nep-opm New Economics Papers
on Open Economy Macroeconomics
Issue of 2015‒07‒25
thirteen papers chosen by
Martin Berka
University of Auckland

  1. A Model of the Twin Ds: Optimal Default and Devaluation By Na, Seunghoon; Schmitt-Grohé, Stephanie; Uribe, Martín; Yue, Vivian
  2. International financial market integration, asset compositions, and the falling exchange rate pass-through By Buzaushina, Almira; Enders, Zeno; Hoffmann, Mathias
  3. Patterns of International Capital Flows and Productivity Growth: New Evidence By Margaux MacDonald
  4. German wage moderation and European imbalances: Feeding the global VAR with theory By Bettendorf, Timo; León-Ledesma, Miguel A.
  5. Monetary Policy and Dutch Disease: The Case of Price and Wage Rigidity By Constantino Hevia; Juan Pablo Nicolini
  6. What are the International Channels Through Which a US Policy Shock is Transmitted to The World Economies? Evidence from a Time Varying FAVAR By Anastasios Evgenidis; Costas Siriopoulos
  7. International Investors, Exchange Rates and Equity Prices By Dirk G Baur; Isaac Miyakawa
  8. Comparison of Static and Dynamic Analyses on Exchange Rate Regimes in East Asia By Yoshino, Naoyuki; Kaji, Sahoko; Asonuma, Tamon
  9. Safe haven currencies: a portfolio perspective By Cenedese, Gino
  10. Real Exchange Rates and Commodity Prices By Juan Nicolini; Constantino Hevia; Joao Ayres
  11. Jump-Starting the Euro Area Recovery: Would a Rise in Core Fiscal Spending Help the Periphery?* By Blanchard, Olivier; Erceg, Christopher J.; Lindé, Jesper
  12. Subjective Currency Risk Premia and Deviations from Moving Averages By Steve Furnagiev; Josh Stillwagon
  13. Optimal Monetary and Fiscal Policy in a New Keynesian Model with a Dutch Disease: The Case of Complete Markets By Constantino Hevia; Pablo Andrés Neumeyer; Juan Pablo Nicolini

  1. By: Na, Seunghoon; Schmitt-Grohé, Stephanie; Uribe, Martín; Yue, Vivian
    Abstract: This paper characterizes jointly optimal default and exchange-rate policy in a small open economy with limited enforcement of debt contracts and downward nominal wage rigidity. Under optimal policy, default occurs during contractions and is accompanied by large devaluations. The latter inflate away real wages thereby avoiding massive unemployment. Thus, the Twin Ds phenomenon emerges endogenously as the optimal outcome. By contrast, under fixed exchange rates, optimal default takes place in the context of large involuntary unemployment. Fixed-exchange-rate economies are shown to have stronger default incentives and therefore support less external debt than economies with optimally floating rates.
    Keywords: capital controls; currency pegs; downward nominal wage rigidity; exchange rates; optimal monetary policy; sovereign default
    JEL: E43 E52 F31 F34 F41
    Date: 2015–07
  2. By: Buzaushina, Almira; Enders, Zeno; Hoffmann, Mathias
    Abstract: This paper provides an explanation for the observed decline of the exchange rate pass-through into import prices by modeling the effects of financial market integration on the optimal choice of the pricing currency in the context of rigid nominal goods prices. Contrary to previous literature, we take the interdependence of this choice with the optimal portfolio choice of internationally traded financial assets explicitly into account. In particular, price setters move towards more localcurrency pricing and portfolios include more foreign debt assets following increased financial integration. Both predictions are in line with novel empirical evidence.
    Keywords: exchange rate pass-through,financial integration,portfolio home bias,international price setting
    JEL: F41 F36 F31
    Date: 2015
  3. By: Margaux MacDonald (Queen's University)
    Abstract: Recent evidence from developing and emerging economies shows a negative correlation between growth and net capital inflows, a contradiction to neoclassical growth theory. I provide updated and disaggregated evidence on the origins of this puzzle. An analysis of the components of capital flows and of gross portfolio positions shows that foreign direct investment is directed towards countries with the highest growth rates, but that portfolio investment outflows exceed these inflows. Liberalized capital accounts further exacerbate this pattern. My results suggest a desire for international portfolio diversification in liquid assets by fast growing countries lies at the heart of the puzzle.
    Keywords: Gross capital flows, Net capital flows, Allocation puzzle, Productivity growth
    JEL: F21 F41 F43
    Date: 2015–07
  4. By: Bettendorf, Timo; León-Ledesma, Miguel A.
    Abstract: German labor market reforms in the 1990s and 2000s are generally believed to have driven the large increase in the dispersion of current account balances in the Euro Area. We investigate this hypothesis quantitatively. We develop an open economy New Keynesian model with search and matching frictions from which we derive robust sign restrictions for a wage bargaining shock. We then impose these restrictions on a Global VAR consisting of Germany and 8 EMU countries to identify a wage bargaining shock in Germany. Our results show that, although the German current account was significantly affected by wage bargaining shocks, their contribution to European current account imbalances was negligible. We conclude that the reduction in bargaining power of German unions after labor market reforms cannot be the lone driver of European imbalances.
    Keywords: european imbalances,German wage moderation,DSGE,Global VAR,sign restrictions
    JEL: F10 F32 F41
    Date: 2015
  5. By: Constantino Hevia; Juan Pablo Nicolini
    Abstract: We study a model of a small open economy that specializes in the production of com- modities and that exhibits frictions in the setting of both prices and wages. We study the optimal response of monetary and exchange rate policy following a positive (negative) shock to the price of the exportable that generates an appreciation (depreciation) of the local currency. According to the calibrated version of the model, deviations from full price stability can generate welfare gains that are equivalent to almost 0.5% of lifetime consump- tion, as long as there is a signi?cant degree of rigidity in nominal wages. On the other hand, if the rigidity is concentrated in prices, the welfare gains can be at most 0.1% of lifetime consumption. We also show that a rule - formally de?ned in the paper - that resembles a "dirty ?oating" regime can approximate the optimal policy remarkably well.
    Date: 2015–06
  6. By: Anastasios Evgenidis (University of Patras); Costas Siriopoulos (Zayed University)
    Abstract: In this paper, we examine the international transmission of US monetary policy shocks across euro area and Asian countries by using a FAVAR model. We first examine all possible channels through which a policy shock is transmitted to each country. In general the transmission of the shock hides considerable heterogeneity across the countries. We find that the trade balance is important in explaining GDP spillover effects in the case of Singapore. Wealth effects along with the world interest rate channel explain the negative propagation of the US shock to the GDP of Hong Kong, the Philippines and Singapore. The exchange rate channel can explain the positive spillover effects on GDP in Korea and Japan. For the euro area, an endogenous response of the euro area monetary authority is observed. The wealth effect through the role of effective exchange rates seems adequate to describe the transmission of the shock to European countries. For Germany and Italy the decline in lending and spending reveal the importance of the balance sheet channel in the shock transmission. Second, we investigate to what extent the transmission mechanism has changed over time. For the 2007 financial crisis, our results indicate that the majority of the countries in both regions witness an increase in the size of the shock to real activity, inflation and credit variables in the post crisis period.
    Keywords: Monetary Policy; International Transmission Mechanism; FAVAR; Bayesian Statistics; Time Varying Parameters
    JEL: C38 E52 F41
    Date: 2015–01
  7. By: Dirk G Baur; Isaac Miyakawa
    Abstract: The correlation between equity returns and currency returns affects the risk of international equity portfolios. We analyze the equity index and currency returns of 53 countries and find that correlations are mainly positive. Negative correlations are found for currencies which play a special role in the global financial system like the US dollar, the Japanese yen, the British pound, the euro and the Swiss franc. Correlations generally increased in recent years and are often larger in extreme equity market conditions. In addition, empirical evidence for an equilibrium relationship between equity returns and currency returns - Uncovered Equity Parity - is only found for a small group of countries. For the majority of countries exchange rates increase the risk of international equity portfolios.
    Keywords: exchange rates; equity-currency correlation; international investors; Uncovered Equity Parity
    JEL: F23 F31 G15
    Date: 2013–12–01
  8. By: Yoshino, Naoyuki (Asian Development Bank Institute); Kaji, Sahoko (Asian Development Bank Institute); Asonuma, Tamon (Asian Development Bank Institute)
    Abstract: This paper compares three methods of analyzing exchange rate regimes in East Asia: static analysis, conventional dynamic analysis, and dynamic transition analysis. First we provide quantitative results that both estimated parameters for Thailand and time intervals are applied symmetrically across the three approaches. Our comparable simulation results illustrate how these three analyses are mutually related. Comparisons across the three methods demonstrate limitations of the static and conventional dynamic analyses where exchange rate regimes remain unchanged over the analysis horizon. Moreover, we emphasize three advantages of the dynamic transition analysis over the static and conventional dynamic analyses in that shifts from the current regime to alternative regimes are contrasted with a benchmark case of maintaining the current regime over the analysis horizon.
    Keywords: exchange rate regimes; dynamic transition analysis; capital account management; exchange rate stability
    JEL: F33 F41 F42
    Date: 2015–07–13
  9. By: Cenedese, Gino (Bank of England)
    Abstract: Currency portfolios exhibit asymmetric correlations: during periods of bear, volatile world equity markets, currency portfolios provide different hedging benefits than in bull markets. I show how these time-varying hedging benefits depend on currency characteristics. This paper also illustrates how the presence of regime shifts in financial markets affects optimal portfolio choice across currency portfolios: during bear markets, investors are better off by unwinding carry trade positions, and by following currency momentum. Also, diversification benefits increase by holding undervalued currencies and currencies of countries with strong current accounts and international investment positions.
    Keywords: Foreign exchange; safe haven currencies; portfolio choice; uncovered interest rate parity; carry trade; purchasing power parity; Markov-switching.
    JEL: F31 G15
    Date: 2015–07–17
  10. By: Juan Nicolini (Federal Reserve Bank of Minneapolis); Constantino Hevia (Universidad Di Tella); Joao Ayres (University of Minnesota)
    Abstract: We show that a small number of commodities prices can explain alarge fraction of the volatility in bilateral real exchange rates between developed economies. We analyze the real exchange rates between the United Sates and Germany, Japan and the United Kingdom. We show that with up to six commodites we can explain between 50% and 80% of the volatility of those three real exchange rates.
    Date: 2015
  11. By: Blanchard, Olivier (International Monetary Fund); Erceg, Christopher J. (Federal Reserve Board); Lindé, Jesper (Research Department, Central Bank of Sweden)
    Abstract: We show that a fiscal expansion by the core economies of the euro area would have a large and positive impact on periphery GDP assuming that policy rates remain low for a prolonged period. Under our preferred model specification, an expansion of core government spending equal to one percent of euro area GDP would boost periphery GDP around 1 percent in a liquidity trap lasting three years, about half as large as the effect on core GDP. Accordingly, under a standard ad hoc loss function involving output and inflation gaps, increasing core spending would generate substantial welfare improvements, especially in the periphery. The benefits are considerably smaller under a utility-based welfare measure, reflecting in part that higher net exports play a material role in raising periphery GDP.
    Keywords: Monetary Policy; Fiscal Policy; Liquidity Trap; Zero Bound Constraint; DSGE Model; Currency Union
    JEL: E52 E58
    Date: 2015–07–01
  12. By: Steve Furnagiev; Josh Stillwagon (Department of Economics, Trinity College)
    Abstract: This paper examines the empirical performance of an alternative model of the currency risk premium. The model predicts that the premium on foreign exchange will depend positively on the gap between the exchange rate and its benchmark value. In this paper, we relate the benchmark not to relative prices but to a moving average process in accord with technical analysis. The model is tested against a novel data set of traders' exchange rate forecasts, from 1986:08 to 2013:09, to measure the subjective, ex ante premium. This eliminates the need for a joint hypothesis of rational expectations and enables more direct focus on risk behavior. Using the Cointegrated VAR (CVAR), strong support is found for this hypothesis, as the exchange rate's deviation from a one-year moving average is significant at the 1% level and forms a stationary cointegrating relationship with the premium for the four USD exchange rates examined (against the Swiss franc, Japanese yen, British pound, and Canadian dollar).
    Keywords: Exchange rates; risk premia; survey data; IKE gap model; moving average; CVAR
    JEL: F31
    Date: 2015–07
  13. By: Constantino Hevia; Pablo Andrés Neumeyer; Juan Pablo Nicolini
    Abstract: We analyze optimal policy in New Keynesian model of a small open economy with access to complete asset markets and Dutch Disease periods, in which terms of trade shocks reallocate resources away from the manufacturing sector. Following the policy debate, we introduce an externality in the manufacturing sector that makes the Dutch disease periods inefficient. We show theoretically that if the government has access to standard taxes that can be made time and state dependent, the optimal monetary policy implies complete price stability. The optimal intervention to deal with the externality in manufacturing is a subsidy. We next assume that taxes do not respond to temporary shocks and study monetary policy as the sole stabilization instrument. Using a calibrated version of the model we show that the externality and the lack of other policy instruments do not justify sizeable departures from price stability.
    Date: 2013–08

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