nep-mon New Economics Papers
on Monetary Economics
Issue of 2020‒06‒15
forty-six papers chosen by
Bernd Hayo
Philipps-Universität Marburg

  1. The People's Bank of China's response to the coronavirus pandemic - A quantitative assessment By Funke, Michael; Tsang, Andrew
  2. Does Bank Lending Channel Exist in Kenya: Bank Level Panel Data Analysis By Moses Muse Sichei; Githinji Njenga
  3. A shadow rate without a lower bound constraint By B De Rezende, Rafael; Ristiniemi, Annukka
  4. Yield curve control By Kortelainen, Mika
  5. Speed Limit Policy and Liquidity Traps By Taisuke Nakata; Sebastian Schmidt; Paul Yoo
  6. Hedger of Last Resort: Evidence from Brazil on FX Interventions, Local Credit and Global Financial Cycles By Barbone Gonzalez, Rodrigo; Khametshin, Dmitry; Peydró, José-Luis; Polo, Andrea
  7. Equilibrium Yield Curves and the Interest Rate Lower Bound By Taisuke Nakata; Takeki Sunakawa
  8. Monetary Policy with Judgment By Paolo Gelain; Simone Manganelli
  9. Treasury Market Liquidity and the Federal Reserve during the COVID-19 Pandemic By Michael J. Fleming
  10. Encompassing monetary policy strategy review By Issing, Otmar
  11. Bank Lending, Monetary Policy Transmission, and Interest on Excess Reserves: A FAVAR Analysis By Dave, Chetan; Dressler, Scott J.; Zhang, Lei
  12. On the external validity of experimental inflation forecasts: A comparison with five categories of field expectations By Camille Cornand; Paul Hubert
  13. Uncertainty and Monetary Policy in the US: A Journey into Non-Linear Territory By Giovanni Pellegrino
  14. Central banks' response to Covid-19 in advanced economies By Paolo Cavallino; Fiorella De Fiore
  15. How well-anchored are long-term inflation expectations? By Richhild Moessner; Előd Takáts
  16. A dynamic analysis of nash equilibria in search models with fiat money By Federico Bonetto; Maurizio Iacopetta
  17. Monetary policy and its transmission in a globalised world By Ca' Zorzi, Michele; Dedola, Luca; Georgiadis, Georgios; Jarociński, Marek; Stracca, Livio; Strasser, Georg
  18. Central bank bond purchases in emerging market economies By Yavuz Arslan; Mathias Drehmann; Boris Hofmann
  19. Optimal Inflation Target with Expectations-Driven Liquidity Traps By Philip Coyle; Taisuke Nakata
  20. Macroprudential regulation and leakage to the shadow banking sector By Gebauer, Stefan; Mazelis, Falk
  21. Exchange rate policy and price determination in Botswana By Jacob K. Atta; Keith R. Jefferis; Ita Mannathoko
  22. From Tether to Libra: Stablecoins, Digital Currency and the Future of Money By Alexander Lipton; Aetienne Sardon; Fabian Sch\"ar; Christian Sch\"upbach
  23. Average Inflation Targeting and the Interest Rate Lower Bound By Flora Budianto; Taisuke Nakata; Sebastian Schmidt
  24. A Promised Value Approach to Optimal Monetary Policy By Timothy Hills; Taisuke Nakata; Takeki Sunakawa
  25. Monetary and Fiscal Policies in Times of Large Debt: Unity is Strength (REVISED May 2020) By Francesco Bianchi; Renato Faccini; Leonardo Melosi
  26. The Effects of Monetary Policy on Prices in Malawi By Ronald Mangani
  27. Financial sector reforms and interest rate liberalization: The Kenya experience By R.W. Ngugi; J.W. Kabubo
  28. Changes in the Inflation Target and the Comovement between Inflation and the Nominal Interest Rate By Yunjong Eo; Denny Lie
  29. Inflation dynamics: Expectations, structural breaks and global factors By Pierre L. Siklos
  30. Countercyclical Liquidity Policy and Credit Cycles: Evidence from Macroprudential and Monetary Policy in Brazil By Blanco Barroso, Joao; Barbone Gonzalez, Rodrigo; Peydró, José-Luis; Nazar van Doornik, Bernardus
  31. Unconventional monetary policy and credit market activity By Juan Carlos Medina Guirado; ; ;
  32. Monetary Policy Options at the Effective Lower Bound: Assessing the Federal Reserve’s Current Policy Toolkit By Hess Chung; Etienne Gagnon; Taisuke Nakata; Matthias Paustian; Bernd Schlusche; James Trevino; Diego Vilán; Wei Zheng
  33. International effects of euro area forward guidance By Maximilian Bock; Martin Feldkircher; Pierre L. Siklos
  34. Monetary regimes, the term structure and business cycles in Ireland, 1972-2018 By Stuart, Rebecca
  35. Ghana: Monetary targeting and economic development By Cletus K. Dordunoo; Alex Donkor
  36. An Econometric Analysis of the Monetary Policy Reaction Function in Nigeria By Chukwuma Agu
  37. Credible Forward Guidance By Taisuke Nakata; Takeki Sunakawa
  38. Monetary Policy Uncertainty and Firm Dynamics By Stefano Fasani; Haroon Mumtaz; Lorenza Rossi
  39. Global Liquidity and Impairment of Local Monetary Policy By Fendoglu, Salih; Gulsen, Eda; Peydró, José-Luis
  40. The Hedging Channel of Exchange Rate Determination By Gordon Y. Liao; Tony Zhang
  41. The international bank lending channel of monetary policy rates and QE: Credit supply, reach-for-yield, and real effects By Morais, Bernardo; Peydró, José-Luis; Roldán-Peña, Jessica; Ruiz-Ortega, Claudia
  42. COVID-19, Helicopter Money & the Fiscal-Monetary Nexus By Cukierman, Alex
  43. When could macroprudential and monetary policies be in conflict? By Grégory LEVIEUGE; Jose David GARCIA REVELO
  44. Shock dependence of exchange rate pass-through: A comparative analysis of BVARs and DSGEs By Mariarosaria Comunale
  45. Exchange rate policy and inflation: The case of Uganda By Barbara Mbire Barungi
  46. Optimal Monetary Policy and Uncertainty Shocks By Cho, Deaha; Han, Yoonshin; Oh, Joonseok; Rogantini Picco, Anna

  1. By: Funke, Michael; Tsang, Andrew
    Abstract: The People’s Bank of China (PBoC) has taken numerous measures to cushion the impacts of the COVID-19 health crisis on the Chinese economy. As the current monetary policy framework features a multi-instrument mix of liquidity tools and pricing signals, we employ a dynamic-factor modeling approach to derive an indicator of China’s monetary policy stance. Our approach assumes that comovements of several monetary policy instruments share a common element that can be captured by an underlying unobserved component. We use the derived indicator to trace the response of the PBoC to the coronavirus pandemic. The estimates reveal that the PBoC has implement novel policy measures to ensure that commercial banks maintain liquidity access and credit provision during the COVID-19 crisis.
    JEL: C54 E32 E52 I15
    Date: 2020–05–31
  2. By: Moses Muse Sichei; Githinji Njenga (Research Department Central Bank of Kenya)
    Abstract: The study empirically investigates bank lending channel (BLC) of monetary policy transmission in Kenya using annual bank-level panel data during the period 2001-2008. A modified IS/LM model with bank lending is used in the spirit of Bernanke and Blinder (1988), and banks are segregated on the basis of asset size, capital adequacy, liquidity and foreign ownership criteria. The main finding is that BLC exists in Kenya based on bank liquidity and capitalization. In particular, banks with less liquid balance sheets and low total capital to risk-weighted asset ratios are hit most by monetary policy. Since low liquidity and low capital banks are generally large banks, which contribute 82% of total bank credit, BLC is significant in Kenya. The existence of BLC means that monetary policy has asymmetric effects on banks and borrowers in Kenya. Further, bank credit can be used as a nominal anchor for monetary policy and a leading indicator for economic activity in Kenya
  3. By: B De Rezende, Rafael (Bank of England); Ristiniemi, Annukka (Sveriges Riksbank and European Central Bank)
    Abstract: We propose a shadow rate that measures the overall stance of monetary policy when the lower bound is not necessarily binding. Using daily yield curve data we estimate shadow rates for the US, Sweden, the euro area and the UK, and document that they fall (rise) as monetary policy becomes more expansionary (contractionary). This ability of the shadow rate to track the stance of monetary policy is identified on announcements of policy rate cuts (hikes), balance sheet expansions (contractions) and forward guidance, with shadow rates responding in a timely fashion, and in line with government bond yields. We show two applications for our shadow rate. First, we decompose shadow rate responses to monetary policy announcements into conventional and unconventional monetary policy surprises, and assess the pass-through of each type of policy to exchange rates. We find that exchange rates respond more to conventional than to unconventional monetary policy. Lastly, a counterfactual experiment in a DSGE model suggests that inflation in Sweden would have been around half a percentage point lower had unconventional monetary policy not been used since February 2015.
    Keywords: Monetary policy stance; unconventional monetary policy; term structure of interest rates; short-rate expectations; term premium; exchange rates
    JEL: E43 E44 E52 E58
    Date: 2020–05–22
  4. By: Kortelainen, Mika
    Abstract: We study the yield curve control in Eurozone. We apply Chen, Cúrdia and Ferrero (2012) model that uses a financial friction to break Wallace's neutrality. We calibrate a bond supply shock that corresponds to the observed change in the time premium in euro area when the APP program was introduced. With some model simulations, we show that the effectiveness of both unconventional monetary policy and fiscal policy are enhanced, when the yield curve control is applied. Thus, we find that the yield curve control can be an effective tool, if applied in a credible manner for a long enough time period during an effective lower bound episode.
    Keywords: Yield curve control,monetary policy,fiscal policy,efficient lower bound,liquidity trap
    JEL: E52 E58
    Date: 2020
  5. By: Taisuke Nakata (University of Tokyo); Sebastian Schmidt (European Central Bank); Paul Yoo (UNC Kenan-Flagler)
    Abstract: The zero lower bound (ZLB) constraint on interest rates makes speed limit policies(SLPs) - policies aimed at stabilizing the output growth - less effective. Away from the ZLB, the history dependence induced by a concern for output growth stabilization improves the inflation-output tradeoff for a discretionary central bank. However, in the aftermath of a deep recession with a binding ZLB, a central bank with an objective for output growth stabilization aims to engineer a more gradual increase in output than under the standard discretionary policy. The anticipation of a more restrained recovery exacerbates the declines in inflation and output when the lower bound is binding.
    Date: 2020–05
  6. By: Barbone Gonzalez, Rodrigo; Khametshin, Dmitry; Peydró, José-Luis; Polo, Andrea
    Abstract: We show that local central bank policies attenuate global financial cycle (GFC)’s spillovers. For identification, we exploit GFC shocks and Brazilian interventions in FX derivatives using three matched administrative registers: credit, foreign credit flows to banks, and employer-employee. After U.S. Federal Reserve Taper Tantrum (followed by strong Emerging Markets FX depreciation and volatility increase), Brazilian banks with larger ex-ante reliance on foreign debt strongly cut credit supply, thereby reducing firm-level employment. However, a large FX intervention program supplying derivatives against FX risks—hedger of last resort—halves the negative effects. Finally, a 2008-2015 panel exploiting GFC shocks and local related policies confirm these results.
    Keywords: foreign exchange,monetary policy,central bank,bank credit,hedging
    JEL: E5 F3 G01 G21 G28
    Date: 2019
  7. By: Taisuke Nakata (University of Tokyo); Takeki Sunakawa (Hitotsubashi University)
    Abstract: We present a calibrated DSGE model with an occasionally binding effective lower bound (ELB) constraint on yields that matches key features of the aggregate economy and the term structure of interest rates in the United States. The ELB constraint induces state dependency in term premiums by affecting macroeconomic uncertainty and interest rate sensitivity to economic activities, typically lowering the absolute size of term premiums and increasing their volatility around liftoff. The central bank's forward guidance at the ELB lowers the expected short-rate path, but its effect on term premiums depends on the risk exposure of bonds to the macroeconomy.
    Date: 2020–05
  8. By: Paolo Gelain; Simone Manganelli
    Abstract: We consider two approaches to incorporate judgment into DSGE models. First, Bayesian estimation indirectly imposes judgment via priors on model parameters, which are then mapped into a judgmental interest rate decision. Standard priors are shown to be associated with highly unrealistic judgmental decisions. Second, judgmental interest rate decisions are directly provided by the decision maker and incorporated into a formal statistical decision rule using frequentist procedures. When the observed interest rates are interpreted as judgmental decisions, they are found to be consistent with DSGE models for long stretches of time, but excessively tight in the 1980s and late 1990s and excessively loose in the late 1970s and early 2000s.
    JEL: E50 E58 E47 C12
    Date: 2020–05–21
  9. By: Michael J. Fleming
    Abstract: Many of the actions taken by the Federal Reserve during the COVID-19 pandemic are intended to address a deterioration of market functioning. The Federal Open Market Committee (FOMC) announced purchases of Treasury securities and agency mortgage-backed securities (MBS), in particular, “to support the smooth functioning of markets” in those securities. Last month, we showed in this post how one metric of functioning for the Treasury market, market illiquidity, jumped to unusually high levels in March amid massive uncertainty about the economic effects of the pandemic. In this post, we extend our analysis through April and zero in on early 2020 in particular to better understand how the Fed’s actions evolved in relation to day-to-day market developments.
    Keywords: liquidity; treasury market; Federal Reserve; COVID-19; pandemic
    JEL: G1
    Date: 2020–05–29
  10. By: Issing, Otmar
    Abstract: This Policy White Paper assesses several main elements of ECB's upcoming review of its monetary policy strategy, announced in January 2020. Four aspects of the review are discussed in detail: i) ECB's definition of price stability and the arguments for and against inflation targeting; ii) the scope of ECB's objectives, considering financial stability, employment and the sustainability of the environment; iii) an update of ECB's economic and monetary analyses to assess the risks to price stability; iv) the ECB's communication practice. Furthermore, an overview of the ECB's monetary policy strategy and its last evaluation in 2003 is given.
    Keywords: monetary policy,ECB,price stability,two-pillar system,strategy review
    Date: 2020
  11. By: Dave, Chetan (University of Alberta, Department of Economics); Dressler, Scott J. (Villanova University); Zhang, Lei (North Dakota State University)
    Abstract: Has paying interest on excess reserves (IOER) impacted monetary policy transmission? We employ a factor augmented VAR (i.e. FAVAR) to analyze a traditional bank lending channel (BLC) as well as a potential reserves channel. Our main results are: (i) the bank-lending response to an exogenous monetary policy innovation in the Federal Funds rate (i.e. the BLC) remains active but smaller than pre-2008 measures; (ii) the bank-lending response to any IOER-based liquidity innovations (i.e. the reserves channel) either mimics the BLC or is largely insignificant. These results provide little evidence that IOER has significantly impacted bank lending or monetary transmission.
    Keywords: Bank Lending Channel; FAVAR; IOER; Monetary Policy
    JEL: C32 E51 E52
    Date: 2020–05–28
  12. By: Camille Cornand (Centre National de la Recherche Scientifique (CNRS)); Paul Hubert (Observatoire français des conjonctures économiques)
    Abstract: Establishing the external validity of experimental inflation forecasts is essential if laboratory experiments are to be used as decision-making tools for monetary policy. Our contribution is to document whether different measures of inflation expectations, based on various categories of agents (participants in experiments, households, industry forecasters, professional forecasters, financial market participants and central bankers), share common patterns. We do so by analyzing the forecasting performance of these different categories of data, their deviations from full information rational expectations, and the variables that enter the determination of these expectations. Overall, the different categories of forecasts exhibit common features: forecast errors are comparably large and autocorrelated, and forecast errors and forecast revisions are predictable from past information, suggesting the presence of some form of bounded rationality or information imperfections. Finally, lagged inflation positively affects the determination of inflation expectations. While experimental forecasts are relatively comparable to survey and financial market data, more heterogeneity is observed compared to central bank forecasts.
    Keywords: Inflation expectations; Experimental forecasts; Survey forecasts; Market-based forecasts; Central bank forecasts
    JEL: E3 E5
    Date: 2020–01
  13. By: Giovanni Pellegrino (Department of Economics and Business Economics, Aarhus University)
    Abstract: This paper estimates a non-linear Interacted VAR model to assess whether the real effects of stimulative monetary policy shocks are milder during times of high uncertainty. Crucially, uncertainty is modeled endogenously in the VAR, thus allowing to take account of two unexplored channels of monetary policy transmission working through uncertainty mitigation and uncertainty mean reversion. Generalized Impulse Response Functions à la Koop, Pesaran and Potter (1996) reveal that monetary policy shocks are significantly less powerful during uncertain times, the peak reactions of a battery of real variables being about two-thirds milder than those during tranquil times. Failing to account for endogenous uncertainty would bias responses and imply twice as powerful monetary policy during uncertain times as during tranquil times, mainly because of the non-consideration of uncertainty mean reversion.
    Keywords: Monetary policy shocks, Non-Linear Structural Vector Auto-Regressions, Interacted VAR, Generalized Impulse Response Functions, Endogenous Uncertainty
    JEL: C32 E32 E52
    Date: 2020–06–03
  14. By: Paolo Cavallino; Fiorella De Fiore
    Abstract: Central banks in advanced economies reacted swiftly and forcefully to the Covid-19 pandemic, deploying the full range of crisis tools within weeks. The initial response focused primarily on easing financial stress and ensuring a smooth flow of credit to the private non-financial sector.The pandemic triggered complementary responses from monetary and fiscal authorities. Fiscal backstops and loan guarantees supported central bank actions. Asset purchases, designed to achieve central banks' objectives, helped contain the costs of fiscal expansions. The footprint of central banks' measures will be sizeable. Across the five largest advanced economies, balance sheets are projected to grow on average by 15-23% of GDP before end-2020 and to remain large in the near future.
    Date: 2020–06–05
  15. By: Richhild Moessner; Előd Takáts
    Abstract: We study the anchoring properties of long-term inflation expectations in emerging and advanced economies, as a measure of monetary policy credibility. We proxy anchoring by how short-term expectations relate to long-term inflation expectations. We find that long-term inflation expectations are less well anchored in emerging than in advanced economies for the period 1996-2019. These findings do not significantly differ between before and after the global financial crisis or away from and at the effective lower bound. We also find that persistent deviations of inflation from target affect long-term inflation expectations in advanced economies. Yet, persistent deviations do not have a stronger impact at the effective lower bound. Moreover, we find evidence for asymmetry: higher than targeted inflation has a larger impact on long-term inflation expectations.
    Keywords: inflation expectations, anchoring, ZLB, monetary policy credibility
    JEL: E31 E58
    Date: 2020–06
  16. By: Federico Bonetto; Maurizio Iacopetta (Observatoire français des conjonctures économiques)
    Abstract: We analyze the rise in the acceptability fiat money in a Kiyotaki–Wright economy by developing a method that can determine dynamic Nash equilibria for a class of search models with genuine heterogeneous agents. We also address open issues regarding the stability properties of pure strategy equilibria and the presence of multiple equilibria, numerical experiments illustrate the liquidity conditions that favor the transition from partial to full acceptance of fiat money, and the effects of inflationary shocks on production, liquidity, and trade.
    Keywords: Acceptability of money; Perron; Search
    Date: 2019–10
  17. By: Ca' Zorzi, Michele; Dedola, Luca; Georgiadis, Georgios; Jarociński, Marek; Stracca, Livio; Strasser, Georg
    Abstract: This paper estimates and compares the international transmission of European Central Bank (ECB) and Federal Reserve System monetary policy in a unified and methodologically consistent framework. It identifies pure monetary policy shocks by purging them of the bias stemming from contemporaneous central bank information effects. The results suggest that there is a hierarchy in the global spillovers from ECB and Federal Reserve monetary policy: while the spillovers to consumer prices are relatively small in both directions, Federal Reserve monetary policy shocks have a larger impact on euro area financial markets and real activity. Federal Reserve monetary policy also has a significantly larger impact than ECB monetary policy on real and financial variables in the rest of the world. JEL Classification: E44, E52, F3, E58, F42
    Keywords: international monetary policy coordination, international shock transmission, monetary policy shocks, monetary policy spillovers
    Date: 2020–05
  18. By: Yavuz Arslan; Mathias Drehmann; Boris Hofmann
    Abstract: In response to the Covid-19 shock, many central banks in emerging market economies have launched local currency bond purchase programmes to address bond market dislocations, signalling that they were willing to take the role of a buyer of last resort. Local currency bond yields fell significantly following the programme announcements, with little effect on exchange rates. These positive initial market reactions suggest that the programmes were successful in restoring investor confidence and did not lead to higher inflation expectations, eg due to perceived risks of fiscal dominance. Market reactions varied between countries, depending on initial conditions in each jurisdiction as well as on the scope, scale and communication of the bond purchase programmes.
    Date: 2020–06–02
  19. By: Philip Coyle (University of Wisconsin – Madison); Taisuke Nakata (University of Tokyo)
    Abstract: In expectations-driven liquidity traps, a higher inflation target is associated with lower inflation and consumption. As a result, introducing the possibility of expectations-driven liquidity traps to an otherwise standard model lowers the optimal inflation target. Using a calibrated New Keynesian model with an effective lower bound (ELB) constraint on nominal interest rates, we find that even a very small probability of falling into an expectations-driven liquidity trap lowers the optimal inflation target nontrivially. Our analysis provides a reason to be cautious about the argument that central banks should raise their inflation targets in light of a higher likelihood of hitting the ELB.
    Date: 2020–04
  20. By: Gebauer, Stefan; Mazelis, Falk
    Abstract: Macroprudential policies are often aimed at the commercial banking sector, while a host of other non-bank financial institutions, or shadow banks, may not fall under their jurisdiction. We study the effects of tightening commercial bank regulation on the shadow banking sector. We develop a DSGE model that differentiates between regulated, monopolistic competitive commercial banks and a shadow banking system that relies on funding in a perfectly competitive market for investments. After estimating the model using euro area data from 1999 – 2014 including information on shadow banks, we find that tighter capital requirements on commercial banks increase shadow bank lending, which may have adverse financial stability effects. Coordinating macroprudential tightening with monetary easing can limit this leakage mechanism, while still bringing about the desired reduction in aggregate lending. In a counterfactual analysis, we compare how macroprudential policy implemented before the crisis would have dampened the business and lending cycles. JEL Classification: E32, E58, G23
    Keywords: financial frictions, macroprudential policy, monetary policy, non-bank financial institutions, policy coordination
    Date: 2020–05
  21. By: Jacob K. Atta; Keith R. Jefferis; Ita Mannathoko (Department of Economics, University of Zambia)
    Abstract: The dominant influence of South African goods on the Botswana CPI basket leads to the expectation that South African prices have a significant role in determining prices in Botswana. This paper examines Botswana's price and inflation relationships and their interaction. Cointegration analysis is used to develop a dynamic error correction model that establishes the link between long-run equilibrium prices and short-run inflation. Results show that the exchange rate (and South African prices), rather than money, are cointegrated with prices, supporting theoretical predictions of a dominant long-run equilibrium relationship between prices and the exchange rate in a pegged exchange rate regime with capital controls. In the short run, both domestic prices and imported inflationary pressures determine growth in the price level each month. This suggests that monetary, exchange rate and fiscal policy can be used to temper inflation in the short run. Changes in the exchange rate and prices will only have short-term price competitiveness effects, however. Over time adjustment back to the equilibrium real exchange rate occurs.
  22. By: Alexander Lipton; Aetienne Sardon; Fabian Sch\"ar; Christian Sch\"upbach
    Abstract: This paper provides an overview on stablecoins and introduces a novel terminology to help better identify stablecoins with truly disruptive potential. It provides a compact definition for stablecoins, identifying the unique features that make them distinct from previously known payment systems. Furthermore, it surveys the different use cases for stablecoins as well as the underlying economic incentives for creating them. Finally, it outlines critical regulatory considerations that constrain stablecoins and summarizes key factors that are driving their rapid development.
    Date: 2020–05
  23. By: Flora Budianto (Bank for International Settlements); Taisuke Nakata (University of Tokyo); Sebastian Schmidt (European Central Bank and CEPR)
    Abstract: Assigning a discretionary central bank a mandate to stabilize an average inflation rate - rather than a period-by-period inflation rate - increases welfare in a New Keynesian model with an occasionally binding lower bound on nominal interest rates. Under rational expectations, the welfare-maximizing averaging window is infinitely long, which means that optimal average inflation targeting (AIT) is equivalent to price level targeting (PLT). However, AIT with a finite, but sufficiently long, averaging window can attain most of the welfare gain from PLT. Under boundedly-rational expectations, if cognitive limitations are sufficiently strong, the optimal averaging window is finite, and the welfare gain of adopting AIT can be small.
    Date: 2020–05
  24. By: Timothy Hills (New York University); Taisuke Nakata (University of Tokyo); Takeki Sunakawa (Hitotsubashi University)
    Abstract: This paper characterizes optimal commitment policy in the New Keynesian model using a recursive formulation of the central bank's in finite horizon optimization problem in which promised inflation and output gap - as opposed to lagged Lagrange multipliers - act as pseudo-state variables. Our recursive formulation is motivated by Kydland and Prescott (1980). Using three well known variants of the model - one featuring inflation bias, one featuring stabilization bias, and one featuring a lower bound constraint on nominal interest rates - we show that the proposed formulation sheds new light on the nature of the intertemporal trade-off facing the central bank.
    Date: 2020–05
  25. By: Francesco Bianchi; Renato Faccini; Leonardo Melosi
    Abstract: The Covid-19 pandemic found policymakers facing constraints on their ability to react to an exceptionally large negative shock. The current low interest rate environment limits the tools the central bank can use to stabilize the economy, while the large public debt curtails the efficacy of fiscal interventions by inducing expectations of costly fiscal adjustments. Against this background, we study the implications of a coordinated fiscal and monetary strategy aimed at creating a controlled rise of inflation to wear away a targeted fraction of debt. Under this coordinated strategy, the fiscal authority introduces an emergency budget with no provisions on how it will be balanced, while the monetary authority tolerates a temporary increase in inflation to accommodate the emergency budget. In our model, the coordinated strategy enhances the efficacy of the fiscal stimulus planned in response to the Covid-19 pandemic and allows the Federal Reserve to correct a prolonged period of below-target inflation. The strategy results in only moderate levels of inflation by separating long-run fiscal sustainability from a short-run policy intervention.
    Keywords: Monetary policy; fiscal policy; emergency budget; shock specific rule; Covid-19
    JEL: E30 E50 E62
    Date: 2020–05–11
  26. By: Ronald Mangani (Department of Economics, Chancellor College University of Malawi)
    Abstract: Evidence on the transmission mechanism of monetary policy is quite non-uniform, particularly across countries with different economic structures. Complications to theoretical propositions tend to arise when economies are less market-oriented and less sensitive to policy interventions, when monetary authorities are not adequately independent, or when market-based and administrative policy instruments are used concurrently. It is important, therefore, to appreciate the unique dynamics of the transmission mechanism in any jurisdiction, in order to understand and possibly predict the macroeconomic effects of monetary policy. This study assessed the effects of monetary policy in Malawi by tracing the channels of its transmission mechanism, while recognizing several factors that characterize the economy: market imperfections, fiscal dominance and vulnerability to external shocks. Within the environment of vector autoregressive modelling, Granger-causality and block exogeneity tests as well as innovation accounting analyses were conducted to describe the dynamic interrelationships among monetary policy, financial variables and prices. The study established the lack of unequivocal evidence in support of a conventional channel ofthe monetary policy transmission mechanism, and found that the exchange rate was the most important variable in predicting prices. Therefore, the study recommends that authorities should be more concerned with imported cost-push inflation rather than demand-pull inflation. In the short term, pursuing a prudent exchange rate policy that recognizes the country’s precarious foreign reserve position could be critical in deepening domestic price stability. Beyond the short term, price stability could be sustained through the implementation of policies directed towards building a strong foreign exchange reserve base, as well as developing a sustainable approach to the country’s reliance on development assistance.
  27. By: R.W. Ngugi; J.W. Kabubo (University Of Nairobi)
    Abstract: For financially repressed economies, financial liberalization was expected to allow for positive real interest rates, and for stimulating the mobilization and efficient allocation of domestic financial resources. At the same time, as the market becomes competitive the costs of intermediation go down, an indication of efficiency in the intermediation of financial assets. But, for successful liberalization, prerequisites must be put in place together with proper sequencing procedures. The study explored the sequencing and actions so far taken in the liberalization process in Kenya. The study also examined the interest rate levels, spreads and determining factors, as an indicator of financial sector response to the reform process. The study found that although much had been accomplished, the financial system was characterized by repression factors including negative real interest rates, inefficiency in financial intermediation and underdeveloped financial markets. This may indicate that the economy is facing secondary financial repression. Interest rates were more responsive to the policy activities during the period than to the fundamentals. Interest rates were a monetary phenomenon with an adjustment speed of 77% to disequilibrium in the monetary sector. The study concluded that there are several loose knots that need to be tightened for the economy to experience significant positive effects of financial liberalization.
  28. By: Yunjong Eo (Department of Economics, Korea University, Seoul 02841, South Korea); Denny Lie (School of Economics, The University of Sydney, NSW 2006, Australia)
    Abstract: Would raising the inflation target require an increase in the nominal interest rate in the short run? We answer this policy question, first analytically in a small-scale New Keynesian model with backward-looking components where a closed-form solution exists, and then in a medium-scale model of Smets and Wouters (2007) calibrated to the U.S. economy. Our analysis shows that the short-run comovement between inflation and the nominal interest rate conditional on changes in the inflation target is more likely to be positive, all else equal, as the monetary authority reacts less aggressively to the deviation of inflation from its target. Meanwhile, features of the model that enhance backward-looking behavior, such as backward price indexation and habit formation in consumption, are shown to reduce the likelihood of the positive comovement. However, our investigations reveal that in both models, this positive comovement or so-called Neo-Fisherism is prevalent across a wide-range of empirically-plausible parameter values. Using the Smets and Wouters model with a zero lower bound constraint (ZLB) on the nominal interest rate, we show that raising the inflation target could be an effective alternative policy framework to reduce the possibility of a binding ZLB constraint and to mitigate the potentially large output loss.
    Keywords: Neo-Fisherism; zero lower bound; inflation expectations; Taylortype rule; hybrid NKPC; hybrid IS curve;
    JEL: E12 E32 E58 E61
    Date: 2020
  29. By: Pierre L. Siklos
    Abstract: There is no consensus over the importance of “global forces” on inflation. This study explores the role of structural breaks in the inflation process, and their timing, whether it is common across countries, and the extent to which ‘global forces’ are relevant. Three conclusions stand out. Global inflation impacts inflation in both AE and EME, but the impact is more heterogeneous than existing narratives have argued. One’s interpretation of global influences on domestic inflation differs, according to whether poorly performing economies in inflation terms are considered as opposed to the standard practice of examining mean inflation performance. A focus on observed inflation alone ignores that inflation expectations, including a global version of this variable, also plays a critical in inflation dynamics. Finally, there are significant spillovers in inflation between AE and EME, but these too are sensitive according to relative inflation performance. Some policy implications are also drawn.
    Keywords: Inflation, Globalization, monetary policy, Vector autoregressions, local projections, quantile regressions
    JEL: E31 E52 E58 C31 C32
    Date: 2020–05
  30. By: Blanco Barroso, Joao; Barbone Gonzalez, Rodrigo; Peydró, José-Luis; Nazar van Doornik, Bernardus
    Abstract: We show that countercyclical liquidity policy smooths credit supply cycles, with stronger crisis effects. For identification, we exploit the Brazilian supervisory credit register and liquidity policy changes on reserve requirements, that affected banks differentially and have a monetary and prudential purpose. Liquidity policy strongly attenuates both the credit crunch in bad times and high credit supply in booms. Strong economic effects are twice as large during the crisis easing than during the boom tightening. Finally, in crises, liquidity easing: increase less credit supply by more financially constrained banks; and collateral requirements increase substantially, especially by banks providing higher credit supply.
    Keywords: liquidity,reserve requirements,credit cycles,macroprudential and monetary policy
    JEL: E51 E52 E58 G01 G21 G28
    Date: 2019
  31. By: Juan Carlos Medina Guirado (UACJ); ; ;
    Abstract: Since the 2007-2009 financial recession and up until the present day, the main central banks have resorted to nontraditional policy tools to stimulate economic activity. A distinctive example was the expansion of the size of their balance sheets through the purchase of long-term government securities. In this paper I analyze the effect on credit markets of this “unconventional” monetary policy tool and compare it with that of conventional instruments such as open market operations. Our findings suggest that central bank purchases of long-term government securities stimulate credit market activity and reduce the cost of public and private borrowing only under a low interest rate and reduced fiscal debt regime. Otherwise, this policy increases the cost of servicing debt resulting in a contraction of lending. In contrast, open market operations aid credit availability but negatively affect the amount of risk-sharing in the economy.
    Keywords: Central Banking, unconventional monetary policy, financial intermediation, credit markets.
    JEL: E31 E44 E52 E58
    Date: 2020–01–04
  32. By: Hess Chung (Board of Governors of the Federal Reserve System); Etienne Gagnon (Board of Governors of the Federal Reserve System); Taisuke Nakata (University of Tokyo); Matthias Paustian (Board of Governors of the Federal Reserve System); Bernd Schlusche (Board of Governors of the Federal Reserve System); James Trevino (Board of Governors of the Federal Reserve System); Diego Vilán (Board of Governors of the Federal Reserve System); Wei Zheng (Visa Inc.)
    Abstract: We simulate the FRB/US model and a number of statistical models to quantify some of the risks stemming from the effective lower bound (ELB) on the federal funds rate and to assess the efficacy of adjustments to the federal funds rate target, balance sheet policies, and forward guidance to provide monetary policy accommodation in the event of a recession. Over the next decade, our simulations imply a roughly 20 to 50 percent probability that the federal funds rate will be constrained by the ELB at some point. We also find that forward guidance and balance sheet polices of the kinds used in response to the Global Financial Crisis are modestly effective in speeding up the labor market recovery and return of inflation to 2 percent following an economic slump. However, these policies have only small effects in limiting the initial rise in the unemployment rate during a recession because of transmission lags. As with any model-based analysis, we also discuss a number of caveats regarding our results.
    Date: 2020–05
  33. By: Maximilian Bock; Martin Feldkircher; Pierre L. Siklos
    Abstract: This paper explores the domestic and international effects of an increase in observed interest rates (conventional monetary policy) and expected interest rates (forward guidance). We find significant spillovers to a broad range of countries when both are subject to a tightening shock: Output growth and inflation decelerate and equity returns decline. Currencies of euro area neighboring countries tend to depreciate against the euro. A tightening forward guidance shock triggers more persistent effects on euro area and international interest rates. We find that international effects vary over the sample period when either interest rates are shocked.
    Keywords: Spillovers, interest rate expectations, forward guidance, GVAR
    JEL: E5 F3 C11 C30
    Date: 2020–05
  34. By: Stuart, Rebecca
    Abstract: The ability of the term structure (specifically the term spread, or the difference between the long and short ends of the yield curve) to predict economic activity is empirically well-established for the US, but less so for small open economies. The literature emphasizes the role of monetary policy for this predictive ability. Between 1972-2018, Ireland experienced three monetary regimes: first, the Irish Pound was fixed to Sterling (1972-1979); second the Pound floated in a band when Ireland was a member of the EMS (1979-1998); and third, as a member of the euro area (1999-2018). Using dynamic probit models and monthly data, I show that the term spread only had predictive power during the second regime, the only one in which the Central Bank of Ireland had any discretion to set interest rates based on domestic conditions.
    Keywords: Ireland,term structure,recessions,monetary regimes
    JEL: C25 E00 E43 N14
    Date: 2020
  35. By: Cletus K. Dordunoo; Alex Donkor (Achimota, Ghana)
    Abstract: The policy of credit ceilings coupled with the use of imposed velocity in monetary management in Ghana was fraught with failures and undesirable effects during the decade of economic reform (1983–1992). The failures necessitated the removal of credit ceilings and the adoption of indirect control of money supply. An important requirement for monetary management using an indirect control is the determination of the absorptive capacity of the economy as well as the identification of the appropriate intermediate targets, operating variables and policy instruments. An ideal policy instrument is one that can be precisely measured, is achievable by the monetary authorities within a short period of time, serves as a visible signal regarding intent of policy to economic agents, and is related to intermediate targets. This paper proposes a financial programming model (encompassing both demand and supply of money) that may be used to target growth in monetary stock, identify the key sources of assets and forecast the portfolio of the corresponding bank liabilities. The major instruments identified include financial papers (Bank of Ghana and government treasury bills and bonds), discount quotas and reserve ratios. These may be supplemented with directives and moral suasion. The leading indicators for determining whether monetary policy is on track include changes in the rate of foreign exchange and the rate of inflation.
  36. By: Chukwuma Agu (African Institute for Applied Economics Nigeria)
    Abstract: In the past decade, models have been developed to explain the monetary policy formulation behaviour of central banks. As expected, propositions for rules abound, among which the Taylor rule has almost come to be accepted as a benchmark, because of its simplicity, efficiency and insight into tracking historical monetary policy in many countries. However, it is accepted in the literature that some of the peculiarities of developing countries make a rigid application of the rule improper. For developing countries, therefore, the specific policy reaction function in each economy needs to be tracked. This paper specifies two simple models of monetary policy reaction functions for Nigeria: The first, a tracking model based on the revealed processes at the Central Bank of Nigeria (CBN), and an alternate model which closely follows the Taylor rule. The results confirm the primacy of inflation and credit to the private sector in the CBN’s monetary policy reaction function, which is consistent with the literature. Apart from these, however, none of the key macroeconomic variables that CBN indicates in its policy documents actually seem to have been considered in setting the interest rate policy. Empirical estimates could also not confirm interest rate smoothing, or the relevance of fiscal dominance in the reaction function. However, inflation and credit to the private sector do matter to the bank – although the first only retroactively. It is therefore apt to infer that the CBN acts consistent with its price stability and private sector-led growth objectives, but accommodates discrepancies in its goals and outcomes and, possibly without intending to do so, follows the Taylor rule
  37. By: Taisuke Nakata (University of Tokyo); Takeki Sunakawa (Hitotsubashi University)
    Abstract: How can the central bank credibly implement a "lower-for-longer" strategy? To answer this question, we analyze credible forward guidance policies in a sticky-price model with an effective lower bound (ELB) constraint on nominal interest rates by solving a series of optimal sustainable policy problems indexed by the duration of reputational loss. Lower-for-longer policies - while effective in stimulating the economy at the ELB - are potentially time-inconsistent, as the associated overheating of the economy in the aftermath of a crisis is undesirable ex post. However, if reneging on a lower-for-longer promise leads to a loss of reputation and prevents the central bank from effectively using lower-for-longer policies in future crises, these policies can be time-consistent. We fi nd that, even without an explicit commitment technology, the central bank can still credibly keep the policy rate at the ELB for an extended period - though not as extended under the optimal commitment policy - and meaningfully mitigate the adverse effects of the ELB constraint on economic activity.
    Date: 2020–05
  38. By: Stefano Fasani (Queen Mary University London); Haroon Mumtaz (Queen Mary University London); Lorenza Rossi (University of Pavia)
    Abstract: This paper uses a FAVAR model with external instruments to show that the policy uncertainty shocks are recessionary and are associated with an increase in the exit of firms and a decrease in entry and in the stock price with total factor productivity rising in the medium run. To explain this result, we build scale DSGE module featuring firm heterogeneity and endogenous firm entry and exit. These features are crucial in matching the empirical responses. Versions of the model with constant firms or constant firms' exit are unable to re-produce the FAVAR response of firm' entry and exit and suggest a much smaller effect of this shock on real activity.
    Keywords: Monetary policy uncertainty shocks, FAVAR, DSGE
    JEL: C5 E1 E5 E6
    Date: 2020–05–15
  39. By: Fendoglu, Salih; Gulsen, Eda; Peydró, José-Luis
    Abstract: We show that global liquidity limits the effectiveness of local monetary policy on credit markets. The mechanism is via a bank carry trade in international markets when local monetary policy tightens. For identification, we exploit global (VIX, U.S. monetary policy) shocks and loan-level data —the credit and international interbank registers— from a large emerging market, Turkey. Softer global liquidity conditions attenuate the pass-through of local monetary policy tightening on loan rates, especially for banks with more access to international wholesale markets. Effects are also important for other credit margins and for risk-taking, e.g. riskier borrowers in FX loans or defaults.
    Keywords: global financial cycle,monetary policy,emerging markets,banks,carry trade
    JEL: G01 G15 G21 G28 F30
    Date: 2019
  40. By: Gordon Y. Liao; Tony Zhang
    Abstract: We document the exchange rate hedging channel that connects country-level measures of net external financial imbalances with exchange rates. In times of market distress, countries with large positive external imbalances (e.g. Japan) experience domestic currency appreciation, and crucially, forward exchange rates appreciate relatively more than the spot after adjusting for interest rate differentials. Countries with large negative foreign asset positions experience the opposite currency movements. We present a model demonstrating that exchange rate hedging coupled with intermediary constraints can explain these observed relationships between net external imbalances and spot and forward exchange rates. We find empirical support for this currency hedging channel of exchange rate determination in both the conditional and unconditional moments of exchange rates, option prices, large institutional investors' disclosure of hedging activities, and central bank swap line usage during the COVID-19 market turmoil.
    Keywords: Global imbalance; Exchange rate; Forward; Hedging; Covered interest rate parity; Currency options; COVID19
    JEL: E44 F31 F32 F41 G11 G15 G18 G20
    Date: 2020–05–28
  41. By: Morais, Bernardo; Peydró, José-Luis; Roldán-Peña, Jessica; Ruiz-Ortega, Claudia
    Abstract: We identify the international credit channel by exploiting Mexican supervisory data sets and foreign monetary policy shocks in a country with a large presence of European and U.S. banks. A softening of foreign monetary policy expands credit supply of foreign banks (e.g., U.K. policy affects credit supply in Mexico via U.K. banks), inducing strong firm-level real effects. Results support an international risk-taking channel and spill overs of core countries’ monetary policies to emerging markets, both in the foreign monetary softening part (with higher credit and liquidity risk-taking by foreign banks) and in the tightening part (with negative local firm-level real effects).
    Keywords: monetary policy,financial globalization,quantitative easing (QE),credit supply,risk-taking,foreign banks
    JEL: E52 E58 G01 G21 G28
    Date: 2019
  42. By: Cukierman, Alex
    Abstract: The huge actual and prospective expansionary fiscal policies triggered by the corona crisis are expected to substantially raise debt/GDP ratios. This led a number of economists to reconsider the taboo on using seignorage (or more colorfully helicopter money (HM)). Following a brief documentation of the economic impact of the crisis and the responses of aggregate demand policies the paper surveys the views of economists and policymaker in the past and present on HM. Optimal taxation considerations imply that the decision on allocating deficit financing between debt and HM falls within the realm of fiscal authorities â?? a fact that infringes on central bank (CB) autonomy. The paper explores ideas aimed at improving the tradeoff between implementation of the optimal taxation principle and CB autonomy. Implication of cross-country variations in the need to use seignorage are discussed. Comparison of the indirect contribution of quantitatve easing (QE) to deficit financing with the direct contribution of HM implies that the latter can be implemented under central bank dominance without much change in existing monetary institutions. Empirical evidence from the US during the global financial crisis with the post WWI German inflation supports the view that for countries experiencing deflationary pressure HM is more potent in moving inflation toward its target than QE. Given the current outlook temporary use of HM where badly needed does not appear to involve a substantial risk of inflation.
    Keywords: central bank independence; COVID-19; Deficits; Fiscal institutions; Government Debt; inflation and deflation; optimal taxation; Seignorage
    JEL: E31 E5 E62 E63 H12 H21 H6
    Date: 2020–05
  43. By: Grégory LEVIEUGE; Jose David GARCIA REVELO
    Date: 2020
  44. By: Mariarosaria Comunale
    Abstract: In this paper, we make use of the results from Structural Bayesian VARs taken from several studies for the euro area, which apply the idea of a shock-dependent Exchange Rate Pass-Through, drawing a comparison across models and also with respect to available DSGEs. On impact, the results are similar across Structural Bayesian VARs. At longer horizons, the magnitude in DSGEs increases because of the endogenous response of monetary policy and other variables. In BVARs particularly, shocks contribute relatively little to observed changes in the exchange rate and in HICP. This points to a key role of systematic factors, which are not captured by the historical shock decomposition. However, in the APP announcement period, we do see demand and exogenous exchange rate shocks countribute significantly to variations in exchange rates. Nonetheless, it is difficult to find a robust characterization across models. Moreover, the modelling challenges increase when looking at individual countries, because exchange rate and monetary policy shocks (also taken relative to the US) are common to the whole euro area. Hence, we provide a local projection exercise with common euro area shocks, identified in euro area-specific Structural Bayesian VARs and in DSGE, extrapolated and used as regressors. For common exchange rate shocks, the impact on consumer prices is the largest in some new member states, but there are a wide range of estimates across models. For core consumer prices, the coefficients are smaller. Regarding common relative monetary policy shocks, the impact is larger than for exchange rate shocks in any case. Generally, euro area monetary policy plays a big role for consumer prices, and this is especially so for new member states and the euro area periphery.
    Keywords: euro area, exchange rate pass-through, Bayesian VAR, local projections, monetary policy
    JEL: E31 F31 F45
    Date: 2020–04
  45. By: Barbara Mbire Barungi (Makerere University)
    Abstract: This paper examines the determinants of inflation in Uganda. High inflation, an economic virus of the Ugandan economy for most of the 1 980s, has been recorded at annual rates of less than 10% since 1993/94. A competitive exchange rate has also been sustained since 1990. The paper analyses the relative importance of monetary, cost/push and supply-related causes of inflation. A striking observation of the study is that inflation in Uganda is persistently a monetary phenomenon the monetary financing of the fiscal deficit is the main cause of sustained inflation in the economy. In addition to the links between fiscal deficits and monetization, the study investigated the causal relationship between the exchange rate and fiscal balance. The major conclusions are that monetary expansion as dominated by the financing of the fiscal deficit is instrumental in determining the pace of inflation. The exchange rate continues to be a key policy tool. During the 1 980s parallel exchange rate induced inflation was significant. Since liberalization of the foreign exchange market in 1990, there still remains a heavy focus on the exchange rate policy as key to maintenance of macroeconomic stability. It is suggested that the exchange rate policy tool should be used together with appropriate monetary and fiscal instruments so as to enable domestic and external stability of the Ugandan economy.
  46. By: Cho, Deaha; Han, Yoonshin; Oh, Joonseok; Rogantini Picco, Anna
    Abstract: We study optimal monetary policy in response to uncertainty shocks in standard New Keynesian models under Calvo and Rotemberg pricing schemes. We find that optimal monetary policy achieves joint stabilization of inflation and the output gap in both pricing schemes. We show that a simple Taylor rule that puts high weight on inflation stability approximates optimal monetary policy well. This rule mutes firms’ precautionary pricing incentive, the key channel that makes responses under Calvo and Rotemberg pricing schemes differ under the empirically calibrated Taylor rule.
    Keywords: Optimal monetary policy; Uncertainty shocks
    JEL: E12 E52
    Date: 2020–06

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