|
on Open MacroEconomics |
| By: | David Cook; Michael B. Devereux |
| Abstract: | With integrated trade and financial markets, a collapse in aggregate demand in a large country can cause "natural real interest rates" to fall below zero in all countries, giving rise to a global "liquidity trap." This paper explores the optimal policy response to this type of shock, when governments cooperate on both fiscal and monetary policy. Adjusting to a large negative demand shock requires raising world aggregate demand, as well as redirecting demand towards the source (home) country. ; The key feature of demand shocks in a liquidity trap is that relative prices respond perversely. A negative shock causes an appreciation of the home terms of trade, exacerbating the slump in the home country. At the zero bound, the home country cannot counter this shock. Because of this, it may be optimal for the foreign policymaker to raise interest rates. ; Strikingly, the foreign country may choose to have a positive policy interest rate, even though its natural real interest rate is below zero. A combination of relatively tight monetary policy in the foreign country combined with substantial fiscal expansion in the home country achieves the desired mix in terms of the level and composition of world expenditure. Thus, in response to conditions generating a global liquidity trap, there is a critical mutual interaction between monetary and fiscal policy. |
| Keywords: | Monetary policy ; Fiscal policy ; Interest rates |
| Date: | 2011 |
| URL: | http://d.repec.org/n?u=RePEc:fip:feddgw:84&r=opm |
| By: | Laura Alfaro (Harvard Business School, and NBER); Sebnem Kalemli-Ozcan (Koc University, University of Houston, CEPR, and NBER); Vadym Volosovych (Erasmus University Rotterdam, and ERIM) |
| Abstract: | We decompose capital flows--both debt and equity--into public and private components and study their relationship with productivity growth. This exercise reveals that international capital flows are mainly shaped by government decisions and sovereign to sovereign transactions. Specifically, we show: (i) international capital flows net of government debt are positively correlated with growth and allocated according to the neoclassical predictions; (ii) international capital flows net of official aid flows, which are mostly accounted as debt, are also positively correlated with productivity growth consistent with the predictions of the neoclassical model; (iii) public debt flows are negatively correlated with growth only if government debt is financed by another sovereign and not by private lenders. Our results show that the failure to consider official flows as the main driver of uphill flows and global imbalances is an important shortcoming of the recent literature. |
| Keywords: | current account; aid/government debt; reserves; puzzles of flows; productivity |
| JEL: | F21 F41 O1 |
| Date: | 2011–09–05 |
| URL: | http://d.repec.org/n?u=RePEc:dgr:uvatin:20110126&r=opm |
| By: | Domenico Ferraro; Ken Rogoff; Barbara Rossi |
| Abstract: | This paper investigates whether oil prices have a reliable and stable out-of-sample relationship with the Canadian/U.S. dollar nominal exchange rate. Despite state-of-the-art methodologies, the authors find little systematic relation between oil prices and the exchange rate at the monthly and quarterly frequencies. In contrast, the main contribution is to show the existence of a very short-term relationship at the daily frequency, which is rather robust and holds no matter whether the authors use contemporaneous (realized) or lagged oil prices in their regression. However, in the latter case the predictive ability is ephemeral, mostly appearing after instabilities have been appropriately taken into account. |
| Keywords: | Foreign exchange rates ; Economic forecasting |
| Date: | 2011 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedpwp:11-34&r=opm |
| By: | Christoph Fischer |
| Abstract: | Based on a classification of countries and territories according to their regime and anchor currency choice, the study considers the two major currency blocs of the present world. A nested logit regression suggests that long-term structural economic variables determine a given country's currency bloc affiliation. The dollar bloc differs from the euro bloc in that there exists a group of countries that peg temporarily to the U.S. dollar without having close economic affinities with the bloc. The estimated parameters are consistent with an additive random utility model interpretation. A currency bloc equilibrium in the spirit of Alesina and Barro (2002) is derived empirically. |
| Keywords: | Foreign exchange ; International finance |
| Date: | 2011 |
| URL: | http://d.repec.org/n?u=RePEc:fip:feddgw:87&r=opm |
| By: | Karen K. Lewis |
| Abstract: | Financial markets have become increasingly global in recent decades, yet the pricing of internationally traded assets continues to depend strongly upon local risk factors, leading to several observations that are difficult to explain with standard frameworks. Equity returns depend upon both domestic and global risk factors. Further, local investors tend to overweight their asset portfolios in local equity. The stock prices of firms that begin to trade across borders increase in response to this information.> ; Foreign exchange markets also display anomalous relationships. The forward rate predicts the wrong sign of future movements in the exchange rate, implying that traders can make profits by borrowing in lower interest rate currencies and investing in higher interest rate currencies. Furthermore, the sign of the foreign exchange premium changes over time, a fact difficult to reconcile with consumption variability. In this review, I describe the implications of the current body of research for addressing these and other global asset pricing challenges. |
| Keywords: | Asset pricing ; Financial markets |
| Date: | 2011 |
| URL: | http://d.repec.org/n?u=RePEc:fip:feddgw:88&r=opm |
| By: | Thorvardur Tjörvi Ólafsson; Ásgerdur Pétursdóttir; Karen Á. Vignisdóttir |
| Abstract: | This price setting survey among Icelandic firms aims to make two contributions to the literature. First, it studies price setting in an advanced economy within a more turbulent macroeconomic environment than has previously been done. The results indicate that price adjustments are to a larger extent driven by exchange rate fluctuations than in most other advanced countries. The median Icelandic firm reviews its prices every four months and changes them every six months. The main sources of price rigidity and the most commonly used price setting methods are the same as in most other countries. A second contribution to the literature is our analysis of the nexus between price setting and exchange rate movements, a topic that has attracted surprisingly limited attention in this survey-based literature. A novel aspect of our approach is to base our analysis on a categorisation of firms in the domestic market by their direct exposure to exchange rate movements captured by imported input costs as a share of total production costs. More exposed firms are found to be more likely to use state-dependent pricing, to adjust their prices in response to exchange rate changes, and to rely on increasing prices rather than decreasing costs to restore profit margins after an exchange rate depreciation. They also review their prices more often but nevertheless, surprisingly, have the same price change frequency as the median firm. On the other hand, price review frequency declines and time-dependent pricing increases as domestic labour costs rise relative to total production costs. The results provide important insight into inflation dynamics due to an interaction between high and asymmetric exchange rate pass-through and price indexation. This interaction causes an exchange rate depreciation to spread to sectors less exposed to such changes through the use of price indexation. Exchange rate pass-through, price indexation and backward-looking behaviour in price setting therefore pose challenges for monetary policy in Iceland. |
| Date: | 2011–07 |
| URL: | http://d.repec.org/n?u=RePEc:ice:wpaper:wp54&r=opm |
| By: | Laura Alfaro; Sebnem Kalemli-Ozcan; Vadym Volosovych |
| Abstract: | We decompose capital flows – both debt and equity – into public and private components and study their relationship with productivity growth. This exercise reveals that international capital flows are mainly shaped by government decisions and sovereign to sovereign transactions. Specifically, we show: (i) international capital flows net of government debt are positively correlated with growth and allocated according to the neoclassical predictions; (ii) international capital flows net of official aid flows, which are mostly accounted as debt, are also positively correlated with productivity growth consistent with the predictions of the neoclassical model; (iii) public debt flows are negatively correlated with growth only if government debt is financed by another sovereign and not by private lenders. Our results show that the failure to consider official flows as the main driver of uphill flows and global imbalances is an important shortcoming of the recent literature. |
| JEL: | F2 F41 O1 |
| Date: | 2011–09 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:17396&r=opm |
| By: | Rose, Andrew K; Spiegel, Mark |
| Abstract: | While the global financial crisis was centered in the United States, it led to a surprising appreciation in the dollar, suggesting global dollar illiquidity. In response, the Federal Reserve partnered with other central banks to inject dollars into the international financial system. Empirical studies of the success of these efforts have yielded mixed results, in part because their timing is likely to be endogenous. In this paper, we examine the cross-sectional impact of these interventions. Theory consistent with dollar appreciation in the crisis suggests that their impact should be greater for countries that have greater exposure to the United States through trade and financial channels, less transparent holdings of dollar assets, and greater illiquidity difficulties. We examine these predictions for observed cross-sectional changes in CDS spreads, using a new proxy for innovations in perceived changes in sovereign risk based upon Google-search data. We find robust evidence that auctions of dollar assets by foreign central banks disproportionately benefited countries that were more exposed to the United States through either trade linkages or asset exposure. We obtain weaker results for differences in asset transparency or illiquidity. However, several of the important announcements concerning the international swap programs disproportionately benefited countries exhibiting greater asset opaqueness. |
| Keywords: | dollar; exchange rate; Federal Reserve; financial crisis; illiquidity; swap; TAF |
| JEL: | E44 E58 F31 F33 F41 F42 G15 O24 |
| Date: | 2011–09 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:8557&r=opm |
| By: | Raphael Auer; Philip Saure |
| Abstract: | Why has Swiss export performance been so strong during the past quarters despite the strong appreciation of the CHF? In this paper, we use historical data on exchange rates and trade at the sectoral level to document that a contributing factor behind the limited impact of the exchange rate is the unique composition of Swiss exports. In particular, we document that the Swiss export basket is heavily concentrated in price-insensitive goods such as machinery or pharmaceuticals, where prices and thus the exchange rate have relatively little importance for demand. This makes the aggregate volume of Swiss exports less responsive to exchange rate changes than exports of other OECD nations. |
| Keywords: | International trade ; International economic relations |
| Date: | 2011 |
| URL: | http://d.repec.org/n?u=RePEc:fip:feddgw:77&r=opm |
| By: | Jan Babecky; Ales Bulir; Katerina Smidkova |
| Abstract: | The Great Recession affected export and import patterns in our sample of new EU member countries, and these changes, coupled with a more volatile external environment, have a profound impact on our estimates of real exchange rate misalignments and projections of sustainable real exchange rates. We find that real misalignments in several countries with pegged exchange rates and excessive external liabilities widened relative to earlier estimates. While countries with balanced net trade positions may experience sustainable appreciation during 2010–2014, several currencies are likely to require real depreciation to maintain sustainable net external debt. |
| Keywords: | Foreign direct investment, Great Recession, new EU member states, sustainable exchange rates. |
| JEL: | F31 F33 F36 F47 |
| Date: | 2011–08 |
| URL: | http://d.repec.org/n?u=RePEc:cnb:wpaper:2011/01&r=opm |
| By: | Laura Fernández-Caballero (Banco de España) |
| Abstract: | We analyse the impact of fiscal shocks on the Spanish effective exchange rate over the period 1981-2008 using a standard structural VAR framework. We show that government spending brings about positive output responses, jointly with real appreciation. Such real appreciation is explained by persistent nominal appreciation and higher relative prices. Our results indicate that the adoption of the common currency has not implied any significant change in the way fiscal shocks affect external competitiveness through their effect on relative prices. In turn, the current account deteriorates when government spending rises mainly due to the fall of exports caused by the real appreciation. Accordingly, our results in this regard are largely consistent not only with the conventional Mundell Fleming model and, in general a traditional Keynesian view, but also with a wide set of RBC or New Keynesian models under standard calibrations. Moreover, our estimations are fully in line with the “twin deficits” hypothesis. Furthermore, we show that shocks to purchases of goods and services and public investment lead to real appreciation, whereas the opposite happens with higher personnel expenditure. We obtain output multipliers around 0.5 on impact and slightly above unity one year after the shock, which are in line with previous empirical evidence regarding some individual European countries. |
| Keywords: | SVAR, Fiscal shocks, Effective exchange rates, Twin deficits, Fiscal multipliers |
| JEL: | E62 H30 |
| Date: | 2011–09 |
| URL: | http://d.repec.org/n?u=RePEc:bde:wpaper:1121&r=opm |
| By: | Hakan Yilmazkuday |
| Abstract: | The effects of oil shocks on output volatility through international transport costs are investigated in an open-economy DSGE model. Two versions of the model, with and without international transport costs, are structurally estimated for the U.S. economy by a Bayesian approach for moving windows of ten years. For model selection, the posterior odds ratios of the two versions are compared for each ten-year window. The version with international transport costs is selected during periods of high volatility in crude oil prices. The contribution of international transport costs to the volatility of U.S. GDP has been estimated as high as 36 percent during periods of oil crises. |
| Keywords: | Monetary policy ; International trade |
| Date: | 2011 |
| URL: | http://d.repec.org/n?u=RePEc:fip:feddgw:82&r=opm |
| By: | Filipa Sá; Tomasz Wieladek |
| Abstract: | We estimate an open economy VAR model to quantify the effect of monetary policy and capital inflows shocks on the US housing market. The shocks are identified with sign restrictions derived from a standard DSGE model. We find that monetary policy shocks have a limited effect on house prices and residential investment. In contrast, capital inflows shocks driven by an increase in foreign savings have a positive and persistent effect on both housing variables. Other sources of capital inflows shocks, such as foreign monetary expansion or an increase in aggregate demand in the US, have a more limited role. |
| Keywords: | Monetary policy ; Money supply ; International finance |
| Date: | 2011 |
| URL: | http://d.repec.org/n?u=RePEc:fip:feddgw:80&r=opm |
| By: | Mohsin, Hasan M; Gilbert, Scott |
| Abstract: | The study estimates relative city price convergence using CPI data from July 2001 to June 2008 on 35 Pakistani cities. Two cities Lahore and Karachi are chosen to be the numeraire cities. The half life of relative city price shock has also been estimated. The study finds average half life of price shock to be less than 5 months but it varies from 1.3 to 68 months in the case of individual cities. The estimates of Spatial GLS are found to be lower than OLS which may imply that Spatial Correlations are important factor for the estimation of half life. Furthermore, the average half life of a price shock in Lahore is less than that of Karachi. |
| Keywords: | Prices; convergence; Spatial GLS |
| JEL: | F4 R1 E31 |
| Date: | 2010–12–10 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:27901&r=opm |