecture. Empirical studies in support of the Keynesian perspective and the stylized facts on the dynamics of the long-term interest rate on government bonds suggest that interest rate models based on Keynes’s conjecture can be advantageous.
    Keywords: Long-Term Interest Rate; Bond Yields; Monetary Policy; Short-Term Interest Rate; John Maynard Keynes
    JEL: E12 E43 E50 E58 E60 G10 G12
  20. By: Renato Faccini; Leonardo Melosi
    Abstract: We study a model in which firms compete to retain and attract workers searching on the job. A drop in the rate of on-the-job search makes such wage competition less likely, reducing expected labor costs and lowering inflation. This model explains why inflation has remained subdued over the last decade, which is a conundrum for general equilibrium models and Phillips curves. Key to this success is the observed slowdown in the recovery of the employment-to-employment transition rate in the last five years, which is interpreted by the model as a decline in the share of employed workers searching for a job. This fall in the on-the-job search rate is corroborated by the micro data.
    Keywords: misallocation; cyclical; labor market slack; Inflation; job ladder; Phillips curve
    JEL: C78 E24 E31
    Date: 2020–03–02
  21. By: Francisco Ilabaca (Department of Economics, University of California-Irvine); Fabio Milani (Department of Economics, University of California-Irvine)
    Abstract: This paper estimates a New Keynesian model extended to include heterogeneous expectations, to revisit the evidence that postwar US macroeconomic data can be explained as the outcome of passive monetary policy, indeterminacy, and sunspot-driven fluctuations in the pre-1979 sample, with a switch to active monetary policy and a determinate equilibrium starting in the early 1980s. Different shares of consumers and firms form either rational expectations, or adaptive and extrapolative expectations. The inclusion of heterogeneous expectations alters the determinacy properties of the model compared to the corresponding case under exclusively rational expectations. The Taylor principle is neither necessary nor sufficient, as the details of expectations may matter more for equilibrium stability. The model is estimated with Bayesian techniques, using rolling windows and allowing the parameters to fall both in the determinacy and indeterminacy regions. The estimates reveal large shares of agents who depart from rational expectations; heterogeneous expectations are preferred by the data everywhere in the sample. The results confirm that macroeconomic data in the early windows are better explained by indeterminacy, while determinacy is favored over the latest two decades. We uncover, however, some subsamples that include the 1980s and 1990s in which the Taylor principle is satisfied, but expectations becoming extrapolative raise the probability of indeterminacy to 50% and more.
    Keywords: Heterogeneous Expectations in New Keynesian Model; Indeterminacy; Sunspots; Taylor Principle; Deviations from Rational Expectations; Time-Varying Parameters
    JEL: E32 E52 E58
    Date: 2020–03
  22. By: Parsley, David; Popper, Helen
    Abstract: We examine state GDP comovement and consumption risk-sharing channels within the United States as a whole, and among states whose populations have voted consistently Democrat (Blue) or Republican (Red) in national elections. We document three facts: (1) state GDP growth is asynchronous, and Blue and Red states are particularly out of sync; (2) at the same time, interstate consumption risk-sharing is very high{it is high even across the political divide, and it is high even where the role of fiscal flows is minimal; and (3) the channels of risk sharing across Blue, Red, and Swing states are quite different.
    Keywords: monetary Union, consumption risk-sharing, economic and political divergence, optimal currency area
    JEL: F20 F33 F4 F42 F45
    Date: 2019–11–30
  23. By: Toshiaki Ogawa (Deputy Director and Economist, Institute for Monetary and Economic Studies, Bank of Japan (E-mail:
    Abstract: This paper studies capital requirements and their welfare implications in a dynamic general equilibrium model of banking. I embed two, less commonly considered but important, mechanisms. Firstly, banks choose entry and exit, which lets the number of banks change endogenously. Strengthening capital requirements reduces banks' franchise value and damages their liquidity providing function through the extensive margin. Secondly, since equity issuance is costly for banks, they precautionarily hold capital buffers against future liquidity shocks. This behavior makes present capital requirements only occasionally binding. My model shows that the optimal capital requirement would be lower than that in the literature because of the expanded negative effects of capital requirements. To maintain financial stability without damaging banks' liquidity provision, strengthening capital requirements needs to be accompanied by reducing the cost of equity issuance for banks.
    Keywords: Bank capital requirements, Occasionally binding constraints, Endogenous default, Entry and exit, General equilibrium model
    JEL: E00 G21 G28
    Date: 2020–03
  24. By: Pierre L. Siklos (Department of Economics, Wilfrid Laurier University and Balsillie School of International Affairs (E-mail:
    Abstract: Until recently, Japan has been treated as an outlier of sorts, apparently mired in slow growth and low to mildly negative inflation for over a decade. Monetary policy especially, but not alone, has received a healthy share of the blame for Japan's predicament. However, other major economies, notably the U.S. and the Eurozone, have since shown signs of what observers now call 'Japanification'. This paper revisits and reconsiders the narratives surrounding Japan's economic performance since the 1980s in relation to the experiences of the U.S. and the Eurozone. Although there are clearly important differences between these three economies, including important institutional and structural differences, there are also some striking parallels. Equally important, at least according to the metrics used in this study, is that the poor reputation of the Bank of Japan's monetary policy is underserved. To be sure, there were periods of excessive tightness in policy, but the same is true for the other two economies considered. Indeed, the BoJ has been more credible than the other two central banks considered most of the time over the past decade. Of course, important economic challenges remain but Japan is not an outlier. However, in the area of monetary policy, the current policy strategy may have put the 'cart before the horse'. Arguably, the largest risk is the loss of credibility unless all elements of the three 'arrows' of Abenomics have been aimed properly.
    Keywords: Bank of Japan, monetary policy regimes, deflation, central bank credibility
    JEL: E31 E32 E42 E44 E52 E58 C32 C34 C38
    Date: 2020–03

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