|
on Open Economy Macroeconomics |
| By: | Curcuru, Stephanie E. (Board of Governors of the Federal Reserve System (U.S.)); Thomas, Charles P. (Board of Governors of the Federal Reserve System (U.S.)); Warnock, Francis E. (University of Virginia); Wongswan, Jon (Phatra Securities Public Company Limited) |
| Abstract: | Portfolio rebalancing is a key driver of the Uncovered Equity Parity (UEP) condition. According to UEP, when foreign equity holdings outperform domestic holdings, domestic investors are exposed to higher exchange rate exposure and hence repatriate some of the foreign equity to decrease their exchange rate risk. By doing so, foreign currency is sold, leading to foreign currency depreciation. We examine the relationship between U.S. investors' portfolio reallocations and returns and find some evidence consistent with UEP: Portfolio shifts are related to past returns in the underlying equity markets. But we argue that a motive other than reducing currency risk exposure is likely behind this rebalancing. In particular, U.S. investors may be exploiting mean reversion in underlying equity markets, rebalancing away from equity markets that recently performed well and moving into equity markets market just prior to relatively strong performance. Such behavior suggests tactical reallocations to increase returns rather than reduce risk. |
| Keywords: | Exchange rate determination; international returns; equity portfolios |
| Date: | 2014–05–15 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedgif:1103&r=opm |
| By: | Kris James Mitchener; Kirsten Wandschneider |
| Abstract: | We examine the first widespread use of capital controls in response to a global or regional financial crisis. In particular, we analyze whether capital controls mitigated capital flight in the 1930s and assess their causal effects on macroeconomic recovery from the Great Depression. We find evidence that they stemmed gold outflows in the year following their imposition; however, time-shifted, difference-in- differences (DD) estimates of industrial production, prices, and exports suggest that exchange controls did not accelerate macroeconomic recovery relative to countries that went off gold and floated. Countries imposing capital controls also appear to perform similar to the gold bloc countries once the latter group of countries finally abandoned gold. Time series analysis suggests that countries imposing capital controls refrained from fully utilizing their newly acquired monetary policy autonomy. |
| JEL: | E61 F32 F33 F41 G15 N1 N2 |
| Date: | 2014–06 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:20220&r=opm |
| By: | Nidhaleddine Ben Cheikh; Waël Louhichi |
| Abstract: | This paper sheds new light on the role of inflation regime in explaining the extent of exchange rate pass-through (ERPT) into import prices. In order to classify his sample of 24 developing countries by regimes of inflation, Barhoumi [(2006), “Differences in long run exchange rate pass-through into import prices in developing countries: An empirical investigation”, Economic Modeling, 23 (6), 926-951.] chose an arbitrary threshold of 10% to split sample between high and low inflation regimes. For more accuracy, our study proposes to use a panel threshold framework where a grid search is used to select the appropriate threshold value. In a larger panel-data set including 63 countries over the period 1992-2012, we find that there are two thresholds points that are well identified by the data, allowing us to split our sample into three inflation regimes. When estimating the ERPT for each group of countries, we point out a strong regime-dependence of pass-through to inflation environment, that is, the class of countries with higher inflation rates experiences the higher degree of ERPT. |
| Keywords: | Exchange Rate Pass - Through, Import Prices, Panel Threshold |
| JEL: | C23 E31 F31 F40 |
| Date: | 2014–06 |
| URL: | http://d.repec.org/n?u=RePEc:wsr:wpaper:y:2014:i:132&r=opm |
| By: | Lewis, Logan T. (Board of Governors of the Federal Reserve System (U.S.)) |
| Abstract: | U.S. imports and exports respond little to exchange rate changes in the short run. Pricing behavior has long been thought central to explaining this response: if local prices do not respond to exchange rates, neither will trade flows. Sticky prices and strategic complementarities in price setting generate sluggish responses, and they are necessary to match newly available international micro price data. Using trade flow data, I test models capable of replicating these trade price data. Even with significant pricing frictions, the models still imply a trade response to exchange rates stronger than found in the data. Moreover, using significant cross-sector heterogeneity, comparative statics implied by the model find little to no support in the data. These results suggest that while complementarity in price setting and sticky prices can explain pricing patterns, some other short-run friction is needed to match actual trade flows. Furthermore, the muted response found for sectors with high long-run substitutability implies that simply assuming low elasticities may be inappropriate. Finally, there is evidence of an asymmetric response to exchange rate changes. |
| Keywords: | Trade prices; pass-through; trade elasticities |
| Date: | 2014–04–16 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedgif:1102&r=opm |
| By: | Cheolbeom Park (Department of Economics, Korea University, Seoul, Republic of Korea); Sookyung Park (Department of Economics, Korea University, Seoul, Republic of Korea) |
| Abstract: | Using a typical open macroeconomic model, we show that the UIP puzzle becomes more pronounced when the monetary policy rule is stricter against inflation. To determine the empirical validity of our model, we examine (the Taylor-rule-type) monetary policy rules and the slope coefficient in the regression of future exchange rate returns on interest rate differentials before and after the recent global financial crisis. We find that all economies that reduced the reaction of the policy interest rate to inflation in response to the crisis have positive slope coefficients in the UIP regressions after the crisis. Iceland has put greater weight on inflation in the policy rule after the crisis, and the UIP puzzle has become more severe there after the crisis, which is also consistent with our model. Moreover, economies for which we cannot find clear break evidence for the reaction to inflation in the monetary policy rule do not show a clear directional change in the slope coefficient of the UIP regression. |
| Keywords: | Interest rate, Exchange rate, Monetary policy rule, Uncovered interest |
| JEL: | F31 F41 F47 |
| Date: | 2014 |
| URL: | http://d.repec.org/n?u=RePEc:iek:wpaper:1404&r=opm |
| By: | Alberto Cavallo; Brent Neiman; Roberto Rigobon |
| Abstract: | Does membership in a currency union matter for prices and for a country's real exchange rate? The answer to this question is critical for thinking about the implications of joining (or exiting) a common currency area. This paper is the first to use high-frequency good-level data to demonstrate that the answer is yes, at least for an important subset of consumption goods. We consider the case of Latvia, which recently dropped its pegged exchange rate and joined the euro zone. We analyze the prices of thousands of differentiated goods sold by Zara, the world's largest clothing retailer. Price dispersion between Latvia and euro zone countries collapsed swiftly following entry to the euro. The percentage of goods with nearly identical prices in Latvia and Germany increased from 6 percent to 89 percent. The median size of price differentials declined from 7 percent to zero. |
| JEL: | E3 F3 F4 |
| Date: | 2014–06 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:20225&r=opm |
| By: | Fadi Hassan (Trinity College Dublin) |
| Abstract: | The Penn-Balassa-Samuelson e?ect is the stylized fact about the positive correlation between cross-country price level and per-capita income. This paper provides evidence that the price-income relation is actually non-linearand turns negative in low income countries. The result is robust along both cross-section and panel dimensions. Additional robustness checks show thatbiases in PPP estimation and measurement error in low-income countries do not drive the result. The different stage of development between countriescan explain this new ?nding. The paper shows that a model linking the price level to the process of structural transformation captures the non-monotonic pattern of the data. |
| Keywords: | real exchange rate |
| JEL: | E31 F4 O1 |
| Date: | 2014–04 |
| URL: | http://d.repec.org/n?u=RePEc:iis:dispap:iiisdp446&r=opm |
| By: | Timothy Kam; Pere Gomis-Porqueras; Christopher J. Waller |
| Abstract: | In this paper we study the endogenous choice to accept fiat objects as media of exchange, the fundamentals that drive their acceptance, and their implications for their bilateral nominal exchange rate. To this end, we consider a small open economy where agents have no restrictions on what divisible fiat currency can be used to settle transactions (i.e. no currency control). We build on Li, Rocheteau and Weill (2013) and allow both fiat currencies to be counterfeited at some fixed costs. The two currencies can coexist, even if one of the currencies is dominated by the other in rate of return. This is driven by an equilibrium outcome in which private information and threats of counterfeiting imposes an equilibrium liquidity constraint on currencies in circulation. Thus, threats of counterfeiting help to pin down a determinate nominal exchange rate, and, to break the Kareken-Wallace indeterminacy result in an environment without ad-hoc currency controls. Finally, we show that with appropriate fiscal policies we can enlarge the set of monetary equilibria with determinate nominal exchange rate. |
| Date: | 2013–11 |
| URL: | http://d.repec.org/n?u=RePEc:acb:cbeeco:2013-613&r=opm |
| By: | Queraltó, Albert (Board of Governors of the Federal Reserve System (U.S.)) |
| Abstract: | This paper documents highly persistent effects of financial crises on output, labor productivity and employment in a sample of emerging economies. To address these facts, it introduces a quantitative macroeconomic model that includes endogenous TFP growth through firm creation. Firm creators obtain funding from a financial intermediation sector which is subject to frictions. These frictions become especially severe in a financial crisis, increasing the cost of credit for firm creators and thereby lowering the growth rate of aggregate TFP. As a consequence, the model produces medium-run dynamics following crises that are in line with the data. |
| Keywords: | Business cycles; financial crises; total factor productivity |
| Date: | 2013–12–18 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedgif:1097&r=opm |
| By: | THORBECKE, Willem; KATO Atsuyuki |
| Abstract: | In 2011, Switzerland announced a floor for the Swiss franc, and it immediately depreciated by 10 percent. Many argue that depreciations should not matter for Switzerland's export basket because luxury brands and high value added products predominate, and these should compete on quality rather than price. We measure the sophistication of Swiss exports using Hausmann et al.'s (2007) and Kwan's (2002) measures and find them to be the most sophisticated in the world. We also estimate export equations and find price elasticities exceeding unity. These findings run counter to the claim that countries exporting high end goods should have low exchange rate elasticities. |
| Date: | 2014–06 |
| URL: | http://d.repec.org/n?u=RePEc:eti:dpaper:14031&r=opm |
| By: | Buch, Claudia M. (Federal Reserve Bank of New York); Goldberg, Linda S. (Federal Reserve Bank of New York) |
| Abstract: | Activities of international banks have been at the core of discussions on the causes and effects of the international financial crisis. Yet we know little about the actual magnitudes and mechanisms for transmission of liquidity shocks through international banks, including the reasons for heterogeneity in transmission across banks. The International Banking Research Network, established in 2012, brings together researchers from around the world with access to micro-level data on individual banks to analyze issues pertaining to global banks. This paper summarizes the common methodology and results of empirical studies conducted in eleven countries to explore liquidity risk transmission. Among the main results is, first, that explanatory power of the empirical model is higher for domestic lending than for international lending. Second, how liquidity risk affects bank lending depends on whether the banks are drawing on official-sector liquidity facilities. Third, liquidity management across global banks can be important for liquidity risk transmission into lending. Fourth, there is substantial heterogeneity in the balance sheet characteristics that affect banks’ responses to liquidity risk. Overall, balance sheet characteristics of banks matter for differentiating their lending responses, mainly in the realm of cross-border lending. |
| Keywords: | international banking; liquidity; transmission; central bank liquidity; uncertainty; regulation; crises |
| JEL: | F34 G01 G21 |
| Date: | 2014–05–01 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fednsr:675&r=opm |
| By: | Julius Bonart; Jean-Philippe Bouchaud; Augustin Landier; David Thesmar |
| Abstract: | We study a dynamical model of interconnected firms which allows for certain market imperfections and frictions, restricted here to be myopic price forecasts and slow adjustment of production. Whereas the standard rational equilibrium is still formally a stationary solution of the dynamics, we show that this equilibrium becomes linearly unstable in a whole region of parameter space. When agents attempt to reach the optimal production target too quickly, coordination breaks down and the dynamics becomes chaotic. In the unstable, "turbulent" phase, the aggregate volatility of the total output remains substantial even when the amplitude of idiosyncratic shocks goes to zero or when the size of the economy becomes large. In other words, crises become endogenous. This suggests an interesting resolution of the "small shocks, large business cycles" puzzle. |
| Date: | 2014–06 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:1406.5022&r=opm |
| By: | Bussière, M.; Camara, B.; Castellani, F.-D.; Potier, V.; Schmidt, J. |
| Abstract: | As part of the International Banking Research Network, the Banque de France contribution to the research project on liquidity risk transmission concentrates on the “outward”' transmission of shocks affecting French banking groups. Using a rich dataset on their international positions, we analyze which balance sheet vulnerabilities contribute to the international transmission of aggregate liquidity risk shocks. The geographical breakdown of lending allows us to control for demand effects and to concentrate on the external adjustments to shocks affecting the supply of loans. We find that a higher capital ratio is associated with higher growth of lending abroad when aggregate liquidity conditions deteriorate. We find that our results are mainly driven by cross-border lending to the financial sector whereas local lending by foreign affiliates is hardly affected by the balance sheet shocks that the overall banking group is experiencing. We also investigate to what extent the identified effects differ depending on whether banks accessed public liquidity during the crisis and find that our baseline results are sensitive to the inclusion of central bank liquidity assistance. |
| Keywords: | International banking, liquidity risk, shock transmission. |
| JEL: | D24 F36 G21 |
| Date: | 2014 |
| URL: | http://d.repec.org/n?u=RePEc:bfr:banfra:485&r=opm |
| By: | Frederico Belo; Xiaoji Lin; Fan Yang |
| Abstract: | The ability of corporations to finance its operations by issuing new equity varies with macroeconomic conditions, because the time varying macroeconomic conditions affect investors’ (or workers’) willingness to pay for new equity. We document that an empirical proxy of the shocks to the cost of equity issuance captures systematic risk in the economy, even controlling for the impact of aggregate productivity (or stock market) shocks. Exposure to this shock helps price the cross section of stock returns including book-to-market, size, investment, debt growth, and issuance portfolios. We then propose a dynamic investment-based model that features an aggregate shock to the firms’ cost of external equity issuance, and a collateral constraint. Our central finding is that time- varying external financing costs are important for the model to quantitatively capture the joint dynamics of firms’ real quantities, financing flows, and asset prices. Furthermore, the model also replicates the failure of the unconditional CAPM in pricing the cross-sectional expected returns. |
| JEL: | E23 E44 G12 |
| Date: | 2014–06 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:20210&r=opm |
| By: | Saleem Bahaj (University of Cambridge, Faculty of Economics; Centre for Macroeconomics (CFM)) |
| Abstract: | What are the macroeconomic implications of changes in sovereign risk premia? In this paper, I use a novel identication strategy coupled with a new dataset for the Euro Area to answer this question. I show that exogenous innovations in sovereign risk premia were an important driver of the economic dynamics of crisis-hit countries, explaining 30-50% of the forecast error of unemployment. I also shed light on the mechanisms through which this occurs. Fluctuations in sovereign risk premia explain 20-40% of the variance of private borrowing costs. Increases in sovereign risk result in substantial capital ight, external adjustment and import compression. In contrast, governments appear not to increase their primary balances in response to increases in sovereign risk. Identifying these causal effects involves isolating a source of uctuations in sovereign borrowing costs exogenous to the economy in question. I address this problem by relying upon the transmission of country-specic events during the crisis in Europe to the sovereign risk premia in the remainder of the union. I construct a new dataset of critical events in foreign crisis-hit countries and I measure the impact of these events on yields in the economy of interest at an intraday frequency. An aggregation of foreign events serves as a proxy variable for structural innovations to the yield to identify shocks in a proxy SVAR. I extend this methodology into a Bayesian setting to allow for exible panel assumptions. A counterfactual analysis is used to remove the impact of foreign events from the bond yields of crisis hit countries: I find that 40-60% of the trough-to-peak moves in bond yields in crisis-hit countries are explained by foreign events, thereby suggesting that the crisis was not purely a function of weak local economic conditions. |
| Keywords: | High frequency identication, Narrative identication, Contagion, Bayesian VARs, Proxy SVARs, Panel VARs |
| JEL: | E44 E65 F42 |
| Date: | 2014–05 |
| URL: | http://d.repec.org/n?u=RePEc:cfm:wpaper:1406&r=opm |
| By: | Correa, Ricardo (Federal Reserve Bank of New York); Goldberg, Linda S. (Federal Reserve Bank of New York); Rice, Tara (Federal Reserve Bank of New York) |
| Abstract: | While the balance sheet structure of U.S. banks influences how they respond to liquidity risks, the mechanisms for the effects on and consequences for lending vary widely across banks. We demonstrate fundamental differences across banks without foreign affiliates versus those with foreign affiliates. Among the nonglobal banks (those without a foreign affiliate), cross-sectional differences in response to liquidity risk depend on the banks’ shares of core deposit funding. By contrast, differences across global banks (those with foreign affiliates) are associated with ex ante liquidity management strategies as reflected in internal borrowing across the global organization. This intra-firm borrowing by banks serves as a shock absorber and affects lending patterns to domestic and foreign customers. The use of official-sector emergency liquidity facilities by global and nonglobal banks in response to market liquidity risks tends to reduce the importance of ex ante differences in balance sheets as drivers of cross-sectional differences in lending. |
| Keywords: | international banking; global banking; liquidity; transmission; internal capital market |
| JEL: | F42 G01 G21 |
| Date: | 2014–06–01 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fednsr:676&r=opm |