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on Open Economy Macroeconomic |
| By: | Joseph E. Gagnon (Peterson Institute for International Economics) |
| Abstract: | Official purchases of foreign assets--a broad definition of currency intervention--are strongly correlated with current account (trade) imbalances. Causality runs in both directions, but statistical analysis using instrumental variables reveals that the effect of official asset purchases on current accounts is very large. A country’s current account balance increases between 60 and 100 cents for each dollar spent on intervention. This is a much larger effect than is widely assumed. These results raise serious questions about the efficiency of international financial markets. |
| Keywords: | current account, financial flows, foreign exchange reserves |
| JEL: | F30 F31 F32 |
| Date: | 2013–03 |
| URL: | http://d.repec.org/n?u=RePEc:iie:wpaper:wp13-2&r=opm |
| By: | Javier Bianchi; Juan Carlos Hatchondo; Leonardo Martinez |
| Abstract: | Two striking facts about international capital flows in emerging economies motivate this paper: (1) Governments hold large amounts of international reserves, for which they obtain a return lower than their borrowing cost. (2) Purchases of domestic assets by nonresidents and purchases of foreign assets by residents are both procyclical and collapse during crises. We propose a dynamic model of endogenous default that can account for these facts. The government faces a trade-off between the benefits of keeping reserves as a buffer against rollover risk and the cost of having larger gross debt positions. Long-duration bonds, the countercyclical default premium, and sudden stops are important for the quantitative success of the model. |
| Keywords: | Economic growth ; Business cycles ; Financial markets ; Financial institutions |
| Date: | 2013 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedrwp:13-01&r=opm |
| By: | Leif Anders Thorsrud (BI Norwegian Business School and Norges Bank) |
| Abstract: | We study the synchronization of real and nominal variables across four different regions of the world, Asia, Europe, North and South America, covering 32 different countries. Employing a FAVAR framework, we distinguish between global and regional demand and supply shocks and document the relative contributions of these shocks to explaining macroeconomic fluctuations and synchronization. Our results support the decoupling hypothesis advanced in recent business cycle studies and yields new insights regarding the causes of business cycle synchronization. In particular, global supply shocks cause more severe activity fluctuations in European and North American economies than in Asian and South American economies, whereas global demand shocks shift activity in the different regions in opposite directions at longer horizons. Furthermore, demand shocks play a larger role than that found in related studies. Finally, only innovations to the Asian activity and price factors have significant spillover effects on shared global factors, demonstrating the growing importance of Asia in the global economy. |
| Keywords: | Business cycles, Factor model, Globalization, International macro |
| JEL: | C11 C38 F41 F44 |
| Date: | 2013–02–27 |
| URL: | http://d.repec.org/n?u=RePEc:bno:worpap:2013_08&r=opm |
| By: | Elisabeth Beusch; Barbara Döbeli; Andreas M. Fischer; Pinar Yesin |
| Abstract: | Merchanting is goods trade that does not cross the border of the firm's resident country. Merchanting grew strongly in the last decade in select small open economies and has become an important driver of these countries' current account. Because merchanting firms reinvest their earnings abroad to expand their international activities, this practice raises national savings in the home country without increasing domestic investment. This results in a significantly large current account surplus. To show the empirical links between merchanting and the current account, two exercises are performed in this paper. The first exercise estimates the savings impact of merchanting countries in empirical models of the medium-term current account and shows that merchanting indeed increases the current account. The second exercise shows that merchanting's impact on the country's current account is sensitive to firm mobility. |
| Keywords: | Trade ; Capital movements |
| Date: | 2013 |
| URL: | http://d.repec.org/n?u=RePEc:fip:feddgw:140&r=opm |
| By: | Zhi Yu |
| Abstract: | This paper theoretically explores how exchange rate pass-through depends on firm heterogeneity in productivity and product differentiation in quality. Using an extended version of the Melitz and Ottaviano (2008) model, I show that exporting firms absorb exchange rate changes by adjusting both their markups and product quality, which leads to an incomplete exchange rate pass-through. Moreover, the absolute value of exchange rate absorption elasticity (the percentage change in the export prices denominated in the currency of the exporting country in response to a one percent change in the exchange rate rate) negatively depends on firm productivity for products with high scope for quality differentiation, but positively depends on firm productivity for products with low scope for quality differentiation. |
| Keywords: | Trade ; Markets |
| Date: | 2013 |
| URL: | http://d.repec.org/n?u=RePEc:fip:feddgw:141&r=opm |
| By: | Stavarek, Daniel |
| Abstract: | We present empirical evidence on the business cycle relationship between nominal and real effective exchange rate, real GDP, consumption, investment, export, import and general government debt for a group of ten countries from the Central and Eastern Europe. We apply cross-correlation on cyclically filtered and seasonally adjusted quarterly time series over the period 1998-2010. The results are mixed in intensity, direction and cyclicality but show generally weak correlation between exchange rates and fundamentals. Sufficiently high coefficients are found only for government debt and import. We also apply simple regressions to relate the correlation to openness and welfare of the economy. The correlation between exchange rates and macroeconomic aggregates tends to be more pronounced in less open and relatively poorer countries. |
| Keywords: | business cycle; cross correlation; exchange rate; macroeconomic fundamental; openness; wealth |
| JEL: | E32 E44 F31 |
| Date: | 2013–03–21 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:45327&r=opm |
| By: | Mario J. Crucini; J. Scott Davis |
| Abstract: | International business-cycle models assume that home and foreign goods are poor substitutes. International trade models assume they are close substitutes. This paper constructs a model where this discrepancy is due to frictions in distribution. Imports need to be combined with a local non-traded input, distribution capital, which is slow to adjust. As a result, imported and domestic goods appear as poor substitutes in the short run. In the long run this non-traded input can be reallocated, and quantities can shift following a change in relative prices. Thus the observed substitutability between home and foreign goods gets larger as time passes. |
| Keywords: | International trade |
| Date: | 2013 |
| URL: | http://d.repec.org/n?u=RePEc:fip:feddgw:137&r=opm |
| By: | Andres Fernandez; Juan Herreno |
| Abstract: | Financial crises in both emerging and developed economies have been characterized by large output drops and spikes in unemployment and interest rates. To account for these stylized facts this paper builds a business cycle model where financial and labor market frictions interact as occasionally binding borrowing constraints and search frictions. The model is calibrated to a Sudden Stop-prone emerging economy and also to some peripheral European economies in the recent crisis. The model accounts for unemployment dynamics both during crises and at regular business cycle frequencies. The paper also assesses the welfare implications of policies that reduce real minimum wages during crises. |
| JEL: | E32 E44 F41 |
| Date: | 2013–02 |
| URL: | http://d.repec.org/n?u=RePEc:idb:wpaper:idb-wp-390&r=opm |
| By: | Bianca De Paoli; Anna Lipinska |
| Abstract: | Countries' concerns about the value of their currency have been studied and documented extensively in the literature. Capital controls can be—and often are—used as a tool to manage exchange rate fluctuations. This paper investigates whether countries can benefit from using such a tool. We develop a welfare-based analysis of whether (or, in fact, how) countries should tax international borrowing. Our results suggest that restricting international capital flows through the use of these taxes can be beneficial for individual countries, although it would limit cross-border pooling of risk. The reason is because, while consumption risk-pooling is important, individual countries also care about domestic output fluctuations. Moreover, the results show that countries decide to restrict the international flow of capital exactly when this flow is crucial to ensure cross-border risk sharing. Our findings point to the possibility of costly "capital control wars" and thus to significant gains from international policy coordination. |
| Keywords: | Foreign exchange rates ; Devaluation of currency ; Taxation ; Capital movements ; Risk |
| Date: | 2013 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fednsr:600&r=opm |
| By: | Jon Frost; Ayako Saiki |
| Abstract: | We explore the role of financial openness – capital account openness and gross capital inflows – and a newly constructed gravity-based contagion index to assess the importance of these factors in the run-up to currency crises. Using a quarterly data set of 46 advanced and emerging market economies (EMEs) during the period 1975Q1-2011Q4, we estimate a multi-variable probit model including in the post-Lehman period. Our key findings are as follows. First, capital account openness is a robust indicator, reducing the probability of currency crisis for advanced economies, but less so for EMEs. Second, surges in gross (but not net) capital inflows in general increase the risk of a currency crisis, but looking at a disaggregated level, gross portfolio flows increase the risk of a currency crisis for advanced economies, whereas gross FDI inflows decrease the risk of a crisis for EMEs. Third, contagion has a very strong impact, consistent with the past literature, especially during the post-Lehman shock episode. Last, our model performs well out-of-sample, confirming that early warning models were helpful in judging relative vulnerability of countries during and since the Lehman crisis. |
| Keywords: | Currency crisis; early warning; financial stability; capital account openness; capital flows; contagion; exchange rate regime |
| JEL: | F31 F32 F33 F41 G10 G15 |
| Date: | 2013–03 |
| URL: | http://d.repec.org/n?u=RePEc:dnb:dnbwpp:373&r=opm |
| By: | Kirstin Hubrich (European Central Bank); Antonello D’Agostino (European Stability Mechanism); Marianna Cervená (Magyar Nemzeti Bank); Matteo Ciccarelli (European Central Bank); Paolo Guarda (Banque centrale du Luxembourg); Markus Haavio (Suomen Pankki); Philippe Jeanfils (National Bank of Belgium); Caterina Mendicino (Banco de Portugal); Eva Ortega (Banco de España); Maria Teresa Valderrama (Oesterreichische Nationalbank); Marianna Valentinyiné Endrész (Magyar Nemzeti Bank) |
| Abstract: | This paper analyses the transmission of financial shocks to the macroeconomy. The role of macro-financial linkages is investigated from an empirical perspective for the euro area as a whole, for individual euro area member countries and for other EU and OECD countries. The following key economic questions are addressed: 1) Which financial shocks have the largest impact on output over the full sample on average? 2) Are financial developments leading real activity? 3) Is there heterogeneity or a common pattern in macro-financial linkages across the euro area and do these linkages vary over time? 4) Do cross-country spillovers matter? 5) Is the transmission of financial shocks different during episodes of high stress than it is in normal times, i.e. is there evidence of non-linearities? In summary, it is found that real asset prices are significant leading indicators of real activity whereas the latter leads loan developments. Furthermore, evidence is presented that macro-financial linkages are heterogeneous across countries – despite persistent commonalities – and time-varying. Moreover, they differ between euro area and other countries. Results also indicate that cross-country spillovers matter. Finally, important non-linearities in the transmission of financial shocks are documented, as the evidence suggests that the transmission differs in episodes of high stress compared with normal times. JEL Classification: E 440, E320, C320 |
| Keywords: | macro-financial linkages, financial shocks, lead-lag relationships, heterogeneity, cross-country spillovers, non-linearities |
| Date: | 2013–02 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbops:20130143&r=opm |
| By: | Gächter, Martin (BOFIT); Riedl , Aleksandra (BOFIT); Ritzberger-Grünwald, Doris (BOFIT) |
| Abstract: | We analyze business cycle convergence in the EU by focusing on the decoupling vs. convergence hypothesis for central, eastern and south eastern Europe (CESEE). In a nutshell, we fnd that business cycles in CESEE have decoupled considerably from the euro area (EA) during the financial crisis in terms of both cyclical dispersion (i.e. the deviation of output gaps) and cyclical correlation. The results are mainly driven by smaller countries, which can be explained by the fact that small economies seem to have larger cyclical swings as they are more dependent on external demand, which causes a decoupling in terms of higher output gap deviations from the EA cycle in times of economic crises. At the same time, this does not necessarily affect business cycle synchronization as measured by cyclical correlations, where the strength of the linear relationship of two cycles is measured. However, despite the recent declines in the co-movement, we generally observe high correlation levels of CESEE countries with the EA after their EU accession in 2004. Finally, we find a significant decoupling of trend growth rates between EA and CESEE until the onset of the financial crises. Since the beginning of the crisis, trend growth rates have declined both in CESEE and the EA with the trend growth differential decreasing significantly from about three to below two percentage points in 2011. |
| Keywords: | business cycles; EMU; CESEE; optimum currency areas |
| JEL: | E32 E52 F15 F33 F44 |
| Date: | 2013–02–05 |
| URL: | http://d.repec.org/n?u=RePEc:hhs:bofitp:2013_003&r=opm |
| By: | Constantino Hevia; Juan Pablo Nicolini |
| Abstract: | We analyze optimal policy in a simple small open economy model with price setting frictions. In particular, we study the optimal response of the nominal exchange rate following a terms of trade shock. We depart from the New Keynesian literature in that we explicitly model interna-tionally traded commodities as intermediate inputs in the production of local final goods and assume that the small open economy takes this price as given. This modification not only is in line with the long-standing tradition of small open economy models, but also changes the optimal movements in the exchange rate. In contrast with the recent small open economy New Keynesian literature, our model is able to reproduce the comovement between the nominal exchange rate and the price of exports, as it has been documented in the commodity currencies literature. Although we show there are preferences for which price stability is optimal even without flexible fiscal instruments, our model suggests that more attention should be given to the coordination between monetary and fiscal policy (taxes) in small open economies that are heavily dependent on exports of commodities. The model we propose is a useful framework in which to study fear of floating. |
| Keywords: | Monetary policy |
| Date: | 2013 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedmwp:702&r=opm |
| By: | Michael Sposi |
| Abstract: | In this paper I quantitatively address the role of trade barriers in explaining why prices of services relative to tradables are positively correlated with levels of development across countries. I argue that trade barriers play a crucial role in shaping the cross-country pattern of specialization across many heterogenous tradable goods. The pattern of specialization feeds into cross-country productivity differences in the tradables sector and is reflected in the relative price of services. I show that the existing pattern of specialization implies that the tradables-sector productivity gap between rich and poor countries is more than 80 percent larger than it would be under free trade. In turn, removing trade barriers would eliminate 64 percent of the disparity in the relative price of services between rich and poor countries, without systematically altering the cross-country pattern of the absolute price of tradables. |
| Keywords: | Economics ; Productivity |
| Date: | 2013 |
| URL: | http://d.repec.org/n?u=RePEc:fip:feddgw:139&r=opm |
| By: | Gee Hee Hong; Nicholas Li |
| Abstract: | We examine the extent to which vertical and horizontal market structure can together explain incomplete retail pass-through. To answer this question, we use scanner data from a large U.S. retailer to estimate product level pass-through for three different vertical structures: national brands, private label goods not manufactured by the retailer and private label goods manufactured by the retailer. Our findings emphasize that accounting for the interaction of vertical and horizontal structure is important in understanding how market structure affects pass-through, as a reduction in double-marginalization can raise pass-through directly but can also reduce it indirectly by increasing market share. |
| Keywords: | Inflation and prices, Transmission of monetary policy |
| JEL: | E30 E31 L11 L16 |
| Date: | 2013 |
| URL: | http://d.repec.org/n?u=RePEc:bca:bocawp:13-5&r=opm |
| By: | Michele Ca'Zorzi; Alexander Chudik |
| Abstract: | This paper studies the influence of aggregating across space when (i) testing the PPP theory or more generally pair-wise cointegration and (ii) evaluating the PPP puzzle. Our contribution is threefold: we show that aggregating foreign data and applying an ADF test may lead to erroneously reject the PPP hypothesis. We then show, on the basis of theoretical arguments as well as Monte Carlo experiments, that a sizable bias in the estimates of half-life deviations to PPP may be due to the effect of aggregation across space. We finally illustrate empirically the importance of spatial considerations when estimating the speed of price convergence among euro area countries. |
| Keywords: | Macroeconomics |
| Date: | 2013 |
| URL: | http://d.repec.org/n?u=RePEc:fip:feddgw:138&r=opm |
| By: | Guglielmo Maria Caporale; Roberta De Santis; Alessandro Girardi |
| Abstract: | Using annual bilateral data over the period 1988-2011 for a panel of 24 industrialised and emerging economies, we analyse in a time-varying framework the determinants of output synchronisation in EMU (European Monetary Union) distinguishing between core and peripheral member states. The results support the specialisation paradigm rather than the endogeneity hypothesis. Evidence is found in the euro period of diverging patterns between the core and the peripheral EMU countries raising questions about the future stability of EMU. |
| Keywords: | output synchronisation, trade intensity, endogeneity, European Monetary Union (EMU) |
| JEL: | F10 F15 F17 F4 |
| Date: | 2013 |
| URL: | http://d.repec.org/n?u=RePEc:diw:diwwpp:dp1277&r=opm |