nep-opm New Economics Papers
on Open Economy Macroeconomic
Issue of 2014‒04‒11
ten papers chosen by
Martin Berka
University of Auckland

  1. Product Introductions, Currency Unions, and the Real Exchange Rate By Roberto Rigobon; Brent Neiman; Alberto Cavallo
  2. Multi-product exporters, variable markups and exchange rate fluctuations By Mauro Caselli; Arpita Chatterjee; Alan Woodland
  3. An Incomplete Markets Explanation to the UIP Puzzle By Katrin Rabitsch
  4. Unconventional monetary policy normalization in high-income countries : implications for emerging market capital flows and crisis risks By Burns, Andrew; Kida, Mizuho; Lim, Jamus Jerome; Mohapatra, Sanket; Stocker, Marc
  5. Italy's current account sustainability:a long run perspective, 1861-2000 By Barbara Pistoresi
  6. Exchange rate and commodity price pass‐through in New Zealand By Miles Parker; Benjamin Wong
  7. Spillovers, capital flows and prudential regulation in small open economies By Armas, Adrián; Castillo, Paul; Vega, Marco
  8. A Short-Run Analysis of Exchange Rates and International Trade with an Application to Australia, New Zealand, and Japan By Anson, José; Boffa, Mauro; Helble, Matthias
  9. The Fiscal Compact and Current Account Patterns in Europe By Stefan Behrendt
  10. Macroprudential Regulation and the Role of Monetary Policy By Tayler, William; Zilberman, Roy

  1. By: Roberto Rigobon (Massachusetts Institute of Technology); Brent Neiman (University of Chicago); Alberto Cavallo (MIT)
    Abstract: We use a novel dataset of online prices of identical goods sold by four large global retailers in dozens of countries to study good-level real exchange rates and their aggregated behavior. First, in contrast to the prior literature, we demonstrate that the law of one price holds perfectly within currency unions for thousands of goods sold by each of the retailers, implying good-level real exchange rates equal to one. Prices of these same goods exhibit large deviations from the law of one price outside of currency unions, even when the nominal exchange rate is pegged. This clarifies that it is the common currency per se, rather than the lack of nominal volatility, that results in the lack of cross-country differences in the prices of these goods. Second, we use a novel decomposition to show that most of the cross-sectional variation in good-level real exchange rates reflects differences in prices at the time products are first introduced, as opposed to the component emerging from heterogeneous passthrough or from nominal rigidities during the life of the good. In fact, international relative prices measured at the time of introduction move together with the nominal exchange rate. This stands in sharp contrast to pricing behavior in models where all price rigidity for any given good is due simply to costly price adjustment for that good.
    Date: 2013
  2. By: Mauro Caselli (School of Economics, Australian School of Business, the University of New South Wales); Arpita Chatterjee (School of Economics, Australian School of Business, the University of New South Wales); Alan Woodland (School of Economics, Australian School of Business, the University of New South Wales)
    Abstract: In this paper we investigate how firms adjust markups across products in response to fluctuations in the real exchange rate. In a theoretical framework, we show that firms increase their markup and producer prices following a real depreciation and that this increase is greater for products with higher productivity, a consequence of local distribution costs. We estimate markups at the market-product-plant level using detailed panel production and cost data from Mexican manufacturing between 1994 and 2007. Exploiting variation in the real exchange rate in the aftermath of the peso crisis in December 1994, we provide robust empirical evidence that plants increase their markups and producer prices in response to a real depreciation and that within-firm heterogeneity is a key determinant of plants' response to exchange rate shocks. We also provide some evidence in favour of a local distribution cost channel of incomplete exchange rate pass-through.
    Keywords: multi-product, variable markup, exchange rate pass-through, local distribution cost, Mexico
    JEL: D22 D24 F12 F14 F41 L11
    Date: 2014–03
  3. By: Katrin Rabitsch (Department of Economics, Vienna University of Economics and Business)
    Abstract: A large literature has related the failure of interest rate parity in the foreign exchange market to the existence of a time-varying risk premium. Nevertheless, most modern open economy DSGE models imply a (near) perfect interest rate parity condition. This paper presents a stylized two-country incomplete-markets model in which countries have strong precautionary motives because they face international liquidity constraints, the presence of which successfully generates a time-varying risk premium: the country that has accumulated debt after experiencing relative worse times has stronger precautionary motives and its asset carries a risk premium.
    Keywords: Uncovered Interest Rate Parity, Incomplete Market, Precautionary Savings, Time-Varying Risk Premium
    JEL: F31 F41 G12 G15
    Date: 2014–03
  4. By: Burns, Andrew; Kida, Mizuho; Lim, Jamus Jerome; Mohapatra, Sanket; Stocker, Marc
    Abstract: As the recovery in high-income countries firms amid a gradual withdrawal of extraordinary monetary stimulus, developing countries can expect stronger demand for their exports as global trade regains momentum, but also rising interest rates and potentially weaker capital inflows. This paper assesses the implications of a normalization of policy and activity in high-income countries for financial flows and crisis risks in developing countries. In the most likely scenario, a relatively orderly process of normalization would imply a slowdown in capital inflows amounting to 0.6 percent of developing-country GDP between 2013 and 2016, driven in particular by weaker portfolio investments. However, the risk of more abrupt adjustments remains significant, especially if increased market volatility accompanies the unwinding of unprecedented central bank interventions. According to simulations, abrupt changes in market expectations, resulting in global bond yields increasing by 100 to 200 basis points within a couple of quarters, could lead to a sharp reduction in capital inflows to developing countries by between 50 and 80 percent for several months. Evidence from past banking crises suggests that countries having seen a substantial expansion of domestic credit over the past five years, deteriorating current account balances, high levels of foreign and short-term debt, and over-valued exchange rates could be more at risk in current circumstances. Countries with adequate policy buffers and investor confidence may be able to rely on market mechanisms and countercyclical macroeconomic and prudential policies to deal with a retrenchment of foreign capital. In other cases, where the scope for maneuver is more limited, countries may be forced to tighten fiscal and monetary policy to reduce financing needs and attract additional inflows.
    Keywords: Debt Markets,Emerging Markets,Currencies and Exchange Rates,Banks&Banking Reform,Economic Theory&Research
    Date: 2014–04–01
  5. By: Barbara Pistoresi
    Abstract: This paper analyzes the sustainability of Italy’s current accounts from 1861 to 2000. Whether or not we find empirical support to sustainability depends on the statistical condition of stationarity of the current account series. Non stationarity of the current accounts implies the economy has violated its intertemporal budget constraint. Unit root tests to study the stationarity of Italy’s current accounts suggest that in the long run (1861 to 2000) Italy’s external position was sustainable: the Italian economy seems to have used the external deficits (surpluses) to smooth its aggregate consumption. The persistent current account deficits in the shorter 1861-1913 period were generated by foreign capital inflows that allowed investment to rise and, in turn, to prompt the nation’s productivity and economic efficiency. Therefore, they do not seem to have curbed economic growth. Classification-JEL: C22,F32,O1 Keywords: Current account sustainability, economic development, Italy, unit root tests, Granger causality;
    Date: 2013–09
  6. By: Miles Parker; Benjamin Wong (Reserve Bank of New Zealand)
    Abstract: Exchange rate changes affect prices in New Zealand. Using data from the last 25 years, this note illustrates how the inflation responses have differed depending on what caused the exchange rate to move.
    Date: 2014–03
  7. By: Armas, Adrián (Banco Central de Reserva del Perú); Castillo, Paul (Banco Central de Reserva del Perú); Vega, Marco (Banco Central de Reserva del Perú)
    Abstract: This paper extends the model of Aoki et al. (2009) considering a two sector small open economy. We study the interaction of borrowing, asset prices, and spillovers between tradable and non-tradable sectors. Our results suggest that when it is difficult to enforce debtors to repay their debt unless it is secured by collateral, a productivity shock in the tradable sector generates an increase in asset prices and leverage that spills over to the non-tradable sector, generating an appreciation of the real exchange and an increase in domestic lending. Macro-prudential instruments are introduced under the form of cyclical loan-to-value ratios that limit the amount of capital that entrepreneurs can pledge as collateral. Cyclical taxes that respond to the movements in the price of non-tradable goods are analyzed. Simulation results show that this type of instruments significantly lessen the amplifying effects of borrowing constraints on small open economies and consequently reduce output and asset price volatility.
    Keywords: Collateral, productivity, small open economy.
    JEL: E21 E23 E32 E44 G01 O11 O16
    Date: 2014–04
  8. By: Anson, José (Asian Development Bank Institute); Boffa, Mauro (Asian Development Bank Institute); Helble, Matthias (Asian Development Bank Institute)
    Abstract: The information and communication technology (ICT) revolution of the past 3 decades has transformed the world into an integrated marketplace. Today, producers and consumers alike are able to compare the prices of local businesses and worldwide sellers. For an increasing number of tradable goods, they can take advantage of arbitrage opportunities between online and offline transactions. One of the key exogenous elements behind this arbitrage is exchange rate movements. The existing literature on exchange rates has concluded that nominal prices can be assumed to be rigid, which thus opens the door to short-term international arbitrage. However, empirical evidence of international short-term arbitrage has so far been lacking due to data constraints. In this paper, we first present a new dataset that holds records on daily international exchanges of goods, namely those sent through the international postal logistics network. We then combine this data set with daily data on international exchange rate movements to test the hypothesis of international arbitrage. Applying different econometric techniques, we show that in an environment of floating exchange rates, almost instantaneous short-term international arbitrage is indeed occurring and that it has a persistent effect. The effect seems to be particularly pronounced in the developed countries of Asia and the Pacific.
    Keywords: price stickiness; international arbitrage; international trade; exchange rates
    JEL: F14 F31
    Date: 2014–04–04
  9. By: Stefan Behrendt (Graduate Programme "Global Financial Markets")
    Abstract: This paper shall give an overview of the implications to the sectoral balances stemming from the implementation of the Fiscal Compact in the Euro area in 2013. Since there is now a more or less strict limit to deficit spending-absent from cyclical factors-some other sector has to make up for the reduction of the financial deficit of Euro area gov- ernments. While applying sensible estimates on the trajectories of the sectoral balances in the Euro area, I reach the conclusion that the only logical outlet for these (potentially) reduced deficits would be the for- eign sector, reflecting the inability of the private sector to run a sizeable surplus of investments over savings over the long-run. Under the sce- nario described in the paper, the Euro area would run a considerable current account surplus in the foreseeable future.
    Keywords: fiscal policy, Fiscal Compact, current account, sectoral balances
    JEL: E27 E61 E62 E66 F32 H62 H63
    Date: 2014–03–26
  10. By: Tayler, William; Zilberman, Roy
    Abstract: This paper examines the macroprudential roles of bank capital regulation and monetary policy in a Dynamic Stochastic General Equilibrium model with endogenous financial frictions and a borrowing cost channel. We identify various transmission channels through which credit risk, commercial bank losses, monetary policy and bank capital requirements affect the real economy. These mechanisms generate significant financial accelerator effects, thus providing a rationale for a macroprudential toolkit. Following credit shocks, countercyclical bank capital regulation is more effective than monetary policy in promoting financial, price and overall macroeconomic stability. For supply shocks, macroprudential regulation combined with a strong response to inflation in the central bank policy rule yield the lowest welfare losses. The findings emphasize the importance of the Basel III regulatory accords and cast doubt on the desirability of conventional Taylor rules during periods of financial distress. --
    Keywords: Bank Capital Regulation.,Macroprudential Policy,Basel III,Monetary Policy,Cost Channel
    JEL: E32 E44 E52 E58 G28
    Date: 2014–03–31

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