nep-mon New Economics Papers
on Monetary Economics
Issue of 2020‒10‒05
29 papers chosen by
Bernd Hayo
Philipps-Universität Marburg

  1. Coin migration between Germany and other euro area countries By Uhl, Matthias
  2. Financial Openness and Inflation: An Empirical Analysis By Alfred V. Guender; Hamish McHugh-Smith
  3. Stablecoins: Implications for monetary policy, financial stability, market infrastructure and payments, and banking supervision in the euro area By Force, ECB Crypto Assets Task
  4. After 25 Years as Faithful Members of the EU. Public Support for the Euro and Trust in the ECB in Austria, Finland and Sweden By Roth, Felix; Jonung, Lars
  5. Probing the mechanism: lending rate setting in a data-driven agent-based model By Papadopoulos, Georgios
  6. Capital Flows and the Stabilizing Role of Macroprudential Policies in CESEE By Markus Eller; Niko Hauzenberger; Florian Huber; Helene Schuberth; Lukas Vashold
  7. Uncertainty and monetary policy during extreme events By Giovanni Pellegrino; Efrem Castelnuovo; Giovanni Caggiano
  8. Exchange rate policy and external vulnerabilities in Sub-Saharan Africa: nominal, real or mixed targeting? By Fadia Al Hajj; Gilles Dufrénot; Benjamin Keddad
  9. Uncertainty, Long-Run, and Monetary Policy Risks in a Two-Country Macro Model By Kimberly A. Berg; Nelson C. Mark
  10. Communication and the Beliefs of Economic Agents By Bernardo Candia; Olivier Coibion; Yuriy Gorodnichenko
  11. Pricing under fairness concerns By Eyster, Erik; Madarász, Kristóf; Michaillat, Pascal
  12. Monetary Policy Surprises and Exchange Rate Behavior By Refet S. Gürkaynak; A. Hakan Kara; Burçin Kısacıkoğlu; Sang Seok Lee
  13. Does the Phillips curve help to forecast euro area inflation? By Bańbura, Marta; Bobeica, Elena
  14. Lebanon's monetary meltdown tests the limits of central banking By Patrick Honohan; Adnan Mazarei
  15. Monetary policy and stock market valuation By Laine, Olli-Matti
  16. A program for strengthening the Federal Reserve's ability to fight the next recession By David Reifschneider; David Wilcox
  17. Eggs in One Basket: Security and Convenience of Digital Currencies By Charles M. Kahn; Francisco Rivadeneyra; Tsz-Nga Wong
  18. Underlying Inflation: Its Measurement and Significance By Jeremy B. Rudd
  19. The Effectiveness of Monetary Policy Reconsidered By John Weeks
  20. Inflation Threshold Levels and Economic Growth in the Franc Zone Countries By Sanga,Dimitri; Gui-Diby,Steve Loris
  21. Central Banks' Financial Stability Communications during the COVID-19 Pandemic By Ricardo Correa; Juan M. Londono; Jerry Yang
  22. How Robust Are Makeup Strategies to Key Alternative Assumptions? By James Hebden; Edward Herbst; Jenny Tang; Giorgio Topa; Fabian Winkler
  23. Average Inflation Targeting and Household Expectations By Olivier Coibion; Yuriy Gorodnichenko; Edward S. Knotek
  24. What’s Up with the Phillips Curve? By William Chen; Marco Del Negro; Michele Lenza; Giorgio E. Primiceri; Andrea Tambalotti
  25. Interest rate pegs and the reversal puzzle: On the role of anticipation By Gerke, Rafael; Giesen, Sebastian; Kienzler, Daniel
  26. Expanding the Toolkit: Facilities Established to Respond to the COVID-19 Pandemic By Anna Kovner; Antoine Martin
  27. The Fed Takes on Corporate Credit Risk: An Analysis of the Efficacy of the SMCCF By Simon Gilchrist; Bin Wei; Vivian Z. Yue; Egon Zakrajšek
  28. Monetary Momentum By Andreas Neuhierl; Michael Weber
  29. What do high-frequency expenditure network data reveal about spending and inflation during COVID‑19? By Kim Huynh; Helen Lao; Patrick Sabourin; Angelika Welte

  1. By: Uhl, Matthias
    Abstract: Euro coins have a common European side and an individual national side. Thanks to coin migration, coins bearing a panoply of national sides are in circulation throughout the euro area. In this paper, we model the mixing of coins circulating in the euro area countries and in particular the extent of coin migration in the euro area. A model calibration suggests that, for the coin denominations €2, €1, 50 cent and 20 cent roughly the same quantity of euro coins migrate from Germany to the rest of the euro area as vice versa. Accordingly, the relatively large quantities of coins issued by the Federal Republic of Germany are not materially explained by exports of coins to other euro area countries.
    Keywords: Euro coins,coin circulation,coin mixing
    JEL: E41
    Date: 2020
  2. By: Alfred V. Guender (University of Canterbury); Hamish McHugh-Smith
    Abstract: Our empirical analysis reveals a strong systematic inverse link between financial openness and CPI inflation in over 100 countries, adding weight to the argument that inflation in financially open economies is lower. Trade openness in contrast bears no systematic relationship to inflation.
    Keywords: Financial Openness, Trade Openness, Inflation, Capital Controls
    JEL: E3 E5 F3
    Date: 2020–09–01
  3. By: Force, ECB Crypto Assets Task
    Abstract: This paper summarises the outcome of an analysis of stablecoins undertaken by the ECB Crypto-Assets Task Force. At the time of writing, the stablecoin debate lacks a common taxonomy and unambiguous terminology. This paper applies a definition that distinguishes stablecoins from existing forms of currencies – regardless of the technology used – and characterises stablecoin arrangements based on the functions they fulfil. This approach emphasises the role of technology-neutral regulation in preventing arbitrage, as well as comprehensive Eurosystem oversight, irrespective of stablecoins’ regulatory status. Against this background, this paper assesses stablecoins’ implications for the euro area based on three scenarios for the uptake of stablecoins: (i) as a crypto-assets accessory function; (ii) as a new payment method; and (iii) as an alternative store of value. While the first scenario is merely the continuation of the current state of the market and, thus far, has not posed concerns for the financial sector and/or central bank tasks, stablecoins of the type envisaged in the second scenario may reach a scale such that financial stability risks can become material, and the safety and efficiency of the payment system may be affected. The third scenario is both the least plausible and the most relevant from a monetary policy perspective. The paper concludes that the Eurosystem relies on appropriate regulation, oversight, and supervision to manage the implications of stablecoins (and the risks that stem from them) on its mandate and tasks under plausible scenarios. The Eurosystem continues monitoring the evolution of the stablecoin market and stands ready to respond to rapid changes in all possible scenarios. JEL Classification: E42, G21, G23, O33
    Keywords: implications of stablecoins, oversight, regulation, stablecoins
    Date: 2020–09
  4. By: Roth, Felix (Department of Economics, University of Hamburg); Jonung, Lars (Department of Economics, Lund University)
    Abstract: Austria, Finland and Sweden became members of the EU in 1995. This paper examines how support for the euro and trust in the European Central Bank (ECB) have evolved in these three countries since their introduction at the turn of the century. Support for the euro in the two euro-area members Austria and Finland has remained high and relatively stable since the physical introduction of the new currency nearly 20 years ago, while the euro crisis significantly reduced support for the euro in Sweden. Since the start of the crisis, trust in the ECB was strongly influenced by the pronounced increase in unemployment in the euro area, demonstrating that the ECB was held accountable for macroeconomic developments. Our results indicate that citizens in the EU, both within and outside the euro area, judge the euro and the ECB based on the economic performance of the euro area. Thus, the best way to foster support for the euro and trust in the ECB is to pursue policies aimed at achieving low unemployment and high growth.
    Keywords: euro; trust; ECB; EU; monetary union; Austria; Finland; Sweden
    JEL: E42 E52 E58 F33 F45
    Date: 2020–09–08
  5. By: Papadopoulos, Georgios
    Abstract: The mechanism underlying banks' interest rate setting behaviour is an important element in the study of economic systems with important policy implications associated with the potential of monetary and -recently- macroprudential policies to affect the real economy. In the agent-based modelling literature, lending rate setting has so far been modelled in an ad-hoc manner, based almost exclusively on theoretical grounds with the specifics usually chosen in an arbitrary fashion. This study tries to empirically identify the mechanism that approximates the observed patterns of consumer credit interest rates within a data-driven, agent-based model (ABM). The analysis suggests that there is heterogeneity across countries, both in terms of the rule itself as well as its specific parameters and that often a simple, borrower-risk only mechanism adequately approximates the historical series. More broadly, the validation exercise shows that the model is able to replicate the dynamics of several variables of interest, thus providing a way to bring ABMs "close to the data".
    Keywords: Agent-based modelling, Lending rate mechanism, Consumer credit, Model validation, Rule discovery
    JEL: C63 E21 E27 E43
    Date: 2020–09–04
  6. By: Markus Eller; Niko Hauzenberger; Florian Huber; Helene Schuberth; Lukas Vashold
    Abstract: In line with the recent policy discussion on the use of macroprudential measures to respond to cross-border risks arising from capital flows, this paper tries to quantify to what extent macroprudential policies (MPPs) have been able to stabilize capital flows in Central, Eastern and Southeastern Europe (CESEE) -- a region that experienced a substantial boom-bust cycle in capital flows amid the global financial crisis and where policymakers had been quite active in adopting MPPs already before that crisis. To study the dynamic responses of capital flows to MPP shocks, we propose a novel regime-switching factor-augmented vector autoregressive (FAVAR) model. It allows to capture potential structural breaks in the policy regime and to control -- besides domestic macroeconomic quantities -- for the impact of global factors such as the global financial cycle. Feeding into this model a novel intensity-adjusted macroprudential policy index, we find that tighter MPPs may be effective in containing domestic private sector credit growth and the volumes of gross capital inflows in a majority of the countries analyzed. However, they do not seem to generally shield CESEE countries from capital flow volatility.
    Date: 2020–09
  7. By: Giovanni Pellegrino; Efrem Castelnuovo; Giovanni Caggiano
    Abstract: How damaging are uncertainty shocks during extreme events such as the great recession and the Covid-19 outbreak? Can monetary policy limit output losses in such situations? We use a nonlinear VAR framework to document the large response of real activity to a financial uncertainty shock during the great recession. We replicate this evidence with an estimated DSGE framework featuring a concept of uncertainty comparable to that in our VAR. We employ the DSGE model to quantify the impact on real activity of an uncertainty shock under different Taylor rules estimated with normal times vs. great recession data (the latter associated with a stronger response to output). We find that the uncertainty shock-induced output loss experienced during the 2007-09 recession could have been twice as large if policymakers had not responded aggressively to the abrupt drop in output in 2008Q3. Finally, we use our estimated DSGE framework to simulate different paths of uncertainty associated to different hypothesis on the evolution of the coronavirus pandemic. We find that: i) Covid-19-induced uncertainty could lead to an output loss twice as large as that of the great recession; ii) aggressive monetary policy moves could reduce such loss by about 50%.
    Keywords: Uncertainty shock, nonlinear IVAR, nonlinear DSGE framework, minimum-distance estimation, great recession, Covid-19
    JEL: C22 E32 E52
    Date: 2020–09
  8. By: Fadia Al Hajj (College of Business Administration - GUST - Gulf University for Science and Technology); Gilles Dufrénot (AMSE - Aix-Marseille Sciences Economiques - EHESS - École des hautes études en sciences sociales - AMU - Aix Marseille Université - ECM - École Centrale de Marseille - CNRS - Centre National de la Recherche Scientifique, AMU - Aix Marseille Université); Benjamin Keddad (PSE - Paris School of Economics)
    Abstract: This paper discusses the theoretical choice of exchange rate regimes in Sub-Saharan African countries that are facing external vulnerabilities. To reduce instability, policymakers choose among promoting external competitiveness using a real anchor, lowering the burden of foreign debt using a nominal anchor or using a policy mix of both anchors. We observe that these countries tend to adopt mixed anchor policies. We solve a state space model to explain the determinants of and the strategy behind this policy. We find that the mixed targeting policy is a two-step strategy: First, monetary authorities choose the degree of nominal exchange rate flexibility according to the velocity of money, trade openness, foreign debt, degree of exchange rate pass-through and exchange rate target zone. Second, authorities seek to stabilize the real exchange rate depending on the degree of competition in the domestic goods market and the degree of foreign exchange intervention. We conclude with regime-switching estimations to provide empirical evidence of how these economic fundamentals influence exchange rate policy in Sub-Saharan Africa.
    Keywords: regime-switching model,external vulnerabilities,exchange rate policy,Sub-Saharan Africa
    Date: 2020
  9. By: Kimberly A. Berg; Nelson C. Mark
    Abstract: We study international currency risk in a two-country dynamic stochastic general equilibrium model under incomplete markets. The underlying sources of risk are direct shocks to productivity growth, shocks to a long-run risk component of productivity growth, shocks to a stochastic volatility component of productivity growth, and shocks to monetary policy. The long-run risk and stochastic volatility shocks have the interpretation of aggregate demand shocks. Cross-country heterogeneity in the model arises from three sources: differences in the long-run risk and stochastic volatility process parameters that we estimate using United States and Japanese total factor productivity data, differences in monetary policy parameters, and differences in export pricing. The driving force behind currency risk is heterogeneity in precautionary saving. Differences in monetary policy can generate moderate currency risk, but structural differences in productivity growth are more important. Export pricing conventions are not important sources of currency risk. Stochastic volatility shocks are key to generating volatility in the currency risk premium, but they do not help at all in explaining the forward premium bias/anomaly.
    JEL: E21 E43 F31 G12
    Date: 2020–09
  10. By: Bernardo Candia; Olivier Coibion; Yuriy Gorodnichenko
    Abstract: New surveys provide a wealth of information on how economic agents form their expectations and how those expectations shape their decisions. We review recent evidence on how changes in macroeconomic expectations, particularly inflation expectations, affect households’ and firms’ actions. We show that the provision of information about inflation to households and firms can sometimes backfire in terms of their subsequent decisions. Whether or not this is the case hinges on how individuals interpret the news about inflation: supply-side interpretations (“inflation is bad for the economy”) lead to negative income effects, which can depress economic activity. We show that households in advanced economies, unlike professional forecasters, typically have such a supply-side interpretation, as do many firms. New communication strategies could avoid public misinterpretation of policy decisions.
    JEL: E2 E3 E4 E5
    Date: 2020–09
  11. By: Eyster, Erik; Madarász, Kristóf; Michaillat, Pascal
    Abstract: This paper proposes a theory of pricing premised upon the assumptions that customers dislike unfair prices—those marked up steeply over cost—and that firms take these concerns into account when setting prices. Since they do not observe firms’ costs, customers must extract costs from prices. The theory assumes that customers infer less than rationally: when a price rises due to a cost increase, customers partially misattribute the higher price to a higher markup—which they find unfair. Firms anticipate this response and trim their price increases, which drives the passthrough of costs into prices below one: prices are somewhat rigid. Embedded in a New Keynesian model as a replacement for the usual pricing frictions, our theory produces monetary nonneutrality: when monetary policy loosens and inflation rises, customers misperceive markups as higher and feel unfairly treated; firms mitigate this perceived unfairness by reducing their markups; in general equilibrium, employment rises. The theory also features a hybrid short-run Phillips curve, realistic impulse responses of output and employment to monetary and technology shocks, and an upward-sloping long-run Phillips curve.
    Keywords: forthcoming
    JEL: L11 E31 D91
    Date: 2020–09–07
  12. By: Refet S. Gürkaynak; A. Hakan Kara; Burçin Kısacıkoğlu; Sang Seok Lee
    Abstract: Central banks unexpectedly tightening policy rates often observe the exchange value of their currency depreciate, rather than appreciate as predicted by standard models. We document this for Fed and ECB policy days using event-studies and ask whether an information effect, where the public attributes the policy surprise to an unobserved state of the economy that the central bank is signaling by its policy may explain the abnormality. It turns out that many informational assumptions make a standard two-country New Keynesian model match this behavior. To identify the particular mechanism, we condition on multiple asset prices in the event-study and model implications for these. We find that there is heterogeneity in this dimension in the event-study and no model with a single regime can match the evidence. Further, even after conditioning on possible information effects driving longer term interest rates, there appear to be other drivers of exchange rates. Our results show that existing models have a long way to go in reconciling event-study analysis with model-based mechanisms of asset pricing.
    JEL: E43 E44 E52 E58 G14
    Date: 2020–09
  13. By: Bańbura, Marta; Bobeica, Elena
    Abstract: We find that it does, but choosing the right specification is not trivial. We unveil notable model instability, with breaks in the performance of most simple Phillips curves. Euro area inflation was particularly hard to forecast in the run-up to the EMU and after the sovereign debt crisis, when the trend and for the latter period, also the amount of slack, were harder to pin down. Yet, some specifications outperform a univariate benchmark most of the time and are thus a useful element in a forecaster's toolkit. We base these conclusions on an extensive forecast evaluation over 1994 - 2018, an extraordinarily long period by euro area standards. We complement the analysis using real-time data over 2005-2018. As lessons for practitioners, we find that: (i) the key type of time variation to consider is an inflation trend; (ii) a simple filter-based output gap works well overall as a measure of economic slack, but after the Great Recession it is outperformed by endogenously estimated slack or by estimates from international economic institutions; (iii) external variables do not bring forecast gains; (iv) newer generation Phillips curve models with several time-varying features are a promising avenue for forecasting, especially when density forecasts are of interest, and finally, (v) averaging over a wide range of modelling choices offers some hedge against breaks in forecast performance. JEL Classification: C53, E31, E37
    Keywords: C53, E31, E37
    Date: 2020–09
  14. By: Patrick Honohan (Peterson Institute for International Economics); Adnan Mazarei (Peterson Institute for International Economics)
    Abstract: Lebanon has spent the last 20 years juggling an excessive level of debt and current account deficits. Apparent financial wizardry by the central bank (Banque du Liban) helped keep the exchange rate fixed, inflation low, and debt service flowing until 2020. But these efforts merely postponed the inevitable, at a high cost. Repeated shocks to the Lebanese economy and governance weaknesses pushed the financial contraption over the cliff before the COVID-19 outbreak. The explosion that ripped through the Port of Beirut in early August added to the disarray. The Lebanese pound has crashed, the government has defaulted on some of its debt, and restrictions have been placed on deposit withdrawals and access to foreign exchange. Lebanon faces an uncertain future of uneven suffering. It will need foreign assistance, but such assistance will not extend to covering the losses of the banking system. How the losses are distributed will set the scene for Lebanon’s future development. Policymakers should aim for fairness, predictability, and stability without overindebtedness.
    Date: 2020–09
  15. By: Laine, Olli-Matti
    Abstract: This paper estimates the effect of the European Central Banks’s monetary policy on the term structure of expected stock market risk premia. Expected stock market premia are solved using analysts’ dividend forecasts, the Eurostoxx 50 stock index and Eurostoxx 50 dividend futures. Although risk-free rates have decreased after the global financial crisis, the results indicate that the expected average stock market return has remained quite stable at around 9 percent. This implies that the expected average stock market risk premium has increased since the financial crisis. The effect of monetary policy on expected premia is analysed using VAR models and local projection methods. According to the results, monetary policy easing raises the average expected premium. The effect is explained by a rise in long-horizon expected premia.
    JEL: E52 G12
    Date: 2020–09–18
  16. By: David Reifschneider (former Federal Reserve); David Wilcox (Peterson Institute for International Economics)
    Abstract: If the Federal Reserve does not decisively change the way it conducts monetary policy, it will probably not be capable of fighting recessions in the future as effectively as it fought them in the past. This reality helped motivate the Fed to undertake the policy framework review in which it is currently engaged. Researchers have suggested many steps the Fed could take to improve its recession-fighting ability; however, no consensus has emerged as to which of these steps would be both practical and maximally effective. This paper aims to fill that gap. It recommends that the Fed commit as soon as possible to a new approach for fighting recessions, involving two key elements. First, the Fed should commit that whenever it runs out of room to cut the federal funds rate further, it will leave the rate at its minimum level until the labor market recovers and inflation returns to 2 percent. Second, the Fed should commit that under the same circumstances, it will begin to purchase longer-term assets in volume and will continue such purchases until the labor market recovers. If the forces driving the next recession are not unusually severe, this framework might allow the Fed to be as effective at fighting that recession as it was in the past. If the next recession is more severe, however, the Fed will probably run out of ammunition even if it takes the two steps recommended here. Therefore, both monetary and fiscal policymakers should consider yet other steps they could take to enhance their ability to fight future recessions.
    Keywords: Monetary policy, Federal Reserve, framework review, effective lower bound
    JEL: E43 E44 E52 E58
    Date: 2020–03
  17. By: Charles M. Kahn; Francisco Rivadeneyra; Tsz-Nga Wong
    Abstract: Digital currencies store balances in anonymous electronic addresses. We analyze the trade-offs between safety and convenience of aggregating balances in addresses, electronic wallets and banks. In our model agents balance the risk of theft of a large account with the cost to safeguarding a large number of passwords of many small accounts. Account custodians (banks, wallets and other payment service providers) have different objectives and tradeoffs on these dimensions; we analyze the welfare effects of differing industry structures and interdependencies, and in particular the consequences of "password aggregation" programs which in effect consolidate risks across accounts.
    Keywords: digital currencies; wallets; hacking; theft; welfare
    JEL: E42 E51 E58
    Date: 2020–09–04
  18. By: Jeremy B. Rudd
    Abstract: Underlying inflation is the rate of inflation that would be expected to eventually prevail in the absence of economic slack, supply shocks, idiosyncratic relative price changes, or other disturbances. Underlying inflation is a useful benchmark for monetary policy in that it provides an idea of the rate of price change that would be expected to obtain under "normal" circumstances in an economy where the level of resource utilization is putting neither upward nor downward pressure on inflation.
    Date: 2020–09–18
  19. By: John Weeks (IPC-IG)
  20. By: Sanga,Dimitri; Gui-Diby,Steve Loris
    Abstract: This paper examines the growth-inflation nexus in Franc zone currency unions. It aims at estimating the inflation threshold above which additional inflationary pressures adversely affect economic expansion. It uses cointegration methods that are applied to data from 14 African countries from the Franc zone over 1970-2018. Based on country-level data, the results indicate that it is possible to increase the threshold levels used by regional central banks to 5.4-5.6 percent in the Central African Monetary Union and 4.3-4.5 percent in the West African Monetary Union. Homogeneous cointegration panel data analyses confirm the need to increase the threshold in Central African Monetary Union countries but do not in the West African Monetary Union countries.
    Keywords: Inflation,Economic Growth,Industrial Economics,Economic Theory&Research,International Trade and Trade Rules,Macroeconomic Management
    Date: 2020–09–21
  21. By: Ricardo Correa; Juan M. Londono; Jerry Yang
    Abstract: The COVID-19 pandemic has led to the implementation of unprecedented policy actions by central banks around the world. Along with the reduction of interest rates and the use of asset purchase and lending programs, central bank communications have been actively deployed as a policy tool.
    Date: 2020–09–18
  22. By: James Hebden; Edward Herbst; Jenny Tang; Giorgio Topa; Fabian Winkler
    Abstract: We analyze the robustness of makeup strategies—policies that aim to offset, at least in part, past misses of inflation from its objective—to alternative modeling assumptions, with an emphasis on the role of inflation expectations. We survey empirical evidence on the behavior of shorter-run and long-run inflation expectations. Using simulations from the FRB/US macroeconomic model, we find that makeup strategies can moderately offset the real effects of adverse economic shocks, even when much of the public is uninformed about the monetary strategy. We also discuss the robustness of makeup strategies to alternative assumptions about the slope of the Phillips curve and the (mis)perception of economic slack.
    Keywords: Monetary policy; Effective lower bound; Expectations
    JEL: E47 E52
    Date: 2020–08–27
  23. By: Olivier Coibion; Yuriy Gorodnichenko; Edward S. Knotek
    Abstract: Using a daily survey of U.S. households, we study how the Federal Reserve’s announcement of its new strategy of average inflation targeting affected households’ expectations. Starting with the day of the announcement, there is a very small uptick in the minority of households reporting that they had heard news about monetary policy relative to prior to the announcement, but this effect fades within a few days. Those hearing news about the announcement do not seem to have understood the announcement: they are no more likely to correctly identify the Fed’s new strategy than others, nor are their expectations different. When we provide randomly selected households with pertinent information about average inflation targeting, their expectations still do not change in a different way than when households are provided with information about traditional inflation targeting.
    Keywords: Inflation targeting; inflation expectations; surveys; communication; randomized controlled trial
    JEL: E3 E4 E5
    Date: 2020–09–18
  24. By: William Chen; Marco Del Negro; Michele Lenza; Giorgio E. Primiceri; Andrea Tambalotti
    Abstract: U.S. inflation used to rise during economic booms, as businesses charged higher prices to cope with increases in wages and other costs. When the economy cooled and joblessness rose, inflation declined. This pattern changed around 1990. Since then, U.S. inflation has been remarkably stable, even though economic activity and unemployment have continued to fluctuate. For example, during the Great Recession unemployment reached 10 percent, but inflation barely dipped below 1 percent. More recently, even with unemployment as low as 3.5 percent, inflation remained stuck under 2 percent. What explains the emergence of this disconnect between inflation and unemployment? This is the question we address in “What’s Up with the Phillips Curve?,” published recently in Brookings Papers on Economic Activity.
    Keywords: inflation; unemployment; monetary policy trade-off; VARs; DSGE models
    JEL: E2 E52
    Date: 2020–09–18
  25. By: Gerke, Rafael; Giesen, Sebastian; Kienzler, Daniel
    Abstract: We revisit the reversal puzzle: A counterintuitive contraction of inflation in response to an interest rate peg. We show that it is intimately related to the degree of agents' anticipation. If agents perfectly anticipate the peg, reversals occur depending on the duration of the peg. If they do not anticipate the peg, reversals are absent. In the case of imperfect anticipation, implemented by a Markov-switching framework, we measure the degree of anticipation by the frequency of the peg regime. Even if the frequency of the peg takes on a value twice as large as empirically observed, the reversal puzzle is absent.
    Keywords: Interest rate peg,Reversal puzzle,Regime-switching model
    JEL: E32 E52
    Date: 2020
  26. By: Anna Kovner; Antoine Martin
    Abstract: The Federal Reserve’s response to the coronavirus pandemic has been unprecedented in its size and scope. In a matter of months, the Fed has, among other things, cut the federal funds rate to the zero lower bound, purchased a large amount of Treasury securities and agency mortgage‑backed securities (MBS) and, together with the U.S. Treasury, introduced several lending facilities. Some of these facilities are very similar to ones introduced during the 2007-09 financial crisis while others are completely new. In this post, we argue that the new facilities, while unprecedented, are a natural extension of the Fed’s toolkit, as they operate through similar economic mechanisms to prevent self-reinforcing bad outcomes. We also explain why these new facilities are particularly useful as part of the response to the pandemic, which is an economic shock very different from a financial crisis.
    Keywords: Federal Reserve; pandemic; COVID-19; facilities
    JEL: E5
    Date: 2020–09–22
  27. By: Simon Gilchrist; Bin Wei; Vivian Z. Yue; Egon Zakrajšek
    Abstract: We evaluate the efficacy of the Secondary Market Corporate Credit Facility (SMCCF), a program designed to stabilize the corporate bond market in the wake of the Covid-19 shock. The Fed announced the SMCCF on March 23 and expanded the program on April 9. Regression discontinuity estimates imply that these announcements reduced credit spreads on bonds eligible for purchase 70 basis points. We refine this analysis by constructing a sample of bonds—issued by the same set of companies—which differ in their SMCCF eligibility. A diff-in-diff analysis shows that both announcements had large effects on credit spreads, narrowing spreads 20 basis points on eligible bonds relative to their ineligible counterparts within the same set of issuers across the two announcement periods. The March 23 announcement also reduced bid-ask spreads ten basis points within ten days of the announcement. By lowering credit spreads and improving liquidity, the April 9 announcement had an especially pronounced effect on “fallen angels.” The actual purchases lowered credit spreads by an additional five basis points and bid-ask spreads by two basis points. These results confirm that the SMCCF made it easier for companies to borrow in the corporate bond market.
    JEL: E44 E58 G2
    Date: 2020–09
  28. By: Andreas Neuhierl (University of Notre Dame); Michael Weber (University of Chicago - Booth School of Business)
    Abstract: We document a large return drift around monetary policy announcements by the Federal Open Market Committee (FOMC). Stock returns start drifting up 25 days before expansionary monetary policy surprises, whereas they decrease before contractionary surprises. The cumulative return difference across expansionary and contractionary policy decisions amounts to 2.5% until the day of the policy decision and continues to increase to more than 4.5% 15 days after the meeting. The drift is more pronounced during periods of high uncertainty, it is a market-wide phenomenon, and it is present in all industries and many international equity markets. Standard returns factors and time-series momentum do not span the return drift around FOMC policy decisions. A simple trading strategy exploiting the drift around FOMC meetings increases Sharpe ratios relative to a buy-and-hold investment by a factor of 4. The cumulative returns before FOMC meetings significantly predict the subsequent policy surprise.
    Keywords: Return Drift, Monetary Policy, FOMC, Macro News
    JEL: E31 E43 E44 E52 E58 G12
    Date: 2020
  29. By: Kim Huynh; Helen Lao; Patrick Sabourin; Angelika Welte
    Abstract: The official consumer price index (CPI) inflation measure, based on a fixed basket set before the COVID 19 pandemic, may not fully reflect what consumers are currently experiencing. We partnered with Statistics Canada to construct a more representative index for the pandemic with weights based on real-time transaction and survey data.
    Keywords: Inflation and prices; Payment clearing and settlement systems
    JEL: D1 D12 E3 E31 E4 E42 E5 E52
    Date: 2020–09

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