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on Open MacroEconomics |
| By: | Menzie D. Chinn (University of Wisconsin, Madison); Shang-Jin Wei (Columbia University) |
| Abstract: | The assertion that a flexible exchange rate regime would facilitate current account adjustment is often repeated in policy circles. In this paper, we compile a data set encompassing data for over 170 countries over the 1971-2005 period, and examine whether the rate of current account reversion depends upon the de facto degree of exchange rate fixity, as measured by two popular indices. We find that there is no strong, robust, or monotonic relationship between exchange rate regime flexibility and the rate of current account reversion, even after accounting for the degree of economic development, the degree of trade and capital account openness. We also find that the endogenous selection of exchange rate regimes does not explain the observed lack of correlation. |
| Keywords: | Floating Exchange Rate, Fixed Exchange Rate, Current Account Imbalances, Real Exchange Rates |
| JEL: | F3 |
| Date: | 2009–03 |
| URL: | http://d.repec.org/n?u=RePEc:hkm:wpaper:122009&r=opm |
| By: | Reuven Glick (Federal Reserve Bank of San Francisco); Michael Hutchison (University of California, Santa Cruz) |
| Abstract: | In recent years China has faced an increasing trilemma¡Xhow to pursue an independent domestic monetary policy and limit exchange rate flexibility, while at the same time facing large and growing international capital flows. This paper analyzes the impact of the trilemma on China's monetary policy as the country liberalizes its goods and financial markets and integrates with the world economy. It shows how China has sought to insulate its reserve money from the effects of balance of payments inflows by sterilizing through the issuance of central bank liabilities. However, we report empirical results indicating that sterilization dropped precipitously in 2006 in the face of the ongoing massive buildup of international reserves, leading to a surge in reserve money growth. We estimate a vector error correction model linking the surge in China's reserve money to broad money, real GDP, and the price level. We use this model to explore the inflationary implications of different policy scenarios. Under a scenario of continued rapid reserve money growth (consistent with limited sterilization of foreign exchange reserve accumulation) and strong economic growth, the model predicts a rapid increase in inflation. A model simulation using an extension of the framework that incorporates recent increases in bank reserve requirements also implies a rapid rise in inflation. By contrast, model simulations incorporating a sharp slowdown in economic growth lead to less inflation pressure even with a substantial buildup in international reserves. |
| Date: | 2008–12 |
| URL: | http://d.repec.org/n?u=RePEc:hkm:wpaper:252008&r=opm |
| By: | Kang Shi (The Chinese University of Hong Kong); Juanyi Xu (Hong Kong University of Science and Technology) |
| Abstract: | This paper explores the determination of the optimal currency basket in a small open economy general equilibrium model with sticky prices. In contrast to traditional literature, we focus on an economy with vertical trade, where one currency is used as the invoicing currency of imported intermediate goods and is called the "input currency", while the other currency is used for the invoicing of exported finished goods and is called the "output currency". We find that in the optimal currency basket the weight between the input currency and the output currency depends critically on the structure of vertical trade. Moreover, we show that if a country decides to choose a single-currency peg, then the choice of pegging currency depends mainly on how other economies respond to external exchange rate fluctuations. In a sense, our paper provides a case for the Chinese RMB peg in some East Asian economies, given the importance of the RMB as an input currency. |
| Keywords: | Input Currency, Output Currency, Currency Basket Peg, Welfare |
| JEL: | F3 F4 |
| Date: | 2008–09 |
| URL: | http://d.repec.org/n?u=RePEc:hkm:wpaper:172008&r=opm |
| By: | Jean Imbs (HEC Lausanne); Isabelle Mˆmjean (Ecole Polytechnique) |
| Abstract: | Estimates of the elasticity of substitution between domestic and foreign varieties are small in macroeconomic data, but substantially larger in disaggregated microeconomic studies. This may be an artifact of heterogeneity. We use disaggregated multilateral trade data to structurally identify elasticities of substitution in US goods. We spell out a partial equilibrium model to aggregate them adequately at the country level. We compare aggregate elasticities that impose equality across sectors, to estimates allowing for heterogeneity. The former are similar in value to conventional macroeconomic estimates; but they are more than twice larger -up to 5 - with heterogeneity. The parameter is central to calibrated models in most of international economics. We discuss the difference our corrected estimate makes in various areas of international economics, including the dynamics of external balances, the international transmission of shocks, international portfolio choice and optimal monetary policy. |
| Keywords: | Trade Elasticities, Aggregation, Calibration, Global Imbalances, International Transmission, International Portfolio, Monetary Policy |
| JEL: | F41 F32 F21 |
| Date: | 2008–12 |
| URL: | http://d.repec.org/n?u=RePEc:hkm:wpaper:242008&r=opm |
| By: | Soyoung Kim (Korea University); Jaewoo Lee (International Monetary Fund) |
| Abstract: | This paper investigates international macroeconomic fluctuations in light of NOEM (New Open Economy Macroeconomics) models. A model with four major economic disturbances (technology shocks, labor supply shocks, preference shocks, and nominal shocks) is analytically solved to derive theoretical long-run identification restrictions. These restrictions are used to estimate a structural VAR model for the three largest economies (the U.S., the Euro Area, and Japan) over the post Bretton Woods period. The main findings are: (1) the signs of the dynamic responses are mostly consistent with theoretical predictions; (2) supply-side shocks (technology and labor supply shocks) explain most of the fluctuations in cross-country output deviations; (3) preference shocks are the dominant source of real exchange rate fluctuations; and (4) productivity shocks played a prominent role in the recent global imbalances (large U.S. external deficit), while the current account has usually been influenced by all four shocks, with no single shock dominant in all periods. |
| Keywords: | New Open Economy Macroeconomics, Structural VAR |
| JEL: | F4 |
| Date: | 2008–12 |
| URL: | http://d.repec.org/n?u=RePEc:hkm:wpaper:232008&r=opm |
| By: | Yu Sheng (The Australian National University); Xinpeng Xu (The Hong Kong Polytechnic University) |
| Abstract: | We extend the classic Balassa-Samuelson model to an environment with search unemployment. We show that the classic Balassa-Samuelson model with the assumption of full employment emerges as a special case of our more generalized model. In our generalized model, the degree of labor market rigidities affects the strength of the structural relationship between real exchange rate and sectoral productivity and in some circumstances, the standard Balassa-Samuelson effect may not hold. Empirical evidence supports our theory: controlling for the difference in labor market rigidities across countries provides a better fit in estimating the Balassa-Samuelson effect. |
| Keywords: | The Balassa-Samuelson Model, Search Unemployment, Labor Market Rigidities |
| JEL: | F16 F31 J64 |
| Date: | 2009–02 |
| URL: | http://d.repec.org/n?u=RePEc:hkm:wpaper:092009&r=opm |
| By: | Stéphane Dées (European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany.); Arthur Saint-Guilhem (European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany.) |
| Abstract: | This paper aims at assessing the role of the United States in the global economy and its evolution over time. The emergence of large economic players, like China, is likely to have weakened the role of the U.S. economy as a driver of global growth. Based on a Global VAR modelling approach, this paper shows first that the transmission of U.S. cyclical developments to the rest of the world tends to fluctuate over time but remains large overall. Second, although the size of the spillovers might have decreased in the most recent periods, the effects of changes in U.S. economic activity seem to have become more persistent. Actually, the increasing economic integration at the world level is likely to have fostered second-round and third-market effects, making U.S. cyclical developments more global. Finally, the slightly decreasing role of the U.S. has been accompanied by an increasing importance of third players. Regional integration might have played a significant role by giving more weights to non-U.S. trade partners in the sensitivity of the various economies to their international environment. JEL Classification: E32, E37, F41. |
| Keywords: | International transmission of shocks, Business cycle, Global VAR (GVAR). |
| Date: | 2009–03 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:200901034&r=opm |
| By: | Stefan Ried |
| Abstract: | In this paper, the following question is posed: Can the New Keynesian Open Economy Model by Galí and Monacelli (2005b) explain “Six Major Puzzles in International Macroeconomics”, as documented in Obstfeld and Rogoff (2000b)? The model features a small open economy with complete markets, Calvo sticky prices and monopolistic competition. As extensions, I explore the effects of an estimated Taylor rule and additional trade costs. After translating the six puzzles into moment conditions for the model, I estimate the five most effective parameters using simulated method of moments (SMM) to fit the moment conditions implied by the data. Given the simplicity of the model, its fit is surprisingly good: among other things, the home bias puzzles can easily be replicated, the exchange rate volatility is formidably increased and the exchange rate correlation pattern is relatively close to realistic values. Trade costs are one important ingredient for this finding. |
| Keywords: | International Macroeconomics, New Keynesian open economy model, trade costs, simulated method of moments (SMM) |
| JEL: | F41 F42 E52 |
| Date: | 2009–04 |
| URL: | http://d.repec.org/n?u=RePEc:hum:wpaper:sfb649dp2009-020&r=opm |
| By: | Calderon, Cesar; Kubota, Megumi |
| Abstract: | The"New Open Economy Macroeconomics"argues that: (a) non-monetary factors have gained importance in explaining exchange rate volatility, and (b) trade and financial openness may have a potential role of mitigating and/or amplifying real and nominal shocks to real exchange rates. The goal of the present paper is to examine the ability of trade and financial openness to exacerbate or mitigate real exchange rate volatility. The authors collected information on the real effective exchange rate, its fundamentals, and (outcome and policy measures of) trade and financial openness for a sample of industrial and developing countries for the period 1975-2005. Using instrumental variables techniques, the analysis finds that: (a) High real exchange rate volatility is the result of highly volatile productivity shocks, and sharp oscillations in monetary and fiscal policy shocks. (b) Countries more integrated with international markets of goods and services tend to display more stable real exchange rate fluctuations. (c) Financial openness seems to amplify the fluctuations in real exchange rates. (d) The composition of trade and capital flows plays a role in explaining the smoothing properties of trade and financial openness. Although the former is mainly driven by manufacturing trade, the latter depends on the share of debt (and equity) in total foreign liabilities. (e) Financial openness would attenuate (magnify) real exchange rate volatility, the greater the share of equity (debt) in foreign liabilities. (f) The composition of flows also matters for explaining the smoothing properties of trade and financial openness in periods of currency crisis. |
| Keywords: | Emerging Markets,Debt Markets,Currencies and Exchange Rates,Economic Theory&Research,Economic Conditions and Volatility |
| Date: | 2009–04–01 |
| URL: | http://d.repec.org/n?u=RePEc:wbk:wbrwps:4896&r=opm |
| By: | Roland Straub (European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany.); Christian Thimann (European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany.) |
| Abstract: | This paper sheds new light on the external and domestic dimension of China’s exchange rate policy. It presents an open economy model to analyse both dimensions of macroeconomic adjustment in China under both flexible and fixed exchange rate regimes. The model-based results indicate that persistent current account surpluses in China cannot be rationalized, under general circumstances, by the occurrence of permanent technology or labour supply shocks. As a result, the understanding of the macroeconomic adjustment process in China requires to mimic the effects of potential inefficiencies, which induce the subdued response of domestic absorption to permanent income shocks causing thereby the observed positive unconditional correlation of trade balance and output. The paper argues that these inefficiencies can be potentially seen as a by-product of the fixed exchange rate regime, and can be approximated by a stochastic tax on domestic consumption or time varying transaction cost technology related to money holdings. Our results indicate that a fixed exchange regime with financial market distortions, as defined above, might induce negative effects on GDP growth in the medium-term compared to a more flexible exchange rate regime. JEL Classification: E32, E62. |
| Keywords: | DSGE modelling, China, current account. |
| Date: | 2009–03 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:200901040&r=opm |
| By: | Schmitz, Birgit; von Hagen, Jürgen |
| Abstract: | While the current account of euro area as a whole has remained almost balanced in the past two decades, several member countries have sizeable deficits or surpluses. In this paper, we interpret these imbalances as indicators of net capital flows among the euro-area countries and show that these net flows follow differences in per-capita incomes. Our results show that the elasticity with respect to per-capita incomes of net capital flows between euro-area countries and the euro area has increased. This is not the case for net capital flows between non-euro area countries and the euro area, nor for euro-area countries and the rest of the world. We interpret this as evidence for increasing financial integration in the euro area. There is also some evidence suggesting that the introduction of the euro has lead to some financial diversion. |
| Keywords: | Current Account Imbalances; European Monetary Union; Financial Integration |
| JEL: | F21 F33 F34 F36 |
| Date: | 2009–04 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:7262&r=opm |
| By: | Riccardo DiCecio; Edward Nelson |
| Abstract: | Developments in open-economy modeling, and the accumulation of experience with the monetary policy regimes prevailing in the United Kingdom and the euro area, have increased our ability to evaluate the effects that joining monetary union would have on the U.K. economy. This paper considers the debate on the United Kingdom's monetary policy options using a structural open-economy model. We use the Erceg, Gust, and L¢pez-Salido (EGL) (2007) model to explore both the existing U.K. regime (CPI inflation targeting combined with a floating exchange rate), and adoption of the euro, as monetary policy options for the United Kingdom. Experiments with a baseline estimated version of the model suggest that there is improved stability for the U.K. economy with monetary union. Once large differences in the degree of nominal rigidity across economies are considered, the balance tilts toward the existing U.K. monetary policy regime. The improvement in U.K. economic stability under monetary union also diminishes if imports from the euro area are modeled as primarily intermediates instead of finished goods; or if we assume that the pressures reflected in foreign exchange market shocks, instead of vanishing with monetary union, are now manifested as an additional source of disturbances to domestic aggregate spending. |
| Keywords: | Monetary policy - European Union countries ; Monetary policy - Great Britain ; Great Britain |
| Date: | 2009 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedlwp:2009-12&r=opm |
| By: | Melander, Ola (Dept. of Economics, Stockholm School of Economics) |
| Abstract: | This paper studies the effects of real exchange rate (RXR) shocks in an economy with extreme liability dollarization using vector autoregression (VAR) methods. Bolivia's extreme liability dollarization makes it an interesting case for empirical testing of the contractionary-depreciations hypothesis. In contrast to the previous contractionary-depreciations literature, the paper uses identification assumptions which are inspired by modern macroeconomic theory and common in the empirical VAR literature on the effects of monetary policy. I find that a RXR depreciation has negligible effects on output, since a contractionary balance-sheet effect on investment is counteracted by the standard expansionary effect on net exports. Furthermore, I find that a RXR depreciation has inflationary effects. |
| Keywords: | Real exchange rate; VAR; liability dollarization; balance sheet effects; contractionary depreciation |
| JEL: | E44 F41 G15 |
| Date: | 2009–04–17 |
| URL: | http://d.repec.org/n?u=RePEc:hhs:hastef:0715&r=opm |
| By: | Kwalingana, Samson; Nkuna, Onelie |
| Abstract: | Persistent current account imbalances in many least developed and emerging countries have excited considerable interest among researchers and policy makers to have a clear understanding of the dynamics of the current account and its role in macroeconomic outcomes. Based on the saving-investment theory, this paper uses cointegration analysis to identify the long run and short-run determinants of Malawi’s current account deficit using annual data from 1980 to 2006. Results suggest that openness, terms of trade, external debt accumulation, and current account liberalization fundamentally determined the current account deficit in Malawi. Furthermore, results reveal that these deficits have been, to a large extent, persistent. |
| Keywords: | Current Account Balance; Saving-Investment Balances;Cointegration |
| JEL: | F0 |
| Date: | 2009–04 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:14694&r=opm |