nep-mon New Economics Papers
on Monetary Economics
Issue of 2024‒05‒13
35 papers chosen by
Bernd Hayo, Philipps-Universität Marburg

  1. Anchoring Households’ Inflation Expectations When Inflation Is High By Giang Nghiem; Lena Dräger; Ami Dalloul
  2. Fragmented monetary unions By Luca Fornaro; Christoph Grosse-Steffen
  3. Optimal quantitative easing and tightening By Harrison, Richard
  4. Battle of the markups: conflict inflation and the aspirational channel of monetary policy transmission By van der Ploeg, Frederick; Willems, Tim
  5. An unconventional FX tail risk story By Cañon, Carlos; Gerba, Eddie; Pambira, Alberto; Stoja, Evarist
  6. Digital euro safeguards – protecting financial stability and liquidity in the banking sector By Lambert, Claudia; Meller, Barbara; Pancaro, Cosimo; Pellicani, Antonella; Radulova, Petya; Soons, Oscar; van der Kraaij, Anton
  7. Quantitative Easing, Bond Risk Premia and the Exchange Rate in a Small Open Economy By Jens H. E. Christensen; Xin Zhang
  8. The U.S. dollar’s “exorbitant privilege” remains By Otaviano Canuto
  9. Monetary policy consequences of financial stability interventions: assessing the UK LDI crisis and the central bank policy response By Bandera, Nicolò; Stevens, Jacob
  10. Quantitative Easing, Bond Risk Premia and the Exchange Rate in a Small Open Economy By Jens H. E. Christensen; Xin Zhang
  11. Japan's Inflation under Global Inflation Synchronization By Ichiro Fukunaga; Yosuke Kido; Kotaro Suita
  12. How the Big Mac Index Relates to Overall Consumer Inflation By B. Ravikumar; Amy Smaldone
  13. Central bank profit distribution and recapitalisation By Long, Jamie; Fisher, Paul
  14. The neo-Fisherian effect in a new Keynesian model with real money balances By Ida, Daisuke
  15. Sources of post-pandemic inflation in Germany and the euro area: An application of Bernanke and Blanchard (2023) By Menz, Jan-Oliver
  16. Is bitcoin an inflation hedge? By Rodriguez, Harold; Colombo, Jefferson
  17. The Global Financial Cycle and International Monetary Policy Cooperation By Shangshang Li
  18. Maximally Forward-Looking Core Inflation By Philippe Goulet Coulombe; Karin Klieber; Christophe Barrette; Maximilian Goebel
  19. New Evidence on the PBoC's Reaction Function By Makram El-Shagi; Yishuo Ma
  20. The RMB's global role as an anchor currency: No evidence By Heimonen, Kari; Rönkkö, Risto
  21. Can Energy Subsidies Help Slay Inflation? By Christopher J. Erceg; Marcin Kolasa; Jesper Lindé; Mr. Andrea Pescatori
  22. Unveiling the Dance of Commodity Prices and the Global Financial Cycle By Luciana Juvenal; Ivan Petrella
  23. Across the borders, above the bounds: a non-linear framework for international yield curves By Coroneo, Laura; Kaminska, Iryna; Pastorello, Sergio
  24. The role of hedge funds in the Swiss franc foreign exchange market By Jessica Gentner
  25. Global value chains and the dynamics of UK inflation By Aquilante, Tommaso; Dogan, Aydan; Firat, Melih; Soenarjo, Aditya
  26. Is This Time Different: How Are Banks Performing during the Recent Interest Rate Increases Compared to 2004–2006? By Anya V. Kleymenova; Lori Leu; Cindy M. Vojtech
  27. Exchange Rate Pass-Around By Federico Trionfetti; Julien Jinz; Matthieu Crozet
  28. How do interest rates effect consumption in the UK? By Matthew O'Donnell; Aleksandar Vasilev
  29. Is There Hope for the Expectations Hypothesis? By Richard K. Crump; Stefano Eusepi; Emanuel Moench
  30. The development of the sawtooth wages model of inflation By de Carvalho, André Roncaglia
  31. The impact of prudential regulations on the UK housing market and economy: insights from an agent-based model By Bardoscia, Marco; Carro, Adrian; Hinterschweiger, Marc; Napoletano, Mauro; Popoyan, Lilit; Roventini, Andrea; Uluc, Arzu
  32. Competing models of the Bank of England’s liquidity auctions: truthful bidding is a good approximation By Grace, Charlotte
  33. Can I Speak to Your Supervisor? The Importance of Bank Supervision By Beverly Hirtle; Anna Kovner
  34. The U.S. Banking Crisis of 2023 and Its Implications for Africa By Hinh T. Dinh
  35. Did Basel III reduce bank spillovers in South Africa By Serena Merrino; Ilias Chondrogiannis

  1. By: Giang Nghiem; Lena Dräger; Ami Dalloul
    Abstract: This paper explores communication strategies for anchoring households’ medium-term inflation expectations in a high inflation environment. We conducted a survey experiment with a representative sample of 4, 000 German households at the height of the recent inflation surge in early 2023, with information treatments including a qualitative statement by the ECB president and quantitative information about the ECB’s inflation target or projected inflation. Inflation projections are most effective, but combining information about the target with a qualitative statement also significantly improves anchoring. The treatment effects are particularly pronounced among respondents with high financial literacy and high trust in the central bank.
    Keywords: anchoring of inflation expectations, central bank communication, survey experiment, randomized controlled trial (RCT)
    JEL: E52 E31 D84
    Date: 2024
  2. By: Luca Fornaro; Christoph Grosse-Steffen
    Abstract: We provide a theory of financial fragmentation in monetary unions. Our key insight is that currency unions may experience of symmetry: that is episodes in which identical countries react differently when exposed to the same shock. During these events part of the union suffers a capital flight, while the rest acts as a safe haven and receives inflows. The central bank then faces a difficult trade-off between containing unemploymnet in capital-flight countries, and inflationary pressures in safe-haven ones. By counteracting private capital flows with public ones, unconventional monetary interventions mitigate the impact of financial fragmentation on employment and inflation, thus helping the central bank to fulfill its price stability mandate.
    Keywords: Monetary unions, Euro area, fragmentation, optimal monetary policy in openeconomies, capital flows, fiscal crises, unconventional monetary policies, Inflation, endogenous breaking of symmetry, Optimum
    JEL: E31 E52 F32 F41 F42 F45
    Date: 2024–04
  3. By: Harrison, Richard (Bank of England)
    Abstract: This paper studies optimal monetary policy in a New Keynesian model with portfolio frictions that create a role for the central bank balance sheet as a policy instrument. Central bank purchases of long‑term government debt (‘quantitative easing’) reduce average portfolio returns, thereby increasing aggregate demand and inflation. Optimal time‑consistent policy prescribes large and rapid asset purchases when the policy rate hits the zero bound. Optimal balance sheet reduction (‘quantitative tightening’) is more gradual. A central bank that pursues a flexible inflation target can achieve similar welfare to optimal policy if quantitative tightening is calibrated appropriately.
    Keywords: Quantitative easing; quantitative tightening; optimal monetary policy; zero lower bound
    JEL: E52 E58
    Date: 2024–03–08
  4. By: van der Ploeg, Frederick (University of Oxford, University of Amsterdam and CEPR); Willems, Tim (Bank of England)
    Abstract: Since the post‑Covid rise in inflation has been accompanied by strong wage growth, the distributional conflict between wage and price‑setters (both wishing to attain a certain markup) has regained prominence. We examine how a central bank should resolve a ‘battle of the markups’ when aspired markups are cyclically sensitive, highlighting a new ‘aspirational channel’ of monetary transmission. We establish conditions under which an inflationary situation characterised by inconsistent aspirations requires a reduction in economic activity, to eliminate worker‑firm disagreement over the appropriate level of the real wage. We find that countercyclical markups and/or a flat Phillips curve call for more dovish monetary policy. Estimating price markup cyclicality across 44 countries, we find that monetary contractions are better able to lower inflation when markups are procyclical.
    Keywords: Inflation; wage-price dynamics; markups; monetary policy transmission; Taylor principle; determinacy
    JEL: E31 E32 E52 E58
    Date: 2024–03–08
  5. By: Cañon, Carlos (Bank of England); Gerba, Eddie (Bank of England); Pambira, Alberto (Bank of England); Stoja, Evarist (University of Bristol)
    Abstract: We examine how the tail risk of currency returns of nine countries, from 2000 to 2020, were impacted by central bank monetary and liquidity measures across the globe with an original and unique dataset that we make publicly available. Using a standard factor model, we derive theoretical measures of tail risks of currency returns which we then relate to the various policy instruments employed by central banks. We find empirical evidence for the existence of a cross-border transmission channel of central bank policy through the FX market. The tail impact is particularly sizeable for asset purchases and swap lines. The effects last for up to one month, and are proportionally higher in a hypothetical joint QE action scenario. This cross-border source of tail risk is largely undiversifiable, even after controlling for the US dollar dominance and the effects of its own monetary policy stance.
    Keywords: Unconventional and conventional monetary policy; liquidity measures; currency tail risk; systematic and idiosyncratic components of tail risk
    JEL: E44 E52 G12 G15
    Date: 2024–04–05
  6. By: Lambert, Claudia; Meller, Barbara; Pancaro, Cosimo; Pellicani, Antonella; Radulova, Petya; Soons, Oscar; van der Kraaij, Anton
    Abstract: A digital euro would provide the general public with an additional means of payment in the form of risk-free central bank money in digital form that is universally accepted for digital payments across the euro area. A digital euro would offer a wide range of financial stability benefits, including safeguarding the role of public money and strengthening the strategic autonomy and monetary sovereignty of the euro area in the digital era. It would be designed to have no material impact on financial stability or the transmission of monetary policy. This paper shows the usefulness of digital euro safeguards, such as holding limits, that would limit the impact of the introduction of a digital euro on banks’ liquidity and on their reliance on central bank funding. To this end, it assesses how banks might respond to the introduction of a digital euro while seeking to maximise profitability and manage their risks for a range of holding limit scenarios. The results of the simulated impact on key liquidity metrics show that, with safeguards in place and on aggregate, the liquidity metrics of euro area banks would decline but remain well above regulatory minimums. In addition, the central bank funding ratios of euro area banks would not increase materially on aggregate and would remain contained overall. JEL Classification: E42, E58, G21
    Keywords: bank intermediation, CBDC, digital euro, financial stability risks
    Date: 2024–04
  7. By: Jens H. E. Christensen; Xin Zhang
    Abstract: We assess the impact of large-scale asset purchases, commonly known as quantitative easing (QE), conducted by Sveriges Riksbank and the European Central Bank (ECB) on bond risk premia in the Swedish government bond market. Using a novel arbitrage-free dynamic term structure model of nominal and real bond prices that accounts for bond-specific safety premia, we find that Sveriges Riksbank’s bond purchases raised inflation and short-rate expectations, lowered nominal and real term premia and inflation risk premia, and increased nominal bond safety premia, suggestive of signaling, portfolio rebalance, and safe asset scarcity effects. Furthermore, we document spillover effects of ECB’s QE programs on Swedish bond markets that are similar to the Swedish QE effects only after controlling for exchange rate fluctuations, highlighting the importance of exchange rate dynamics in the transmission of QE spillover effects.
    Keywords: term structure modeling; financial market frictions; safety premium; unconventional monetary policy
    JEL: C32 E43 E52 E58 F41 F42 G12
    Date: 2024–04–04
  8. By: Otaviano Canuto
    Abstract: Recent initiatives and policy moves by China and other countries to extend the reach of use of the renminbi in the international monetary system, while the U.S. dollar share in global reserves has slightly shrunk in relative terms, have sparked frequent discussions about a hypothetical “de-dollarization” of the global economy. We approach here what that would mean in terms of global currency functions as means of payment and store of value. While we point out a relative decline of the U.S. dollar weight in those functions more recently, we also highlight gravitational factors that tend to uphold its position. Therefore, the “exorbitant privilege” that the U.S. dollar has provided to its issuer is likely to remain.
    Date: 2023–04
  9. By: Bandera, Nicolò (Bank of England); Stevens, Jacob (University of St Andrews)
    Abstract: We study the macroeconomic implications of non-bank financial institutions (NBFIs) in the context of the 2022 UK gilt crisis and estimate the monetary policy spillovers of financial stability interventions. We make three contributions. First, we develop the first DSGE model featuring liability driven investment (LDI) and pension funds. This novel framework in which LDI activity amplifies the movements in gilt prices allows us to replicate the UK gilt crisis, demonstrating a crucial mechanism through which NBFIs can amplify financial and economic distress. Second, we quantitatively estimate the monetary policy spillovers of the Bank of England financial stability asset purchases. We find that the asset purchases were successful in offsetting LDI-driven gilt market dysfunction. The temporary, targeted nature of these purchases was crucial in avoiding monetary spillovers. Third, we model two counterfactual instruments – an NBFI repo tool and a macroprudential liquidity buffer – and compare their effectiveness as well as monetary spillovers. Our results show that the central bank can successfully address NBFI-driven market stress without loosening monetary policy, avoiding potential tensions between price and financial stability
    Keywords: Monetary policy; financial stability; asset purchases; liquidity crisis; liability-driven investors; gilt; DSGE model
    JEL: C68 E44 E52 E58 G01 G23
    Date: 2024–04–05
  10. By: Jens H. E. Christensen; Xin Zhang
    Abstract: We assess the impact of large-scale asset purchases, commonly known as quantitative easing (QE), conducted by Sveriges Riksbank and the European Central Bank (ECB) on bond risk premia in the Swedish government bond market. Using a novel arbitrage-free dynamic term structure model of nominal and real bond prices that accounts for bond-specific safety premia, we find that Sveriges Riksbank’s bond purchases raised inflation and short-rate expectations, lowered nominal and real term premia and inflation risk premia, and increased nominal bond safety premia, suggestive of signaling, portfolio rebalance, and safe asset scarcity effects. Furthermore, we document spillover effects of ECB’s QE programs on Swedish bond markets that are similar to the Swedish QE effects only after controlling for exchange rate fluctuations, highlighting the importance of exchange rate dynamics in the transmission of QE spillover effects.
    Keywords: term structure modeling; financial market frictions; safety premium; unconventional monetary policy
    JEL: C32 E43 E52 F41 F42 G12
    Date: 2024–04–04
  11. By: Ichiro Fukunaga (Bank of Japan); Yosuke Kido (International Monetary Fund); Kotaro Suita (Bank of Japan)
    Abstract: In this paper, with a brief examination of the global inflation synchronization, we analyze the effects of domestic and global factors on Japan's consumer price inflation and related variables (inflation expectations, nominal wages, etc.) since the late 1990s, when Japan fell into deflation, mainly using structural vector autoregression (SVAR) models with short- and long-run zero and sign restrictions. Historical decompositions show that various types of global shocks, including downward cost pressure due to globalization, had continuously pushed down Japan's consumer prices until the late 2010s. Subsequently, their contribution reversed, significantly pushing up prices, especially in the high-inflation phase after the pandemic. In addition, we find that service prices and nominal wages, which had not been much affected by global shocks, have also been pushed up significantly by global shocks in the recent period.
    Keywords: Inflation; Monetary policy; Globalization
    JEL: E31 E52 F62
    Date: 2024–04–26
  12. By: B. Ravikumar; Amy Smaldone
    Abstract: Big Mac inflation appears to track CPI inflation, but its path can diverge from overall U.S. inflation because of price deviations relative to other items in the consumer basket.
    Keywords: Big Mac index; inflation
    Date: 2024–04–11
  13. By: Long, Jamie (Bank of England); Fisher, Paul (Senior Research Fellow, King’s Business School, King’s College London, Data Analytics for Finance and Macro Research Centre)
    Abstract: Central banks retain a portion of their net profits as reserves and distribute the remainder to their finance ministry, typically in the form of a dividend. Few central banks have a reciprocal arrangement in place for covering financial losses with a transfer of capital. This paper reports the findings of a survey of central bank profit distribution and recapitalisation arrangements across 70 jurisdictions and examines the range of features present, such as revaluation accounts and requirements for capital injections. The findings help establish the importance of a robust framework for managing central bank profit distribution and recapitalisation. The presence of such a framework should allow central banks to retain more of profits and access external resources when capital is low, and to function as an income generating asset for the government when capital is high, therefore ensuring both an appropriate use of public funds and the presence of a credible and financially independent central bank that stands ready to act when needed.
    Keywords: Central bank balance sheet; central bank profit distribution; central bank recapitalisation; monetary policy; financial stability
    JEL: E52 E58
    Date: 2024–04–05
  14. By: Ida, Daisuke
    Abstract: This study explores how the real money balance effect (RMBE) affects the neo-Fisherian effect (NFE) in a standard new Keynesian model. First, we find that the presence of the RMBE can partly explain the occurrence of the NFE, and that increasing the nonseparability parameter magnifies the positive response of the nominal interest rate to a persistent inflation target shock. Second, we show that the degree of nominal price stickiness is important in explaining how the RMBE amplifies the NFE. In sum, this study addresses how the presence of the RMBE facilitates generating the NFE.
    Keywords: Neo-Fisherian effect; New Keynesian model; Real money balances; Interest rates; Inflation
    JEL: E52 E58
    Date: 2024–03–29
  15. By: Menz, Jan-Oliver
    Abstract: We use a simple macroeconomic model proposed by Bernanke and Blanchard (2023) to investigate the reasons for the recent sharp rise in inflation. Applied to Germany and the euro area, the model suggests that the surge in inflation has mainly been caused by commodity price shocks and supply bottlenecks, rather than shortages in the labour market. Inflation expectations were found to be well-anchored and evidence for a wage-price spiral is scarce. The model predicts a gradual decline in future inflation rates. However, this prediction is based on the assumption that there will be no commodity price shocks and that the labour market will cool down.
    Keywords: Inflation, wages, inflation expectations, Phillips curve
    JEL: E3 J3 D84 C33
    Date: 2024
  16. By: Rodriguez, Harold; Colombo, Jefferson
    Abstract: Spot bitcoin ETFs have been recently approved in the U.S., increasing retail and institutional investors' attention to the crypto space. Still, empirical evidence on whether Bitcoin is an asset that protects investors against inflation is still inconclusive. To contribute to this debate, we analyze the effect of inflation shocks on bitcoin returns through the estimation and inference of Vector Autoregressive Models (VARs). Unlike previous research on the topic, we identify inflation shocks as surprises in the US’s CPI and Core PCE announcements: the difference between the announced inflation and the analysts’ consensus. The results, based on monthly data between August 2010 and January 2023, indicate that bitcoin returns increase significantly after a positive inflationary shock, corroborating empirical evidence that Bitcoin can act as an inflation hedge. However, we observe that bitcoin’s inflationary hedging property is sensitive to the price index -- it only holds for CPI shocks -- and to the period of analysis –- the hedging property stems primarily from sample periods before the increasing institutional adoption of BTC (``early days''). Thus, the inflation-hedging property of Bitcoin is context-specific and is likely to be diminishing as adoption increases. This research contributes to the still under-explored strand of literature that analyzes the hedging and safe-haven properties of Bitcoin and benefits asset managers, investors, and monetary authorities.
    Keywords: Bitcoin, Hedge against inflation, Unexpected inflation, surprises in CPI, surprises in PCE.
    JEL: E31 E44 G11
    Date: 2024–03–06
  17. By: Shangshang Li
    Abstract: This paper evaluates gains from international monetary policy cooperation between the financial centre and periphery countries in a two-country open economy model consistent with global financial cycles. Compared to the non-cooperative Nash equilibrium, the optimal cooperative equilibrium robustly fails to benefit both countries simultaneously. The financial periphery is more likely to gain from cooperation if it raises less foreign currency debt or is relatively small. These results also hold when considering the transitional gains and losses of moving from non-cooperation to cooperation. The uneven distribution of gains from cooperation persists when both countries adopt implementable policy rules with and without cooperation. Nevertheless, both countries gain when transitioning from the Nash to the cooperative implementable rules. Regardless of the financial centre's policy, rules responding to the exchange rate dominate over purely inward-looking rules for the financial periphery.
    Keywords: policy cooperation, global financial cycle, currency mismatch
    JEL: E44 E52 E58 E61 F34 F42
  18. By: Philippe Goulet Coulombe; Karin Klieber; Christophe Barrette; Maximilian Goebel
    Abstract: Timely monetary policy decision-making requires timely core inflation measures. We create a new core inflation series that is explicitly designed to succeed at that goal. Precisely, we introduce the Assemblage Regression, a generalized nonnegative ridge regression problem that optimizes the price index's subcomponent weights such that the aggregate is maximally predictive of future headline inflation. Ordering subcomponents according to their rank in each period switches the algorithm to be learning supervised trimmed inflation - or, put differently, the maximally forward-looking summary statistic of the realized price changes distribution. In an extensive out-of-sample forecasting experiment for the US and the euro area, we find substantial improvements for signaling medium-term inflation developments in both the pre- and post-Covid years. Those coming from the supervised trimmed version are particularly striking, and are attributable to a highly asymmetric trimming which contrasts with conventional indicators. We also find that this metric was indicating first upward pressures on inflation as early as mid-2020 and quickly captured the turning point in 2022. We also consider extensions, like assembling inflation from geographical regions, trimmed temporal aggregation, and building core measures specialized for either upside or downside inflation risks.
    Date: 2024–04
  19. By: Makram El-Shagi (Center for Financial Development and Stability at Henan University, and School of Economics at Henan University, Kaifeng, Henan); Yishuo Ma (Center for Financial Development and Stability at Henan University, and School of Economics at Henan University, Kaifeng, Henan)
    Abstract: While policy reaction functions of most major central banks are routinely approximated by fitting Taylor (type) rules to their policy rate, there is no such consensus for the People's Bank of China (PBoC). What makes it hard to get a clear impression of the “true†reaction function is that most papers in the extensive literature focus on a single aspect of the reaction function typically mostly comparing it to one (or a few) widely used baseline models. Contrarily, we assess a broad range of questions regarding the reaction function in a unified approach, estimating several hundred reaction functions. While we find that no single policy measure fully captures all aspects of the PBoC's policy, our paper provides clear evidence for asymmetric behavior, support for an important role of monetary aggregates, and robust evidence for the PBoC considering both financial stability and exchange rate stabilization in its policy deliberations.
    Keywords: China, monetary policy, reaction function, Taylor rule
    JEL: E58
    Date: 2024–04
  20. By: Heimonen, Kari; Rönkkö, Risto
    Abstract: This study examines the role of the Chinese renminbi (RMB) as an international anchor currency. After China abandoned its tight US dollar (USD) peg in 2005, the RMB found greater popularity as a reserve currency. This change in the RMB's role reflected China's growing presence in the global economy, even challenging the USD in some of the 155 countries that signed on to the Belt and Road initiative (BRI). Modifying the approach of Ahmed (2021) to estimate basket weights in exchange rate policy for the currencies of 63 advanced and emerging economy currencies, we account for potential drivers of the exchange rate omitted in previous studies to obtain unbiased anchor weight estimates. Unlike earlier studies, we find that the RMB's anchor weight in exchange rate policies remains low irrespective of China's global role. Overall, the weight of the RMB averaged 6 %, compared to an average share of 58 % for the USD and 35 % for the euro. We also find that the USD, euro and yen anchor choices are strongly interlinked. A change in the anchor weight of any of these three currencies results in a strong opposite change in the weights of other two. Changes in RMB anchoring, however, do not materially impact USD, euro and yen weights. An increase in financial markets volatility leads developing countries to increase anchor weights of the developed countries currencies USD, euro and yen. Heightened geopolitical uncertainty only increases the weights of the USD and euro.
    Keywords: exchange rate, currency peg, RMB
    JEL: F31 F33
    Date: 2024
  21. By: Christopher J. Erceg; Marcin Kolasa; Jesper Lindé; Mr. Andrea Pescatori
    Abstract: Many countries have used energy subsidies to cushion the effects of high energy prices on households and firms. After documenting the transmission of oil supply shocks empirically in the United States and the Euro Area, we use a New Keynesian modeling framework to study the conditions under which these policies can curb inflation. We first consider a closed economy model to show that a consumer subsidy may be counterproductive, especially as an inflation-fighting tool, when applied globally or in a segmented market, at least under empirically plausible conditions about wage-setting. We find more scope for energy subsidies to reduce core inflation and stimulate demand if introduced by a small group of countries which collectively do not have much influence on global energy prices. However, the conditions under which consumer energy subsidies reduce inflation are still quite restrictive, and this type of policy may well be counterproductive if the resulting increase in external debt is high enough to trigger sizeable exchange rate depreciation. Such effects are more likely in emerging markets with shallow foreign exchange markets. If the primary goal of using fiscal measures in response to spikes in energy prices is to shield vulnerable households, then targeted transfers are much more efficient as they achieve their goals at lower fiscal cost and transmit less to core inflation.
    Keywords: Energy Prices; Energy Subsidies; Monetary Policy; International Spillovers
    Date: 2024–04–05
  22. By: Luciana Juvenal; Ivan Petrella
    Abstract: We examine the impact of commodity price changes on the business cycles and capital flows in emerging markets and developing economies (EMDEs), distinguishing between their role as a source of shock and as a channel of transmission of global shocks. Our findings reveal that surges in export prices, triggered by commodity price shocks, boost domestic GDP, an effect further amplified by the endogenous decline of country spreads. However, the effects on capital flows appear muted. Shifts in U.S. monetary policy and global risk appetite drive the global financial cycle in EMDEs. Eased global credit conditions, attributed to looser U.S. monetary policy or lower global risk appetite, lead to a rise in export prices, higher output, a decrease in government borrowing costs, and stimulate greater capital flows. The endogenous response of export prices amplifies the output effects of a more accommodative U.S. monetary policy while country spreads magnify the impact of shifts in global risk appetite.
    Date: 2024–04–05
  23. By: Coroneo, Laura (University of York); Kaminska, Iryna (Bank of England); Pastorello, Sergio (University of Bologna)
    Abstract: This paper presents a non-linear framework to evaluate spillovers across domestic and international yield curves when policy rates are constrained by the zero lower bound. Based on the sample of US and UK data, we estimate a joint shadow rate model of international yield curves, accounting for the zero lower bound, no-arbitrage conditions within and between government bond markets, and the global nature of some of the bond risk factors. Results indicate that the post-2009 US monetary policy transmission mechanism and its spillover effects on the UK yield curve are non-linear and asymmetric.
    Keywords: Joint term structure models; local projections; monetary policy; non-linear responses; shadow rate term structure models; yield curve; zero lower bound
    JEL: E43 E47 E52 G15
    Date: 2024–02–09
  24. By: Jessica Gentner
    Abstract: This paper investigates the role of hedge funds within the Swiss franc (CHF) foreign exchange (FX) market, using a novel and comprehensive flow dataset that covers a large proportion of the CHF FX market. Employing a two-stage-least-squares (2SLS) approach, I isolate the causal effect of hedge funds’ net flow on CHF returns, taking into account reverse causality. The analysis reveals that hedge funds’ net flow significantly impacts CHF returns, with a net buying of one billion leading to an approximate 0.4% increase in returns. In contrast, the net flow from other market participants has a negligible impact, even when potential reverse causality is dismissed. This influence of hedge funds’ net flow becomes particularly noticeable on days when the Swiss National Bank (SNB) delivers contractionary monetary policy surprises. On such days, even a small surprise amplifies the impact of hedge funds’ net flow significantly. The analysis of market participants’ trading prices substantiates the hypothesis that hedge funds, due to their expertise in FX forecasting and best execution as well as superior transaction timing abilities, in aggregate tend to trade at more advantageous prices than other market participants.
    Keywords: Swiss franc, Market microstructure, Asymmetric information, Monetary policy shocks
    JEL: G12 G14 F31
    Date: 2024
  25. By: Aquilante, Tommaso (Bank of England); Dogan, Aydan (Bank of England); Firat, Melih (International Monetary Fund); Soenarjo, Aditya (London School of Economics)
    Abstract: This paper explores the link between the UK’s participation in global value chains (GVCs) and inflation dynamics. Using sectoral data, we find evidence indicating that UK industries with higher proportions of imported inputs from emerging market economies (EMEs) exhibit a flatter Phillips curve. We then build a two-country model with input-output linkages and demonstrate analytically that an increased reliance on imported intermediate goods, serving as a proxy for GVCs, results in a flatter Phillips curve. Additionally, GVC integration affects inflation dynamics through the influence of cyclical forces that shape firms’ marginal costs via terms of trade fluctuations. Specifically, we highlight how the limited business cycle correlation between the UK economy and EMEs reduces the pass-through of domestic shocks to prices.
    Keywords: Global value chains; inflation dynamics; Phillips curve
    JEL: E30 E31 E32 F10 F14
    Date: 2024–02–09
  26. By: Anya V. Kleymenova; Lori Leu; Cindy M. Vojtech
    Abstract: In 2022, the Federal Reserve began its latest monetary tightening cycle. Increases in interest rates are generally favorable for commercial bank net interest income (interest income minus interest expense). This relationship holds because many loan types have adjustable rates, and banks do not pass through all interest rate increases to depositors.
    Date: 2024–04–12
  27. By: Federico Trionfetti (Aix-Marseille Univ., CNRS, AMSE, Marseille, France); Julien Jinz (Bielefeld University and Kiel Institute for the World Economy.); Matthieu Crozet (Université Paris-Saclay)
    Abstract: The strongest empirical regularity about the exchange rate pass-through is that it is incomplete. We provide a new theoretical explanation based on the unwillingness of some firms to price discriminate between markets. These firms set a single price to all destinations and adjust it when the exchange rate shock occurs. But the adjustment is not necessarily proportional since the change in the single price affects revenues in all markets. The single price strategy also implies a “pass-around” effect: The exchange rate shock has repercussions of price changes to all export markets. The analysis of price changes operated by French exporters in different markets after the EUR/CHF shock of 2015 provides evidence in favour of our theoretical explanation.
    Keywords: Exchange rate pass-through, international trade, Pricing-to-market
    JEL: F14 F31 F61 F62
    Date: 2024–04
  28. By: Matthew O'Donnell; Aleksandar Vasilev
    Abstract: This paper analyses the link between interest rates and consumption in the UK and will allow better understanding of the relationship between these two variables, as this is extremely important to the Bank of England and the monetary policy that it adopts. Analysis of the empirical evidence from the period last 60 years has produced some interesting observations and the most significant discovery was the way consumption responds to interest rates changed over time. In the first 30 years the real interest rate had a much higher coefficient, with the lagged variable being insignificant. However, in the second period, the opposite occurred, and the lagged variable had a significantly higher coefficient. Overall, consumption and interest rates do have an inverse relationship, as in both periods the interest rate experienced a negative coefficient when regressed with consumption. Therefore, changes in consumer decision making, and the development of a lagged response to interest rate changes could alter how governments influence consumption.
    Keywords: consumption, interest rate, modelling, UK
    JEL: E21 C32
    Date: 2024–04–01
  29. By: Richard K. Crump; Stefano Eusepi; Emanuel Moench
    Abstract: Most macroeconomic models impose a tight link between expected future short rates and the term structure of interest rates via the expectations hypothesis (EH). While the EH has been systematically rejected in the data, existing work evaluating the EH generally assumes either full-information rational expectations or stationarity of beliefs, or both. As such, these analyses are ill-equipped to refute the EH when these assumptions fail to hold, fueling hopes for a “resurrection” of the EH. We introduce a model of expectations formation which features time-varying means and accommodates deviations from rationality. This model tightly matches the entire joint term structure of expectations for output growth, inflation, and the short-term interest rate from all surveys of professional forecasters in the U.S. We show that deviations from rationality and drifting long-run beliefs consistent with observed measures of expectations, while sizable, do not come close to bridging the gap between the term structure of expectations and the term structure of interest rates. Not only is the EH decisively rejected in the data, but model-implied short-rate expectations generally display, at best, only a weak co-movement with the forward rates of corresponding maturities.
    Keywords: expectations formation; survey forecasts; expectations hypothesis
    JEL: D84 E43 G12
    Date: 2024–04–01
  30. By: de Carvalho, André Roncaglia
    Abstract: This paper covers the development of the sawtooth wages model, a graphical representation of the behavior of periodically adjusted fixed nominal wages under persistent inflationary conditions. Ranging from the immediate postwar years to the late 1980s, our narrative covers the history of the model, underscoring Bent Hansen’s (1951) contribution, followed by several improvements that aimed to incorporate into inflation theory several institution-specifc traits of underdeveloped economies. The diagram had a lukewarm reception in the 1960s but managed to defend its legacy until the 1980s, as the inertial inflation hypothesis gained terrain in the debate on economic stabilization in Latin America. Under the widespread diffusion of indexation practices, the model was then fully rehabilitated as a workhorse for theoretical and policy analysis in Brazil until a succesful stabilization was achieved in 1994 under the Real plan.
    Date: 2024–04–05
  31. By: Bardoscia, Marco (Bank of England); Carro, Adrian (Banco de España, Institute for New Economic Thinking at the Oxford Martin School, University of Oxford); Hinterschweiger, Marc (Bank of England); Napoletano, Mauro (Scuola Superiore Sant’Anna); Popoyan, Lilit (Queen Mary, University of London); Roventini, Andrea (Scuola Superiore Sant’Anna); Uluc, Arzu (Bank of England)
    Abstract: We develop a macroeconomic agent-based model to study the joint impact of borrower and lender-based prudential policies on the housing and credit markets and the economy more widely. We perform three experiments: (i) an increase of total capital requirements; (ii) an introduction of a loan-to-income (LTI) cap on mortgages to owner-occupiers; and (iii) a joint introduction of both experiments at the same time. Our results suggest that tightening capital requirements leads to a sharp decrease in commercial and mortgage lending, and housing transactions. When the LTI cap is in place, house prices fall sharply relative to income, and the homeownership rate decreases. When both policy instruments are combined, we find that housing transactions and prices drop. Both policies have a positive impact on real GDP and unemployment, while there is no material impact on inflation and the real interest rate.
    Keywords: Prudential policies; housing market; macroeconomy; agent-based models
    JEL: C63 D10 D31 E58 G21 G28 R20 R21 R31
    Date: 2024–03–15
  32. By: Grace, Charlotte (Nuffield College, University of Oxford)
    Abstract: This paper provides a method for comparing the performance of different models of bidding behaviour. It uses data on participants’ bids but does not require data on their values. I find that a model of ‘truthful bidding’ – bidding one’s true value for liquidity – outperforms a conventional model in which bidders shade their bids to maximise their expected surpluses, in the Bank of England’s uniform-price divisible-good liquidity auctions. I provide two possible explanations for this result. First, when bidders are sufficiently risk averse, optimal strategies in the conventional model approximate truthful bidding. For the conventional model, I develop new identifying conditions which allow for risk aversion. I find that the degree of risk aversion required for truthful bidding to be approximately optimal is consistent with that found in studies that are the most similar to my setting. Second, the optimal strategy can be complicated. Truthful bidding is preferable, even for risk neutral bidders, if the cost of calculating what would otherwise be the optimal strategy exceeds around 5% of bidder surplus.
    Keywords: Auctions; bid shading; central bank liquidity provision; product mix auction
    JEL: D44 E58
    Date: 2024–02–09
  33. By: Beverly Hirtle; Anna Kovner
    Abstract: In March of 2023, the U.S. banking industry experienced a period of significant turmoil involving runs on several banks and heightened concerns about contagion. While many factors contributed to these events—including poor risk management, lapses in firm governance, outsized exposures to interest rate risk, and unrecognized vulnerabilities from interconnected depositor bases, the role of bank supervisors came under particular scrutiny. Questions were raised about why supervisors did not intervene more forcefully before problems arose. In response, supervisory agencies, including the Federal Reserve and Federal Deposit Insurance Corporation, commissioned reviews that examined how supervisors’ actions might have contributed to, or mitigated, the failures. The reviews highlighted the important role that bank supervisors can play in fostering a stable banking system. In this post, we draw on our recent paper providing a critical review and summary of the empirical and theoretical literature on bank supervision to highlight what that literature tells us about the impact of supervision on supervised banks, on the banking industry and on the broader economy.
    Keywords: bank supervision; banking; bank regulation
    JEL: G21 G28
    Date: 2024–04–15
  34. By: Hinh T. Dinh
    Abstract: This Policy Brief examines the current banking crisis in the United States and its implications for Africa. Many studies have pointed out the main factors responsible for this crisis, including poor risk-management practices in the failed banks, the sector’s weak regulatory structure, and the failure of bank supervisors. However, a key factor that has contributed to the extent and speed of the crisis is the U.S. Federal Reserve’s (Fed) policy actions, including the elimination of reserve requirements in 2020, which resulted in a surge in demand deposits, and led to banks taking excessive risks.
    Date: 2023–06
  35. By: Serena Merrino; Ilias Chondrogiannis
    Abstract: We examine the effect of post-2010 banking regulation in South Africa on financial stability, macroeconomic variables and bank performance. We focus on risk spillovers and increased network and tail connectedness between banks, using a sample of nine listed South African banks in 20082023. The implementation of Basel III regulation, particularly capital adequacy ratios, has reduced connectedness-related risks but there is weak evidence of an effect of regulation on bank performance.
    Date: 2024–04–15

This nep-mon issue is ©2024 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.