nep-mon New Economics Papers
on Monetary Economics
Issue of 2023‒03‒27
thirty-six papers chosen by
Bernd Hayo
Philipps-Universität Marburg

  1. Breaking Monetary Policy News: The Role of Mass Media Coverage of ECB Announcements for Public Inflation Expectations By Patrick Hirsch; Lars P. Feld; Ekkehard A. Köhler
  2. Heterogeneity of inflation in the euro area: more complicated than it seems By Christophe Blot; Jérôme Creel; François Geerolf; Sandrine Levasseur
  3. Asymmetries in Federal Reserve Objectives By Narayana R. Kocherlakota
  4. Do firm expectations respond to Monetary Policy announcements? By Federico Di Pace; Giacomo Mangiante; Riccardo Masolo
  5. Central Banks as Dollar Lenders of Last Resort: Implications for Regulation and Reserve Holdings By Ms. Mitali Das; Ms. Gita Gopinath; Mr. Taehoon Kim; Jeremy C. Stein
  6. The optimal quantity of CBDC in a bank-based economy By Lorenzo Burlon; Carlos Montes-Galdón; Manuel A. Muñoz; Frank Smets
  7. On the Effectiveness of Foreign Exchange Reserves During the 2021-22 U.S. Monetary Tightening Cycle By Rashad Ahmed; Joshua Aizenman; Jamel Saadaoui; Gazi Salah Uddin
  8. What Will Be the Impact of Fintech on the Payment System? A Perspective from Money Creation By Hajime Tomura
  9. Heterogeneity and the Equitable Rate of Interest. By Riccardo Masolo
  10. Optimal Monetary Policy with Heterogeneous Agents: Discretion, Commitment, and Timeless Policy By Eduardo Dávila; Andreas Schaab
  11. MODELLING THE EFFECTS OF BANK OF RUSSIA’S MONETARY POLICY ON EAEU COUNTRIES By Elizaveta P. Dobronravova; Mikhail I. Orekhov; Irina I. Yakovleva
  12. The Global Dollar Cycle By Maurice Obstfeld; Haonan Zhou
  13. Loose Monetary Policy and Financial Instability By Maximilian Grimm; Òscar Jordà; Moritz Schularick; Alan M. Taylor
  14. Causes and consequences of global inflation By Goryunov Eugene
  15. Econometric assessment of the monetary policy shocks in Morocco: Evidence from a Bayesian Factor-Augmented VAR By Marouane Daoui
  16. Monetary Policy, Digital Assets, and DeFi Activity By Antzelos Kyriazis; Iason Ofeidis; Georgios Palaiokrassas; Leandros Tassiulas
  17. The demand and supply of information about inflation By Massimiliano Marcellino; Dalibor Stevanovic
  18. Bounded Rational Expectation: How It Can Affect the Effectiveness of Monetary Rules in the Open Economy By Dong, Xue; Minford, Patrick; Meenagh, David; Yang, Xiaoliang
  19. Inflation in Pakistan: High-Frequency Estimation and Forecasting By Sonan Memon
  20. Did the Fed Remain at the ZLB Long Enough? Lessons from the 2008-2019 Period By Joshua Brault; Hashmat Khan; Louis Phaneuf; Jean Gardy Victor
  21. Reevaluating the Taylor Rule with Machine Learning By Alper Deniz Karakas
  22. A strong dollar is contractionary for the global economy By Otaviano Canuto
  23. Money Market Funds and the Pricing of Near-Money Assets By Sebastian Doerr; Egemen Eren; Semyon Malamud
  24. Structural shocks and trend inflation By Bowen Fu, Ivan Mendieta-Muñoz
  25. Cryptocurrencies: Review of Economics and Policy By Sonan Memon
  26. Effects of Sustainable Monetary and Fiscal Policy on FDI Inflows to EMDE Countries By Bruno Pires Tiberto; Helder Ferreira de Mendonça
  27. Inflation Expectations in the Wake of the War in Ukraine By Geghetsik Afunts; Misina Cato; Tobias Schmidt
  28. Dollarization as an Effective Commitment Device: The Case of Argentina By Emilio Ocampo
  29. Higher Order Interest-Smoothing, Time-Varying Inflation Target and the Prospect of Indeterminacy By Joshua Brault; Louis Phaneuf
  30. Does Money Growth Predict Inflation? Evidence from Vector Autoregressions Using Four Centuries of Data By Edvinsson, Rodney; Karlsson, Sune; Österholm, Pär
  31. The Neutrality of Money Reconsidered: A Statistical Equilibrium Model of the Labor Market By Ellis Scharfenaker, Duncan K. Foley
  32. Anchoring Long-term VAR Forecasts Based On Survey Data and State-space Models By Marta Baltar Moreira Areosa; Wagner Piazza Gaglianone
  33. A Neural Phillips Curve and a Deep Output Gap By Philippe Goulet Coulombe
  34. Forecasting the Turkish Lira Exchange Rates through Univariate Techniques: Can the Simple Models Outperform the Sophisticated Ones? By Mostafa R. Sarkandiz
  35. Finding the Optimal Currency Composition of Foreign Exchange Reserves with a Quantum Computer By Martin Vesely
  36. Inflation, the Corporate Greed Narrative, and the Value of Corporate Social Responsibility By Ana Mão-de-Ferro; Stefano Ramelli

  1. By: Patrick Hirsch; Lars P. Feld; Ekkehard A. Köhler
    Abstract: Using the variation in national television news of four major member states in the Eurozone, we find causal effects of coverage of high-frequency identified monetary policy announcements on households’ inflation expectations in an event study and a generalized Difference-in-Differences approach with stacked data. If a monetary policy decision receives news coverage, the adaptation of inflation expectations is stronger than without coverage. Second, we find that coverage of ‘delphic’ monetary policy announcements, which are primarily informational in nature, leads to an inverse adjustment, i.e., expansionary shocks lead to households lowering their inflation expectations, as opposed to coverage of a textbook, ‘odyssean’, monetary policy shock.
    Keywords: inflation expectations, media coverage, transmission of monetary policy, quasi-experimental evidence
    JEL: E31 E52 E58 C83 D84
    Date: 2023
  2. By: Christophe Blot (OFCE - Observatoire français des conjonctures économiques (Sciences Po) - Sciences Po - Sciences Po); Jérôme Creel (OFCE - Observatoire français des conjonctures économiques (Sciences Po) - Sciences Po - Sciences Po); François Geerolf (OFCE - Observatoire français des conjonctures économiques (Sciences Po) - Sciences Po - Sciences Po); Sandrine Levasseur (OFCE - Observatoire français des conjonctures économiques (Sciences Po) - Sciences Po - Sciences Po)
    Abstract: We document different measures of inflation heterogeneity in the euro area. We ask what mostly drives this heterogeneity and whether there is cause for concern. Heterogeneity in headline inflation has increased substantially, and way more than heterogeneity in core inflation. We argue that core inflation dispersion is largely driven by small countries, where inflation reversion is the most likely. We then discuss about monetary policy as a limiting or aggravating factor of inflation heterogeneity.
    Date: 2022–11
  3. By: Narayana R. Kocherlakota
    Abstract: This paper uses evidence from the Federal Open Market Committee’s Summary of Economic Projections to show that US monetary policymakers have objectives over unemployment and inflation outcomes that are not well-approximated through a conventional quadratic loss function. Rather, policymakers derive material costs (benefits) from overshooting (undershooting) their long-run inflation and unemployment goals. The trade-off between the resultant downward tilts in unemployment and inflation played a key role in shaping the evolution of monetary policy choices since the Great Recession.
    JEL: E52 E58
    Date: 2023–03
  4. By: Federico Di Pace; Giacomo Mangiante; Riccardo Masolo (Università Cattolica del Sacro Cuore; Dipartimento di Economia e Finanza, Università Cattolica del Sacro Cuore)
    Abstract: We study whether firms’ expectations react to the Bank of England’s monetary policy announcements by comparing the responses to the Decision Maker Panel (DMP) survey filed immediately before and after a Monetary Policy Committee (MPC) meeting. On the one hand, we find that firms’ expectations and uncertainty about their own business for the most part do not respond to high-frequency monetary policy surprises. On the other hand, announced changes in the monetary policy rate induce firms to revise their price expectations, with rate hikes resulting in a reduction in price expectations and the uncertainty surrounding them.
    Keywords: Central bank communication, firm expectations, high-frequency identification, survey data.
    JEL: D84 E52 E58
    Date: 2023–02
  5. By: Ms. Mitali Das; Ms. Gita Gopinath; Mr. Taehoon Kim; Jeremy C. Stein
    Abstract: This paper explores how non-U.S. central banks behave when firms in their economies engage in currency mismatch, borrowing more heavily in dollars than justified by their operating exposures. We begin by documenting that, in a panel of 53 countries, central bank holdings of dollar reserves are significantly correlated with the dollar-denominated bank borrowing of their non-financial corporate sectors, controlling for a number of known covariates of reserve accumulation. We then build a model in which the central bank can deal with private-sector mismatch, and the associated risk of a domestic financial crisis, in two ways: (i) by imposing ex ante financial regulations such as bank capital requirements; or (ii) by building a stockpile of dollar reserves that allow it to serve as an ex post dollar lender of last resort. The model highlights a novel externality: individual central banks may tend to over-accumulate dollar reserves, relative to what a global planner would choose. This is because individual central banks do not internalize that their hoarding of reserves exacerbates a global scarcity of dollar-denominated safe assets, which lowers dollar interest rates and encourages firms to increase the currency mismatch of their liabilities. Relative to the decentralized outcome, a global planner may prefer stricter financial regulation (e.g., higher bank capital requirements) and reduced holdings of dollar reserves.
    Keywords: Foreign reserves; central banks; currency mismatch; lender of last resort; financial regulation; dollar reserve; bank borrowing; post dollar lender of last resort; dollar interest rates; reserve holding; International reserves; Banking crises; Currency mismatches; Reserves accumulation; Exchange rates; Global
    Date: 2023–01–18
  6. By: Lorenzo Burlon; Carlos Montes-Galdón; Manuel A. Muñoz; Frank Smets (-)
    Abstract: We provide evidence on the estimated effects of news about the introduction of a digital euro on bank valuations and lending and find that the effects depend on the reliance on deposit funding and design features aimed at calibrating the quantity of the central bank digital currency (CBDC). Then, we develop a quantitative DSGE model that replicates such evidence and incorporates key selected mechanisms through which CBDC issuance could affect bank intermediation and the economy. Under empirically-relevant assumptions (i.e. imperfect substitutability across CBDC, cash and deposits and a number of financial constraints such as a collateral requirement for central bank funding), the issuance of CBDC yields non-trivial welfare trade-offs between, on one side, the positive expansion of liquidity services and the improved stabilization of deposit funding and lending and, on the other side, a negative bank disintermediation effect. Welfare-maximizing CBDC policy rules are effective in mitigating the risk of bank disintermediation and induce significant welfare gains. The optimal amount of CBDC in circulation for the case of the euro area lies between 15% and 45% of quarterly GDP in equilibrium.
    JEL: E42 E58 G21
    Date: 2023–02
  7. By: Rashad Ahmed; Joshua Aizenman; Jamel Saadaoui; Gazi Salah Uddin
    Abstract: This paper examines the role of foreign exchange (FX) reserves and other fundamental factors in explaining cross-country differences in foreign currency depreciation observed over the 2021-22 Federal Reserve monetary policy tightening cycle that led to a sharp appreciation of the US dollar. Using a broad cross-section of over 50 countries, we document that an additional 10 percentage points of FX reserves/GDP held ex-ante was associated with 1.5 to 2 percent less exchange rate depreciation. We also find that higher ex-ante policy rates were associated with less depreciation, especially among financially open economies. Taken together, these results support the buffering role of FX reserves and their potential to promote monetary policy independence in the presence of global spillovers.
    JEL: F32 F40 F68
    Date: 2023–02
  8. By: Hajime Tomura (Waseda University)
    Abstract: The efficiency of thecurrentpayment systemrestsnot only onengineering technology but also on the legal tender and central bank system enacted by each country’s law.This essay compares the current paymentsystem with an alternative payment system that uses electronic records, such as cryptocurrencies and security tokens, assubstitutesfor conventionalcurrencies. The alternative payment system has an advantage in designing the integration of electronic payments into non-bank businesses from scratch without being bound by the technical specifications of existing bank deposit account systems. On the other hand, it cannot benefit from the supply of legal tender issued bythe central bank. Given this disadvantage, this essay argues that electronic records such as cryptocurrencies and security tokens will not substitute conventional currencies aspontaneously. Rather than changing the internal structure of the banking system, fintech will facilitate connections between bank deposit account systems and non-banking systems. Given this outlook, this essay predicts that central-bank digital currency (CBDC) will be a kind of enabler service if implemented in acountry with a developed banking system.
    Keywords: paymentsystems, security tokens, cryptocurrencies, electronic money, legal tender, central-bank digital currency.
    Date: 2022–10
  9. By: Riccardo Masolo (Università Cattolica del Sacro Cuore; Dipartimento di Economia e Finanza, Università Cattolica del Sacro Cuore)
    Abstract: The equitable rate of interest represents a benchmark to evaluate the cross-sectional effects of monetary policy. I define it as the real rate of interest that minimizes the welfare losses associated to cross-sectional heterogeneity, under flexible prices. In a large class of models, it can be expressed as the payoff of a suitably chosen portfolio. In a Two-Agent New Keynesian model the deviations of the optimal policy prescription, relative to a Representative-Agent benchmark, can be traced back to the equitable rate gap: the difference between prevailing real rates and the equitable rate. This parallels the way in which the natural rate is the reference stick to evaluate the stance of monetary policy with regards to aggregate stabilization. Indeed, the difference between the natural rate and the equitable rate marks the tradeoff between aggregate and cross-sectional stabilization, faced by a welfare-maximizing policymaker.
    Keywords: Monetary Policy, Heterogeneous Agents, Optimal Policy.
    JEL: E31 E52
    Date: 2023–02
  10. By: Eduardo Dávila; Andreas Schaab
    Abstract: This paper characterizes optimal monetary policy in a canonical heterogeneous-agent New Keynesian (HANK) model with wage rigidity. Under discretion, a utilitarian planner faces the incentive to redistribute towards indebted, high marginal utility households, which is a new source of inflationary bias. With commitment, i) zero inflation is the optimal long-run policy, ii) time-consistent policy requires both inflation and distributional penalties, and iii) the planner trades off aggregate stabilization against distributional considerations, so Divine Coincidence fails. We compute optimal stabilization policy in response to productivity, demand, and cost-push shocks using sequence-space methods, which we extend to Ramsey problems and welfare analysis.
    JEL: E52 E61
    Date: 2023–02
  11. By: Elizaveta P. Dobronravova (The Russian Presidential Academy Of National Economy And Public Administration); Mikhail I. Orekhov (The Russian Presidential Academy Of National Economy And Public Administration); Irina I. Yakovleva (The Russian Presidential Academy Of National Economy And Public Administration)
    Abstract: In this paper we estimate the effects of the Bank of Russia’s monetary policy on the Eurasian Economic Union members. The relevance of the study arises from two points: first, economic integration implies coordination in macroeconomic policy; second, fluctuations of Russian economy as the biggest economy in the region cause fluctuations in the whole EAEU, changing the flows of goods and resources. The purpose of this paper is to identify key effects and channels of cross-border transmission of Bank of Russia’s monetary policy under changing monetary regimes of the EAEU countries. For the empirical model we use quarterly data on EAEU key macroeconomic indicators from 2000 to 2021, the basic method is block-exogenous structural vector autoregression. Our results show that interest rate channel plays the key role in cross-border transmission of monetary policy effects in the region. The exception is the case when the recipient’s country central bank employs fixed exchange rate regime, rendering international interest rate channel ineffective. Another important channel is international trade: monetary policy tightening leads to the contraction of demand for the imported goods, so the exports of the recipient countries decrease. We conclude that despite heterogenous response among the EAEU countries to monetary shocks occurring in Russia, monetary policy tightening decreases economic activity in the whole economic union. The study can be extended in several ways like the analysis of the synchronization in systematic monetary policy decisions in EAEU or detailed estimations of financial channels of international transmission using banking statistics.
    Keywords: monetary policy, cross-border effects of monetary policy, cross-border transmission, economic integration, Eurasian Economic Union, econometric analysis, structural vector autoregression
  12. By: Maurice Obstfeld; Haonan Zhou
    Abstract: The U.S. dollar’s nominal effective exchange rate closely tracks global financial conditions, which themselves show a cyclical pattern. Over that cycle, world asset prices, leverage, and capital flows move in concert with global growth, especially influencing the fortunes of emerging and developing economies (EMDEs). This paper documents that dollar appreciation shocks predict economic downturns in EMDEs and highlights policies countries could implement to dampen the effects of dollar fluctuations. Dollar appreciation shocks themselves are highly correlated not just with tighter U.S. monetary policies, but also with measures of U.S. domestic and international dollar funding stress that themselves reflect global investors’ risk appetite. After the initial market panic and upward dollar spike at the start of the COVID-19 pandemic, the dollar fell as global financial conditions eased; but the higher inflation that followed has induced central banks everywhere to tighten monetary policies more recently. The dollar has strengthened considerably since mid-2021 and a contractionary phase of the global financial cycle is now under way. Owing to increases in public- and business-sector debts during the pandemic, a strong dollar, higher interest rates, and slower economic growth will be challenging for EMDEs.
    JEL: E58 F31 F41 F44 O11
    Date: 2023–03
  13. By: Maximilian Grimm; Òscar Jordà; Moritz Schularick; Alan M. Taylor
    Abstract: Do periods of persistently loose monetary policy increase financial fragility and the likelihood of a financial crisis? This is a central question for policymakers, yet the literature does not provide systematic empirical evidence about this link at the aggregate level. In this paper we fill this gap by analyzing long-run historical data. We find that when the stance of monetary policy is accommodative over an extended period, the likelihood of financial turmoil down the road increases considerably. We investigate the causal pathways that lead to this result and argue that credit creation and asset price overheating are important intermediating channels.
    JEL: E43 E44 E52 E58 G01 G21 N10
    Date: 2023–02
  14. By: Goryunov Eugene (Gaidar Institute for Economic Policy)
    Abstract: In the last two years the global economy has experienced a strong wave of inflation that has affected not only developing countries, but also developed economies, where inflation has not been seen at this level during last 50 years. This paper examines the causes of inflationary shocks with an emphasis on the analysis of the advanced of countries. The main factor is the disparity between the rapid recovery of aggregate demand after the 2020 recession and limited aggregate supply, with supply chains disrupted. Massive government support measures have contributed to stimulating demand. The paper analyzes the reasons why such a sizable inflationary shock turned out to be unexpected, and also why the monetary authorities of developed countries postponed the tightening of monetary policy. It is shown that shock identification was complicated by a high level of uncertainty, structural shifts in the labor market and in consumer demand. Central banks preferred to take a careful approach, fearing that tightening would lead to a public finance crisis and recession. The similarities and differences between the current inflationary episode and the stagflation of the 1970s are considered, and an assessment is made of the possibility of a recurrence of stagflation.
    Keywords: Global economy, inflation, taxation, stagflation
    JEL: E31 E43 E44 E52 E58
    Date: 2022
  15. By: Marouane Daoui
    Abstract: The analysis of the effects of monetary policy shocks using the common econometric models (such as VAR or SVAR) poses several empirical anomalies. However, it is known that in these econometric models the use of a large amount of information is accompanied by dimensionality problems. In this context, the approach in terms of FAVAR (Factor Augmented VAR) models tries to solve this problem. Moreover, the information contained in the factors is important for the correct identification of monetary policy shocks and it helps to correct the empirical anomalies usually encountered in empirical work. Following Bernanke, Boivin and Eliasz (2005) procedure, we will use the FAVAR model to analyze the impact of monetary policy shocks on the Moroccan economy. The model used allows us to obtain impulse response functions for all indicators in the macroeconomic dataset used (117 quarterly frequency series from 1985: Q1 to 2018: Q4) to have a more realistic and complete representation of the impact of monetary policy shocks in Morocco.
    Date: 2023–02
  16. By: Antzelos Kyriazis; Iason Ofeidis; Georgios Palaiokrassas; Leandros Tassiulas
    Abstract: This paper studies the effects of unexpected changes in US monetary policy on digital asset returns. We use event study regressions and find that monetary policy surprises negatively affect BTC and ETH, the two largest digital assets, but do not significantly affect the rest of the market. Second, we use high-frequency price data to examine the effect of the FOMC statements release and Minutes release on the prices of the assets with the higher collateral usage on the Ethereum Blockchain Decentralized Finance (DeFi) ecosystem. The FOMC statement release strongly affects the volatility of digital asset returns, while the effect of the Minutes release is weaker. The volatility effect strengthened after December 2021, when the Federal Reserve changed its policy to fight inflation. We also show that some borrowing interest rates in the Ethereum DeFi ecosystem are affected positively by unexpected changes in monetary policy. In contrast, the debt outstanding and the total value locked are negatively affected. Finally, we utilize a local Ethereum Blockchain node to record the activity history of primary DeFi functions, such as depositing, borrowing, and liquidating, and study how these are influenced by the FOMC announcements over time.
    Date: 2023–02
  17. By: Massimiliano Marcellino (Bocconi University, IGIER, Baffi-Carefin, BIDSA and CEPR); Dalibor Stevanovic (University of Quebec in Montreal and CIRANO)
    Abstract: In this article we study how the demand and supply of information about inflation affect inflation developments. As a proxy for the demand of information, we extract Google Trends (GT) for keywords such as "inflation", "inflation rate", or "price increase". The rationale is that when agents are more interested about inflation, they should search for information about it, and Google is by now a natural source. As a proxy for the supply of information about inflation, we instead use an indicator based on a (standardized) count of the Wall Street Journal (WSJ) articles containing the word "inflat" in their title. We find that measures of demand (GT) and supply (WSJ) of inflation information have a relevant role to understand and predict actual inflation developments, with the more granular information improving expectation formation, especially so during periods when inflation is very high or low. In particular, the full information rational expectation hypothesis is rejected, suggesting that some informational rigidities exist and are waiting to be exploited. Contrary to the existing evidence, we conclude that the media communication and agents attention do play an important role for aggregate inflation expectations, and this remains valid also when controlling for FED communications.
    Keywords: Inflation, Expectations, Google trends, Text analysis
    JEL: C53 C83 D83 D84 E31 E37
    Date: 2022–08
  18. By: Dong, Xue (Zhejiang University of Finance and Economics, China); Minford, Patrick (Cardiff Business School); Meenagh, David (Cardiff Business School); Yang, Xiaoliang (Cardiff Business School)
    Abstract: Since the channel for agents’ expectations matters for the effectiveness of monetary policies, it is crucial for policy-makers to assess the degree to which economic agents are boundedly rational and understand how the bounded rationality affects the monetary rules in stabilising the economy. We investigate the empirical evidence for the bounded rationality in a small open economy model of the UK, and compare the results with those for the conventional rational expectations model. Overall, comparing the estimated models favours the bounded rationality framework. The results show that bounded rationality model helps to explain the hump-shaped dynamics of real exchange rate following monetary shocks, while the rational expectations model cannot. Also, we find that the exchange rate channel in the bounded rationality enlarges the effects of foreign mark-up shock, policymakers should send stronger signals over its target to the economics agents to combat the inflation. So the bounded rationality that can be found in the data still leaves scope for the forward guidance channel to work strongly enough to be exploited by policymakers.
    Keywords: bounded rationality, monetary policy, small open economy, exchange rate channel
    JEL: E52 E70 F41 C51 F31
    Date: 2023–02
  19. By: Sonan Memon (Pakistan Institute of Development Economics)
    Abstract: I begin by motivating the utility of high-frequency inflation estimation and reviewing recent work done at the State Bank of Pakistan for inflation forecasting and now-casting GDP using machine learning (ML) tools. I also present stylised facts about the structure of historical and especially recent inflation trends in Pakistan.
    Keywords: Forecast Accuracy, Forecasts of Inflation in Pakistan, High Frequency, Hyperinflation, Inflation Estimation and Forecasting, Machine Learning, Synthetic Data, VAR Models, Web Scrapping and Scanner Data,
    JEL: C53 E30 E31 E32 E37 E47 E52 E58
    Date: 2022
  20. By: Joshua Brault (Carleton University); Hashmat Khan (Carleton University); Louis Phaneuf (University of Quebec in Montreal); Jean Gardy Victor (Desjardins Group)
    Abstract: We present evidence suggesting the Fed can learn useful lessons by looking at the effectiveness of its policy over the 2008-2019 time period. Using a medium-scale New Keynesian model estimated with Bayesian techniques, we find that by raising the nominal interest rate above the ZLB from 2015:4 to 2019:4 and gradually limiting recourse to quantitative easing, the Fed undid most of the stimulus it gave the economy during the 2008-2014 time segment. We estimate that during the two years prior to lift-off, the per quarter average deviation of inflation from target was negative so that potential fears of rising inflation were unwarranted. Investment growth was most adversely affected by the Fed’s policy during the 2015-2019 time segment. Total hours worked had not yet returned to their pre-recession level of 2008 by the end of 2019. We conclude that faced with exceptional events such as the Great Recession and the pandemic, the monetary and fiscal authorities in the future could combine their efforts to provide stimulus over a longer period of time than they did after the Great Recession.
    Keywords: Unconventional Monetary Policy, Great Recession, Recovery Years, New Keynesian Model, Shadow Rate, Bayesian Estimation.
    JEL: E31 E32 E37
    Date: 2021–11
  21. By: Alper Deniz Karakas
    Abstract: This paper aims to reevaluate the Taylor Rule, through a linear and a nonlinear method, such that its estimated federal funds rates match those actually previously implemented by the Federal Reserve Bank. In the linear method, this paper uses an OLS regression model to find more accurate coefficients within the same Taylor Rule equation in which the dependent variable is the federal funds rate, and the independent variables are the inflation rate, the inflation gap, and the output gap. The intercept in the OLS regression model would capture the constant equilibrium target real interest rate set at 2. The linear OLS method suggests that the Taylor Rule overestimates the output gap and standalone inflation rate's coefficients for the Taylor Rule. The coefficients this paper suggests are shown in equation (2). In the nonlinear method, this paper uses a machine learning system in which the two inputs are the inflation rate and the output gap and the output is the federal funds rate. This system utilizes gradient descent error minimization to create a model that minimizes the error between the estimated federal funds rate and the actual previously implemented federal funds rate. Since the machine learning system allows the model to capture the more realistic nonlinear relationship between the variables, it significantly increases the estimation accuracy as a result. The actual and estimated federal funds rates are almost identical besides three recessions caused by bubble bursts, which the paper addresses in the concluding remarks. Overall, the first method provides theoretical insight while the second suggests a model with improved applicability.
    Date: 2023–02
  22. By: Otaviano Canuto
    Abstract: The US dollar has risen dramatically in value against other currencies recently. Three channels through which factors affecting bilateral exchange rates operate have been pulling up the U.S. dollar: yield differentials, liquidity differentials, and growth differentials. The strong appreciation of the US dollar against other currencies recently reinforced the contractionary pressures present in the global economy. Ultimately, the “turn†or “pivot†of the dollar will most likely occur when a “turn†or “pivot†occurs in US monetary policy, given the latter’s critical weight on the determination of growth and yield differentials.
    Date: 2022–11
  23. By: Sebastian Doerr (Bank for International Settlements); Egemen Eren (Bank for International Settlements); Semyon Malamud (Ecole Polytechnique Federale de Lausanne; Centre for Economic Policy Research (CEPR); Swiss Finance Institute)
    Abstract: US money market funds (MMFs) play an important role in short-term markets as large investors of Treasury bills (T-bills) and repurchase agreements (repos) with banks and the Federal Reserve, some of the world’s safest and most liquid assets. We build a theoretical model in which MMFs’ strategic interactions generate a trade-off between their market power in the repo market and their price impact in the T-bill market. Empirically, we show that MMFs’ portfolio allocation decisions between repos and T-bills have an economically significant impact on T-bill rates and market liquidity, and the liquidity premium on T-bills. Guided by our model, we devise instrumental variables to establish a causal effect. Using a granular holding-level dataset we confirm the model’s prediction that MMFs internalize their price impact in the T-bill market when they set repo rates. Moreover, when Treasury market liquidity is low, MMFs tilt their portfolios away from T-bills towards repos with the Federal Reserve. Our results have broad implications.
    Keywords: T-bills, repo, market power, price impact, liquidity premium, money market funds
    JEL: E44 G11 G12 G23
    Date: 2023–01
  24. By: Bowen Fu, Ivan Mendieta-Muñoz
    Abstract: We propose an unobserved components model with stochastic volatility and structural shocks to explore the relevant factors that influence trend inflation in the USA. Using structural shocks that incorporate a broad set of information for the US economy, we find that four structural shocks have significant effects on trend inflation: productivity, price mark-up, government policy, and finance. During and in the aftermath of the Great Recession, trend inflation became more volatile after incorporating the structural shocks, implying that long-run inflation expectations tended to be less well-anchored in these periods.
    Keywords: trend inflation, structural shocks, dynamics of inflation expectations, unobserved components, stochastic volatility. JEL Classification: C11, C32, E31, E37
    Date: 2023
  25. By: Sonan Memon (Pakistan Institute of Development Economics)
    Abstract: In this review paper, I begin by discussing crypto’s market penetration, legal status, and economic opportunities for Pakistan. I mainly focus on the economics of digital “currencies”. Key questions include how does crypto “currency” compare with traditional fiat currencies as a substitute? Which economic problems does it currently solve or have the potential to solve (e.g. lowers verification and networking costs)? What are its economic limitations (e.g. high energy costs, speculative bubbles, prohibitive costs of maintaining incentive compatibility and the blockchain trilemma)? How does the widespread adoption of digital currencies change the monetary and fiscal policy paradigm? Which set of regulations are needed from policymakers to address crypto’s adverse effects, such as accommodating illicit activities and threatening consumer protection? In the appendix, I also summarise the design features of the technology that underlies cryptocurrencies.
    Keywords: Cryptocurrencies: Bitcoin, Ethereum, Tether etc, Blockchain Technology, Economics of Cryptocurrencies, Implications for Fiscal and Monetary Policy, Regulation of Crypto Market,
    JEL: E00 E31 E40 E41 E42 E43 E44 E50 E58 E62 F33
    Date: 2022
  26. By: Bruno Pires Tiberto; Helder Ferreira de Mendonça
    Abstract: Emerging Market and Developing Economies (EMDE) countries are the leading destinations of Foreign Direct Investment (FDI). We investigate whether sustainable monetary and fiscal policy through indicators that reflect the expectations concerning the central bank’s commitment to a target and the sustainability of government finance affects FDI inflows. Based on a large sample of 75 EMDE countries from 1990 to 2019, we provide empirical evidence through panel data analysis that sustainable macroeconomic policies are an essential driver of FDI inflows. The findings show EMDE countries should increase the central bank credibility, decrease the fiscal imbalance, and adopt inflation targeting to enhance FDI inflows.
    Date: 2023–02
  27. By: Geghetsik Afunts; Misina Cato; Tobias Schmidt
    Abstract: Russia's invasion of Ukraine is posing a range of new challenges to the global economy, including affecting the inflation expectations of individuals. In this paper, we aim to quantify the effect of the invasion on short- and long-term inflation expectations of individuals in Germany. We use microdata from the Bundesbank Online Panel - Households (BOP-HH), for the period from February 15th to March 29th, 2022. Treating the unanticipated start of the war in Ukraine on the 24th of February 2022 as a natural experiment, we find that both short- and long-term inflation expectations increased as an immediate result of the invasion. Long-term inflation expectations increased by around 0.4 percentage points, while the impact on short-term inflation expectations was more than twice as large - around one percentage point. Looking into the possible mechanisms of this increase, we suggest that it can be partially attributed to individuals’ fears of soaring energy prices and increasing pessimism about economic trends in general. Our results indicate that large economic shocks can have a substantial impact on both short and long-term inflation expectations.
    Keywords: inflation expectations; Russian invasion of Ukraine; survey; natural experiment;
    JEL: D84 D12 E3
    Date: 2023–02
  28. By: Emilio Ocampo
    Abstract: One of the main arguments to justify dollarization in an emerging market economy is to eliminate high, persistent, and volatile inflation. To achieve this objective swiftly it must generate sufficient credibility, which in turn depends critically on whether its expected probability of reversal is low. Argentina once again faces this predicament. Because of acute institutional anomie, which makes non-contingent rules under domestic jurisdiction easily reversible, even the best-intentioned policymakers cannot generate sufficient credibility. The country remains trapped in stop-go cycle of reforms that accelerates its economic decline. The root of the problem can be traced back to populism, which heightened time-inconsistency and then destroyed the formal and informal mechanisms that could have helped moderate it. With acute institutional anomie, an effective commitment device requires surrendering discretion in monetary affairs to a foreign jurisdiction. Dollarization could fulfill such role. The evidence suggests that, in the long-run, the strongest insurance against reversal is the support of the electorate. However, in the short-run, the institutional design of dollarization is critical.
    Keywords: Foreign Exchange Rate Regimes, Dollarization, Monetary Policy, Time Inconsistency, Anomie, Argentina.
    JEL: B2 B17 B3 B22 B27 F31 F32 O24
    Date: 2023–02
  29. By: Joshua Brault (University of Quebec in Montreal); Louis Phaneuf (University of Quebec in Montreal)
    Abstract: Single equation estimation highlights the importance of higher order interest rate smoothing in explaining interest rate inertia. We provide evidence conditioned on a Bayesian model consistent approach showing that higher order interest rate smoothing is empirically relevant and has important implications for the prospect of determinacy. Based on an estimated New Keynesian model with positive trend inflation allowing the joint possibility of determinacy and indeterminacy, we find the preferred interest rate rule characterizing the Fed’s behavior includes second order interest-smoothing, a time-varying inflation target, a response to output growth, and a persistent policy shock. This is true for the pre-Volcker era and Great Moderation. Importantly, our evidence suggests this rule avoided self-fulfilling revisions in inflationary expectations and indeterminacy during the pre-Volcker years. Including an observable for the inflation target in the estimation is a key factor leading to these findings.
    Keywords: Taylor rules; higher order interest-smoothing; time-varying target inflation; Bayesian estimation; indeterminacy; positive trend inflation.
    JEL: E31 E32 E37
    Date: 2021–11
  30. By: Edvinsson, Rodney (Stockholm University); Karlsson, Sune (Örebro University School of Business); Österholm, Pär (Örebro University School of Business)
    Abstract: In this paper, we add new evidence to a long-debated macroeconomic question, namely whether money growth has predictive power for inflation or, put differently, whether money growth Granger causes inflation. We use a historical dataset – consisting of annual Swedish data on money growth and inflation ranging from 1620 to 2021 – and employ state-of-the-art Bayesian estimation methods. Specifically, we employ VAR models with drifting parameters and stochastic volatility which are used to conduct analysis both within- and out-of-sample. Our results indicate that the within-sample analysis – based on marginal likelihoods – provides strong evidence in favour of money growth Granger causing inflation. This strong evidence is, however, not reflected in our out-of-sample analysis, as it does not translate into a corresponding improvement in forecast accuracy.
    Keywords: Time-varying parameters; Stochastic volatility; Out-of-sample forecasts
    JEL: E31 E37 E47 E51 N13
    Date: 2023–02–28
  31. By: Ellis Scharfenaker, Duncan K. Foley
    Abstract: Economic analysis has approached the problem of the neutrality of money through methods of supply-demand equilibrium in which changes in aggregate demand due to monetary or fiscal policy are equivalent to changes in the denomination of the monetary standard. We re-examine this question using statistical equilibrium methods adapted from statistical physics, which address both the central tendency of prices in equilibrium and the systematic fluctuation of prices around the central tendency. From this perspective the neutrality of money in the sense of the invariance of real economic outcomes to aggregate demand shocks depends on the adjustment of both expectations of the average level of wages and prices and the further adjustment of anticipations of the scale of fluctuations in prices and wage offers. We illustrate these conclusions through a model of wage and employment outcomes in a labor market model comprised of informationally constrained workers and employers whose interactions have a non-zero impact on wages. The model endogenizes employment interactions between workers and employers in terms of a quantal response equilibrium and produces an equilibrium level of unemployment as a statistical feature of a decentralized labor market. Shocks to the economy can produce short-run increases in involuntary unemployment arising from inertia in the adjustment of expectations. Even after agents align their expectations with market outcomes, unless they also adjust their expectations of the scale of statistical fluctuations in wages, a negative shock to demand can result in higher levels of equilibrium unemployment. In this way the model exhibits a particular type of non-neutrality of money in the short-run and long-run.
    Keywords: Neutrality of money, Wage distribution, Labor market, Involuntary unemployment, Statistical equilibrium JEL Classification: C18, D80, E10, E24, E70
    Date: 2023
  32. By: Marta Baltar Moreira Areosa; Wagner Piazza Gaglianone
    Abstract: The objective of this paper is to forecast Brazilian inflation using a hybrid approach that combines a standard Vector Autoregression (VAR) model with expectations from surveys of consumers or professional forecasters. We cast a VAR model with parameter restriction into a state-space setup, where the long-run forecast from the model matches the long-run survey prediction. The proposed method also allows for exogenous variables in the system of equations as a way to enlarge the information set, and is designed to quickly adapt the multi-step-ahead forecasts in response to new survey information. An empirical exercise with Brazilian data illustrates the usefulness of the method. The results using a pre-COVID-19 sample indicate forecasts obtained from the proposed model prevail over traditional methods at longer horizons, thus confirming the benefits of using forward-looking information from survey in the forecasting process. The main reason is that the method incorporates relevant transformations observed in the Brazilian economy in recent years, such as monetary policy credibility gains and lower inflation targets. In turn, the results based on the full sample, up to August 2022, show larger forecast errors after the pandemic, which caused huge outliers in macroeconomic variables world-wide. Altogether, these findings offer a valuable contribution to applied macroeconomics, especially with regard to forecasting inflation in Brazil using VARs and survey data.
    Date: 2023–02
  33. By: Philippe Goulet Coulombe (University of Quebec in Montreal)
    Abstract: Many problems plague the estimation of Phillips curves. Among them is the hurdle that the two key components, inflation expectations and the output gap, are both unobserved. Traditional remedies include creating reasonable proxies for the notable absentees or extracting them via some form of assumptions-heavy filtering procedure. I propose an alternative route: a Hemisphere Neural Network (HNN) whose peculiar architecture yields a final layer where components can be interpreted as latent states within a Neural Phillips Curve. There are benefits. First, HNN conducts the supervised estimation of nonlinearities that arise when translating a high-dimensional set of observed regressors into latent states. Second, computations are fast. Third, forecasts are economically interpretable. Fourth, inflation volatility can also be predicted by merely adding a hemisphere to the model. Among other findings, the contribution of real activity to inflation appears severely underestimated in traditional econometric specifications. Also, HNN captures out-of-sample the 2021 upswing in inflation and attributes it first to an abrupt and sizable disanchoring of the expectations component, followed by a wildly positive gap starting from late 2020. HNN’s gap unique path comes from dispensing with unemployment and GDP in favor of an amalgam of nonlinearly processed alternative tightness indicators – some of which are skyrocketing as of early 2022.
    Date: 2022–01
  34. By: Mostafa R. Sarkandiz
    Abstract: Throughout the past year, Turkey's central bank policy to decrease the nominal interest rate has caused episodes of severe fluctuations in Turkish lira exchange rates. According to these conditions, the daily return of the USD/TRY have attracted the risk-taker investors' attention. Therefore, the uncertainty about the rates has pushed algorithmic traders toward finding the best forecasting model. While there is a growing tendency to employ sophisticated models to forecast financial time series, in most cases, simple models can provide more precise forecasts. To examine that claim, present study has utilized several models to predict daily exchange rates for a short horizon. Interestingly, the simple exponential smoothing model outperformed all other alternatives. Besides, in contrast to the initial inferences, the time series neither had structural break nor exhibited signs of the ARCH and leverage effects. Despite that behavior, there was undeniable evidence of a long-memory trend. That means the series tends to keep a movement, at least for a short period. Finally, the study concluded the simple models provide better forecasts for exchange rates than the complicated approaches.
    Date: 2023–02
  35. By: Martin Vesely
    Abstract: Portfolio optimization is an inseparable part of strategic asset allocation at the Czech National Bank. Quantum computing is a new technology offering algorithms for that problem. The capabilities and limitations of quantum computers with regard to portfolio optimization should therefore be investigated. In this paper, we focus on applications of quantum algorithms to dynamic portfolio optimization based on the Markowitz model. In particular, we compare algorithms for universal gate-based quantum computers (the QAOA, the VQE and Grover adaptive search), single-purpose quantum annealers, the classical exact branch and bound solver and classical heuristic algorithms (simulated annealing and genetic optimization). To run the quantum algorithms we use the IBM QuantumTM gate-based quantum computer. We also employ the quantum annealer offered by D-Wave. We demonstrate portfolio optimization on finding the optimal currency composition of the CNB's FX reserves. A secondary goal of the paper is to provide staff of central banks and other financial market regulators with literature on quantum optimization algorithms, because financial firms are active in finding possible applications of quantum computing.
    Keywords: Foreign exchange reserves, portfolio optimization, quadratic unconstrained binary optimization, quantum computing
    JEL: C61 C63 G11
    Date: 2023–02
  36. By: Ana Mão-de-Ferro (University of Zurich - Department of Banking and Finance; Swiss Finance Institute); Stefano Ramelli (University of St. Gallen - School of Finance; Swiss Finance Institute)
    Abstract: Inflation can significantly undermine companies' relationships with their customers, employees, and other stakeholders, spawning a crisis of trust. This is particularly true in a period when many citizens accuse corporations of excessively raising prices to maximize profits. Studying the cross-sectional reactions of US stocks to inflation over the period 2018-2022, we find that in the month following a higher inflation rate, equity investors reward firms with stronger social capital, as proxied by their corporate social responsibility levels. The effect holds using different measures of inflation, including region-specific ones. The inflation-hedging property of CSR is stronger for firms headquartered in Democratic US states (those most exposed to the "corporate greed'' narrative of inflation) and for firms with higher customer awareness and intangible capital. Overall, the findings spotlight inflation as a crisis in stakeholder trust and provide new insights into the importance of social capital for firm value.
    Keywords: CSR, ESG, Inflation, Stock returns, Social capital
    JEL: G12 G32 M14
    Date: 2023–01

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