nep-mon New Economics Papers
on Monetary Economics
Issue of 2022‒05‒30
eighteen papers chosen by
Bernd Hayo
Philipps-Universität Marburg

  1. Monetary Policy Transmission and Policy Coordination in China By Miss Sonali Das; Wenting Song
  2. Shocks to Inflation Expectations By Jonathan J. Adams; Mr. Philip Barrett
  3. Managing Expectations in the New Keynesian Model By Robert G. King; Yang K. Lu
  4. Resilience of bank liquidity ratios in the presence of a central bank digital currency By Alissa Gorelova; Bena Lands; Maria teNyenhuis
  5. Are the East African Community's Countries Ready for a Common Currency? By Kigabo-Rusuhuzwa, Thomas; Heshmati, Almas
  6. How successful was Germany's first common currency? A new look at the imperial monetary union of 1559 By Volckart, Oliver
  7. Causal Effects of the Fed's Large-Scale Asset Purchases on Firms' Capital Structure By Andrea Nocera; M. Hashem Pesaran
  8. Money, Exchange Rate and Export Quality By Ganguly, Shrimoyee; Acharyya, Rajat
  9. Trust and monetary policy By Paul De Grauwe; Yuemei Ji
  10. What Do Consumers Think Will Happen to Inflation? By Olivier Armantier; Fatima Boumahdi; Gizem Koşar; Jason Somerville; Giorgio Topa; Wilbert Van der Klaauw; John C. Williams
  11. The U.S. Economic Dynamics and Inflation Persistence: a Regime-Switching Perspective By Elton Beqiraj; Giuseppe Ciccarone; Giovanni Di Bartolomeo
  12. House price dynamics, optimal LTV limits and the liquidity trap By Ferrero, Andrea; Harrison, Richard; Nelson, Benjamin
  13. European Exchange Rate Adjustments in Response to COVID-19, Containment Measures and Stabilization Policies By Jens Klose
  14. Instinctive versus reflective trust in the European Central Bank By Angino, Siria; Secola, Stefania
  15. Some notes on Ricardo's analysis of the convergence process of the market rate of interest to the natural rate By Ciccone, Michele
  16. Interest rate shocks, competition and bank liquidity creation By Kick, Thomas
  17. The Dominant Currency Financing Channel of External Adjustment By Camila Casas; Sergii Meleshchuk; Yannick Timmer
  18. The Term Structure of Inflation at Risk: A Panel Quantile Regression Approach By Yoshibumi Makabe; Yoshihiko Norimasa

  1. By: Miss Sonali Das; Wenting Song
    Abstract: We study the transmission of conventional monetary policy in China, focusing on the interaction between monetary and fiscal policy given the unique institutional set-up for macroeconomic policy making. Our results suggest some progress but also continued difficulties in the transmission of monetary policy. Similar to recent studies, we find evidence of monetary policy pass-through to interest rates. However, the impact of monetary policy measures that are not coordinated with fiscal policy is significantly weaker than that of coordinated measures. This suggests the need for further improvements to the interest-rate based framework.
    Keywords: monetary policy, monetary fiscal coordination, textual analysis, China; monetary policy transmission; monetary policy measure; monetary policy pass-through; pass-through to interest rates; monetary policy shock; fiscal policy measure; Yield curve; Central bank policy rate; Monetary policy instruments; Deposit rates
    Date: 2022–04–29
  2. By: Jonathan J. Adams; Mr. Philip Barrett
    Abstract: The consensus among central bankers is that higher inflation expectations can drive up inflation today, requiring tighter policy. We assess this by devising a novel method for identifying shocks to inflation expectations, estimating a semi-structural VAR where an expectation shock is identified as that which causes measured expectations to diverge from rationality. Using data for the United States, we find that a positive inflation expectations shock is deflationary and contractionary: inflation, output, and interest rates all fall. These results are inconsistent with the standard New Keynesian model, which predicts inflation and interest rate hikes. We discuss possible resolutions to this new puzzle.
    Keywords: Inflation, Sentiments, Expectations, Monetary Policy
    Date: 2022–04–29
  3. By: Robert G. King (Boston University and NBER); Yang K. Lu (Department of Economics, The Hong Kong University of Science and Technology)
    Abstract: We study the optimal monetary policy in a setting where the private sector is forward-looking and learning about the type of central bank in place. We consider two types of central bank, one patient type that can commit and one opportunistic type that is myopic and cannot commit. Being able to commit or not, the central bank in place chooses inflation policies optimally, taking into account the learning and rational expectation of the private sector. We show that the equilibrium can be obtained as a solution to a recursive optimization of the committed type in which the actions of the opportunistic type are subject to an incentive compatibility constraint. The numerical solution to a calibrated model reveals that the committed central bank with good initial reputation adopts policies similar to the standard solution under full commitment, whereas the committed central bank with poor initial reputation aims at building reputation with anti-inflation policies that involve real costs. If the opportunistic central bank with good initial reputation is in place, there will be lengthy real stimulations with gradually rising actual and expected inflation, followed by stagflation when the history of positive inflation surprises depletes the central bank's reputation.
    Keywords: time inconsistency, reputation game, optimal monetary policy, forwardlooking expectations
    JEL: E52 D82 D83
    Date: 2020–06
  4. By: Alissa Gorelova; Bena Lands; Maria teNyenhuis
    Abstract: Could Canadian banks continue to meet their regulatory liquidity requirements after the introduction of a cash-like retail central bank digital currency (CBDC)? We conduct a hypothetical exercise to estimate how a CBDC could affect bank liquidity by increasing the run-off rates of transactional retail deposits under four increasingly severe scenarios.
    Keywords: Central bank research; Digital currencies and fintech; Econometric and statistical methods; Financial institutions; Financial stability
    JEL: E4 G2 G21 O3 O33
    Date: 2022–05
  5. By: Kigabo-Rusuhuzwa, Thomas (University of Rwanda); Heshmati, Almas (Jönköping University, Sogang University)
    Abstract: This paper investigates the East African Community (EAC) partner states' readiness for a common currency. It uses recent data to assess the impact of policy coordination in the region during the last seven years of East African Monetary Union's protocol implementation. Despite some similarities in the structures of EAC economies, EAC member states remain susceptible to asymmetric shocks. Inflation is in the process of converging in EAC, but the speed of convergence is slow. Time is needed for preparing and for harmonizing policy before adopting the common currency. Adopting a common currency will lead to considerable costs for EAC countries.
    Keywords: East African Community, monetary union, common currency, policy harmonization, convergence, regional integration
    JEL: E42 F33 N17 O23
    Date: 2022–04
  6. By: Volckart, Oliver
    Abstract: The paper starts out from the insight that success or failure of the common currency, on which the diet of the Holy Roman Empire agreed in 1559, cannot be assessed against how modern currencies are functioning. Rather, the benchmark is provided by historical criteria, primarily by the aims of the political authorities that joined the union. The analysis finds that there were two overriding aims: 1) preventing high-ranking economic agents from exploiting their social standing in order to push up prices and rents, and 2) removing the conditions that allowed Gresham’s Law to undermine monetary stability. The participants in the union tried to reach the first aim by retaining regional small change in addition to the Empire-wide larger units. While there is limited evidence for the common currency preventing the functioning of Gresham’s Law within the Empire up to the immediate run-up to the Thirty Years War (1618-48), it failed to prevent inflation and the inflow of foreign coinage. However, in neither respect the post1559 Empire differed from other contemporary polities. On balance, therefore, the Empire’s common currency can be considered a success.
    JEL: E42 E52 N13
    Date: 2022–04
  7. By: Andrea Nocera; M. Hashem Pesaran
    Abstract: This paper investigates the short- and long-term impacts of the Federal Reserve’s large-scale asset purchases (LSAPs) on the capital structure of U.S. non-financial firms. To isolate the effects of LSAPs from the impact of concurrent macroeconomic conditions, we exploit cross-industry variations in the ability of firms therein to raise external funds without exhausting their debt capacity. We show that firms’ responses to LSAPs strongly depend on the financing decisions of other peers in the same industry. The higher the proportion of firms without high debt burdens in an industry, the stronger the response of firms within the industry to the Fed’s asset purchases. Overall, our results show that LSAPs facilitated firms’ access to debt financing and that the impacts of LSAPs on firms’ capital structure are likely to be long-lasting.
    Keywords: capital structure, identification, interactive effects, leverage, quantitative easing, unconventional monetary policy
    JEL: C32 E44 E52 E58
    Date: 2022
  8. By: Ganguly, Shrimoyee; Acharyya, Rajat
    Abstract: This paper theoretically examines the effect of an expansionary monetary policy on export quality and its ramifications on the aggregate employment of the unskilled workers in a competitive general equilibrium framework of a small open economy. This issue assumes relevance since monetary policies are often pursued by the central bank of an economy to manage exchange rate fluctuations under a managed float regime, which may have adverse consequences for export-quality choices and thereby for export growth given the growing preference of buyers in richer nations for higher qualities of goods they consume. Under optimal allocation of wealth over a portfolio of cash, domestic assets and foreign assets, we show that an increase in the domestic money supply affects the choice of export-quality primarily in two ways. One is through larger investment, capital formation and consequent endowment effect; the other is through changes in the nominal exchange rate. Under less price-elastic demand for a non-traded good, the export quality is upgraded when higher quality varieties of the export good are relatively capital intensive. On the other hand, though the expansionary monetary policy may raise the aggregate employment of unskilled workers due to its endowment effect, may lower it through changes in the quality of the export good. The overall effect is thus ambiguous. A larger initial size of bequests has a similar effect.
    Keywords: Monetary Policy, Export Quality, Exchange rate, Unemployment, Portfolio choice
    JEL: E24 E5 F11
    Date: 2022–04–29
  9. By: Paul De Grauwe; Yuemei Ji
    Abstract: We analyze how trust affects the transmission of negative demand and supply shocks. We define trust to have two dimensions: there is trust in the central bank’s inflation target and trust in the future of economic activity. We use a behavioural macroeconomic model that is characterized by the fact that individuals lack the cognitive ability to understand the underlying model and to know the distribution of the shocks that hit the economy. We find, first, that when large negative demand shocks occur the subsequent trajectories taken by output gap and inflation typically coalesce around a good and a bad trajectory. Second, these good and bad trajectories are correlated with movements in trust. In the bad trajectories trust collapses, in the good trajectories it is not affected. This feature is stronger when a negative supply shock occurs than in the case of a negative demand shock. Third, initial conditions (history) matters. Unfavorable initial conditions drive the economy into a bad trajectory, favorable initial conditions produce good trajectories.
    Date: 2022–05
  10. By: Olivier Armantier; Fatima Boumahdi; Gizem Koşar; Jason Somerville; Giorgio Topa; Wilbert Van der Klaauw; John C. Williams
    Abstract: This post provides an update on two earlier blog posts (here and here) in which we discuss how consumers’ views about future inflation have evolved in a continually changing economic environment. Using data from the New York Fed’s Survey of Consumer Expectations (SCE), we show that while short-term inflation expectations have continued to trend upward, medium-term inflation expectations appear to have reached a plateau over the past few months, and longer-term inflation expectations have remained remarkably stable. Not surprisingly given recent movements in consumer prices, we find that most respondents agree that inflation will remain high over the next year. In contrast, and somewhat surprisingly, there is a divergence in consumers’ medium-term inflation expectations, in the sense that we observe a simultaneous increase in both the share of respondents who expect high inflation and the share of respondents who expect low inflation (and even deflation) three years from now. Finally, we show that individual consumers have become more uncertain about what inflation will be in the near future. However, in contrast to the pre-pandemic period, they tend to express less uncertainty about inflation further in the future.
    Keywords: inflation expectations
    JEL: E31 D84
    Date: 2022–05–26
  11. By: Elton Beqiraj; Giuseppe Ciccarone; Giovanni Di Bartolomeo
    Abstract: This paper revisits the US business cycle accounting for exogenous switches in the inflation intrinsic persistence formalized as changes in the hazard functions. After controlling for Phillips curves shifts, we identify two monetary regimes, leading to a different interpretation from that generally proposed. The Fed operates according to the Brainard Principle by gradually reacting to observed shocks and deviating only episodically to a more active regime. Quantitatively, the main drivers of the business cycle are structural changes in price settings and stochastic volatilities. We also find that structural changes in price and wage adjustments play opposite roles in the Great Inflation. In general, shifts in the Phillips curves are central for correctly understanding the Fed behavior and the business cycle dynamics.
    Keywords: duration-dependent wage adjustments; intrinsic inflation persistence; DSGE models; hybrid Phillips curves; Markow-switching
    JEL: E42 E52 E58
    Date: 2022–04
  12. By: Ferrero, Andrea (University of Oxford); Harrison, Richard (Bank of England); Nelson, Benjamin (RCM)
    Abstract: The global financial crisis prompted the rapid development of macro-prudential frameworks and an increased reliance on borrower-based policy tools, which influence the demand for credit. This paper studies the optimal design of one such tool, a loan-to-value (LTV) limit, and its implications for monetary policy in a model with nominal rigidities and financial frictions. The welfare-based loss function features a role for macro-prudential policy to enhance risk-sharing. Optimal LTV limits are strongly countercyclical. In a house price boom-bust episode, the active use of LTV limits alleviates debt-deleveraging dynamics and prevents the economy from falling into a liquidity trap.
    Keywords: Monetary and macro-prudential policy; financial crisis; zero lower bound
    JEL: E52 E58 G01 G28
    Date: 2022–03–25
  13. By: Jens Klose (THM Business School Giessen)
    Abstract: This paper estimates the effects of nine exchange rates for european countries vis-a-vis the Euro in the COVID pandemic. Using data on COVID cases, three containment and two stabilization measures relative to the euro area counterparts, it is shown that a more severe spread of the virus leads to a depreciation of the domestic currency. The same holds with respect to stricter movement restrictions, health care measures and more supportive monetary policies. More expansionary fiscal policies by the domestic country on the other hand lead to an appreciation of the currency. Two extensions show that the results differ with respect to whether the country is a scandinavian or eastern european country and whether the euro area countries or the other european countries introduce the measures.
    Keywords: Exchange rates, COVID-19, Europe, stabilization policies, containment measures, panel VAR
    JEL: E44 E52 E62
    Date: 2022
  14. By: Angino, Siria; Secola, Stefania
    Abstract: Political science research has established that trust in institutions, including central banks, is shaped by socio-economic and demographic factors, as well as by the assessment of institutional features and by slow-moving components such as culture. However, the role of cognitive processes has largely been neglected, especially in the analysis of central bank trust. In this paper we aim to address this gap focusing on the case of the European Central Bank (ECB). We introduce the concepts of “instinctive trust”, which captures an on-the-spot judgement on the institution’s trustworthiness, and of “reflective trust”, which refers to a more pondered opinion on the matter. Using a survey experiment, we find that deeper consideration about the ECB promotes less trust in the institution compared to an on-the-spot judgement. This result is mainly driven by women, and in particular by those who say they possess a low understanding of the central bank’s policies. JEL Classification: C83, D83, E58, Z13
    Keywords: central bank, Institutional trust, survey experiment
    Date: 2022–05
  15. By: Ciccone, Michele
    Abstract: This paper aims to be a preliminary critical discussion about one of the main accepted results of Ricardo’s theory of money and interest, i.e., that the ‘natural’ rate of interest is determined by the profit rate. It will be argued that some logical inconsistencies seem to affect Ricardo’s representation of the tendency of the market rate of interest to the natural rate, with the latter ultimately determined by the rate of profits. According to Ricardo, exogenous changes in the supply of, or demand for money generate short-run changes of the money-prices ratio and the market interest rate, and permanent changes in the price level play the role of bringing them back to their natural values (the natural rate of interest being taken as a fraction of the natural profit rate). We will try to show that the convergence process envisaged by Ricardo seems to be not free from some critical considerations about its internal coherence if one takes into due account what he conceives to be the specific inducement for the public to borrow a larger quantity of money at a lower interest rate—namely, an above normal difference between profit rate and interest rate, together with the behavior of the banking system and with the main institutional features of a monetary system.
    Keywords: David Ricardo, natural and market rates of interest, quantity theory of money
    JEL: B0 B31 E4 E40
    Date: 2022
  16. By: Kick, Thomas
    Abstract: We study the effects of interest rate shocks (IRS) on banks' liquidity creation. A unique supervisory data set from the Deutsche Bundesbank allows identifying banks' liquidity creation for the real economy and the effects of banking market competition. Here, we employ a novel approach to account for IRS that are both unexpected and effective for a bank's business model. We find that higher individual pricing power in the market lowers banks' liquidity creation, which is in line with theory that monopolistic firms undersupply the market when utilizing their high pricing power in the bank competition-liquidity creation nexus. While positive IRS per se lead to an increase in bank liquidity creation, we find that a high bank-individual pricing power curbs this impact on liquidity creation significantly. Moreover, we show that monetary policy was most effective during the global financial crisis and for well-capitalized banks, whereas periods of low interest rates are characterized by the persistent increase in liability-side liquidity creation.
    Keywords: bank liquidity creation,unexpected monetary policy,low interest rate environment,financial crisis,financial markets regulation,banking market competition,dynamic GMM
    JEL: G21 G28 G30 C23
    Date: 2022
  17. By: Camila Casas; Sergii Meleshchuk; Yannick Timmer
    Abstract: We provide evidence of a new channel of how exchange rates affect trade. Using a novel identification strategy that exploits firms' foreign currency debt maturity structure in Colombia around a large depreciation, we show that firms experiencing a stronger debt revaluation of dominant currency debt due to a home currency depreciation compress imports relatively more while exports are unaffected. Dominant currency financing does not lead to an import compression for firms that export, hold foreign currency assets, or are active in the foreign exchange derivatives markets, as they are all hedged against a revaluation of their debt. These findings can be rationalized through the prism of a model with costly state verification and foreign currency borrowing. Dominant currency pricing mutes the effects of dominant currency financing on imports relative to producer currency pricing.
    Keywords: Imports; Exports; Foreign Currency Exposure; Capital Structure; Exchange Rates; Debt Revaluation; Hedging
    JEL: F31 F32 F41 G15 G21 G32
    Date: 2022–05–12
  18. By: Yoshibumi Makabe (Bank of Japan); Yoshihiko Norimasa (Bank of Japan)
    Abstract: This paper uses panel quantile regression to analyze the factors affecting inflation risks defined as the tail of the predictive inflation distribution. We construct a panel going back to the "Great Inflation" period (from the late 1960s) and include variables that capture not only downside risks, which many recent studies have focused on, but also upside risks to examine the developments in both upside and downside risks to inflation in the United States, Germany, and the United Kingdom. Our analysis shows that unit labor costs and real government spending have a significant effect on the upward risks to inflation. We also find that the effect of import prices on inflation risks is short-lived, while the effect of real government spending and unit labor costs persists over the medium term. These results also show that the term structure of the effect on inflation risks differs depending on the factor involved.
    Keywords: Inflation risk; panel quantile regression; term structure
    JEL: C21 E27 E31
    Date: 2022–05–20

This nep-mon issue is ©2022 by Bernd Hayo. It is provided as is without any express or implied warranty. It may be freely redistributed in whole or in part for any purpose. If distributed in part, please include this notice.
General information on the NEP project can be found at For comments please write to the director of NEP, Marco Novarese at <>. Put “NEP” in the subject, otherwise your mail may be rejected.
NEP’s infrastructure is sponsored by the School of Economics and Finance of Massey University in New Zealand.