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on Open Economy Macroeconomics |
| By: | Joshua Aizenman |
| Abstract: | This paper takes stock of the history of the European Monetary Union (EMU) and pegged exchange-rate regimes in recent decades, pointing out the need to reshape the optimal currency area (OCA) criteria into the twenty-first century. While contributions from the 1960s regarding the OCA remain relevant, they were written during the Bretton Woods system when financial integration among countries was low and banks were heavily regulated. The post-Bretton Woods greater financial integration and under-regulated financial intermediation have increased the cost of sustaining a currency area and other forms of fixed exchange-rate regimes. A key lesson learned from financial crises is that fast-moving asymmetric financial shocks interacting with real distortions pose a grave threat to the stability of currency areas and fixed exchange-rate regimes. Thus, the odds of a successful currency area depend on the viability of effective institutions and policies that deal with adjustment to asymmetric shocks. The financial crises of recent decades illustrate that the endogeneity of the OCA is time dependent, and that deeper trade and financial integration impacts the stability of the OCA in differential ways. Members of a currency union with closer financial links may accumulate asymmetric balance-sheet exposure over time, becoming more susceptible to sudden-stop crises. In a phase of deepening financial ties, countries may end up with more correlated business cycles. Down the road, debtor countries that rely on financial inflows to fund structural imbalances may be exposed to devastating sudden-stop crises, subsequently reducing the correlation of business cycles between currency area’s members, possibly ceasing the gains from membership in a currency union. A currency union of developing countries anchored to a leading global currency stabilizes inflation at a cost of inhibiting the use of monetary policy to deal with real and financial shocks. Currency unions with low financial depth and low financial integration of its members may be more stable at a cost of inhibiting the growth of sectors depending on bank funding. Similar trade-offs apply to other forms of fixed exchange-rate regimes. |
| JEL: | F15 F33 F4 F41 |
| Date: | 2016–03 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:22097&r=opm |
| By: | Beckmann, Joscha; Czudaj, Robert |
| Abstract: | This study analyzes the dynamics between real effective exchange rates and current accounts from a novel perspective. We start by dissecting long-run and time-varying short-run dynamics as well as causalities between both variables. Following this, we extend our framework by including short-term interest rates. Finally, we examine common exchange rate and current account dynamics across countries based on common factors. Our results show that a real appreciation coincides with a worsening of the current account in most cases. The adjustment pattern is time-varying but suggests that the causality mainly runs from effective exchange rates to current accounts. However, an extension of our framework based on monthly data shows that trade balance adjustment is observed less frequently, suggesting that valuation effects play an important role for the relationship between current accounts and exchange rates. From a global point of view, cross-country trends which drive exchange rates and current accounts also share similar dynamics over the long-run, which is an important finding in the context of global imbalances. |
| Abstract: | Diese Studie analysiert die Dynamik zwischen realen effektiven Wechselkursen und Leistungsbilanzen aus einem neuen Blickwinkel. Um Kausalitäten zwischen den beiden Variablen adäquat zu untersuchen, wird mit der Zerlegung der langfristigen und zeitlich variierenden kurzfristigen Dynamiken begonnen. Anschließend wird der Ansatz um kurzfristige Zinsen erweitert, um geldpolitische Schocks in die Analyse mit einzubeziehen. Abschließend werden Wechselkurs- und Leistungsbilanzdynamiken in Form von gemeinsamen Faktoren über Länder hinweg untersucht. Die Ergebnisse zeigen, dass in den meisten Fällen eine reale Aufwertung mit einer Verschlechterung der Leistungsbilanz einhergeht. Das Anpassungsmuster verändert sich jedoch über die Zeit und deutet darauf hin, dass die Kausalität in erster Linie von effektiven Wechselkursen in Richtung Leistungsbilanz läuft. Eine Erweiterung des Ansatzes basierend auf monatlichen Daten zeigt, dass eine Reaktion der Handelsbilanz auf Wechselkursänderungen weniger häufig zu beobachten ist. Dies deutet darauf hin, dass Bewertungseffekte für Interdependenzen zwischen Leistungsbilanzen und Wechselkursen eine wichtige Rolle spielen. |
| Keywords: | current account,global imbalances,Markov-switching,multivariate cointegration,real exchange rates |
| JEL: | F31 F32 |
| Date: | 2016 |
| URL: | http://d.repec.org/n?u=RePEc:zbw:rwirep:610&r=opm |
| By: | Kollmann, Robert |
| Abstract: | This paper analyzes the effects of output volatility shocks on the dynamics of consumption, trade flows and the real exchange rate, in a two-country, two-good world with consumption home bias, recursive preferences, and complete financial markets. When the risk aversion coefficient exceeds the inverse of the intertemporal substitution elasticity, then an exogenous rise in a country’s output volatility triggers a wealth transfer to that country, to compensate for the greater riskiness of the country’s output stream. This risk sharing transfer raises the country’s consumption, lowers its trade balance and appreciates its real exchange rate. In the recursive preferences framework here, volatility shocks account for a non-negligible share of the fluctuations of net exports, net foreign assets and the real exchange rate. These shocks help to explain the high empirical volatility of the real exchange rate and the disconnect between relative consumption and the real exchange rate. |
| Keywords: | uncertainty shocks, international business cycles, international risk sharing, external balance, exchange rate, consumption-real exchange rate anomaly |
| JEL: | E3 F3 F4 |
| Date: | 2016 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:70183&r=opm |
| By: | Reinhart, Carmen M.; Trebesch, Christoph |
| Abstract: | A sketch of the International Monetary Fund’s 70-year history reveals an institution that has reinvented itself over time along multiple dimensions. This history is primarily consistent with a “demand driven” theory of institutional change, as the needs of its clients and the type of crisis changed substantially over time. Some deceptively “new” IMF activities are not entirely new. Before emerging market economies dominated IMF programs, advanced economies were its earliest (and largest) clients through the 1970s. While currency problems were the dominant trigger of IMF involvement in the earlier decades, banking crises and sovereign defaults became they key focus since the 1980s. Around this time, the IMF shifted from providing relatively brief (and comparatively modest) balance-of-payments support in the era of fixed exchange rates to coping with more chronic debt sustainability problems that emerged with force in the developing nations and now migrated to advanced ones. As a consequence, the IMF has engaged in “serial lending”, with programs often spanning decades. Moreover, the institution faces a growing risk of lending into insolvency, most widespread among low income countries in chronic arrears to the official sector, but most evident in the case of Greece since 2010. We conclude that these practices impair the IMF’s role as an international lender of last resort. |
| Keywords: | IMF; currency crashes; financial crises; sovereign default; lender of last resort; international borrowing |
| JEL: | E5 F33 F4 F55 G01 G2 G15 N0 |
| Date: | 2015–12–10 |
| URL: | http://d.repec.org/n?u=RePEc:lmu:muenec:26564&r=opm |
| By: | Paul R. Bergin; Giancarlo Corsetti; ; |
| Abstract: | Motivated by the long-standing debate on the pros and cons of competitive devaluation, we propose a new perspective on how monetary and exchange rate policies can contribute to a country’s international competitiveness. We refocus the analysis on the implications of monetary stabilization for a country’s comparative advantage. We develop a two-country New-Keynesian model allowing for two tradable sectors in each country: while one sector is perfectly competitive,firms in the other sector produce differentiated goods under monopolistic competition subject to sunk entry costs and nominal rigidities, hence their performance is more sensitive to macroeconomic uncertainty. We show that, by stabilizing markups, monetary policy can foster the competitiveness of these firms, encouraging investment and entry in the differentiated goods sector, and ultimately affecting the composition of domestic output and exports. Panel regressions based on worldwide exports to the U.S. by sector lend empirical support to the theory.Constraining monetary policy with an exchange rate peg lowers a country’s share of differentiated goods in exports between 4 and 12 percent. |
| Keywords: | monetary policy, production location externality, firm entry, optimal tariff |
| JEL: | F41 |
| Date: | 2015–07–08 |
| URL: | http://d.repec.org/n?u=RePEc:cam:camdae:1559&r=opm |
| By: | Vesna Stojcevska (National Bank of the Republic of Macedonia); Mite Miteski (National Bank of the Republic of Macedonia) |
| Abstract: | For a small open economy with fixed exchange rate regime, the twin deficit hypothesis is always an interesting and relevant research topic. The aim of this research is to evaluate the effects of the government budget shocks on the current account movement in the case of the Macedonian economy, hoping to shed light on the influence of the fiscal policy on the external position of the economy, as well as to provide useful guidance for policy makers about the sensitivity of the current account balance to changes in the primary budget balance. By using a VAR model on quarterly data for the period from 1998 to 2013, this paper points to a positive relationship between the two balances, but the empirical results also indicate that connection is only contemporaneous, implying that fiscal policy stance does not cause long lasting changes in the balance of payments position of the Macedonian economy. However, our results do not undemand the need for fiscal cautiousness, especially in an economy with a fixed exchange rate regime. |
| Keywords: | Government Budget Deficit, Balance of Goods and Services, Real Exchange Rate, Twin Deficit Hypothesis, VAR |
| JEL: | C32 E62 F31 F32 F41 |
| Date: | 2016–01 |
| URL: | http://d.repec.org/n?u=RePEc:mae:wpaper:2016-01&r=opm |
| By: | Pinar Yesin |
| Abstract: | This paper empirically evaluates the predictive performance of the International Monetary Fund's (IMF) exchange rate assessments with respect to future exchange rate movements. The assessments of real trade-weighted exchange rates were conducted from 2006 to 2011, and were based on three state-of-the-art exchange rate models with a medium-term focus which were developed by the IMF. The empirical analysis using 26 advanced and emerging market economy currencies reveals that the 'diagnosis' of undervalued or overvalued currencies based on these models has significant predictive power with respect to future exchange rate movements, with one model outperforming the other two. The models are better at predicting future exchange rate movements in advanced and open economies. Controlling for the exchange rate regime does not increase the predictive power of the assessments. Furthermore, the directional accuracy of the IMF assessments is found to be higher than market expectations. |
| Keywords: | Exchange rate models, exchange rate assessment, predictability, equilibrium exchange rates. |
| JEL: | C53 F31 F37 |
| Date: | 2016 |
| URL: | http://d.repec.org/n?u=RePEc:snb:snbwpa:2016-02&r=opm |
| By: | Emanuel Kohlscheen; Fernando Avalos; Andreas Schrimpf |
| Abstract: | We show that there is a distinct commodity-related driver of exchange rate movements, even at fairly high frequencies. Commodity prices predict exchange rate movements of 11 commodity-exporting countries in an in-sample panel setting for horizons up to two months. We also find evidence of systematic (pseudo) out-of-sample predictability, overturning the results of Meese and Rogoff (1983): information embedded in our country-specific commodity price indices clearly helps improving upon the predictive accuracy of the random walk in the majority of countries. We further show that the link between commodity prices and exchange rates is not driven by changes in global risk appetite or carry. |
| Keywords: | commodities, exchange rates, interest rates |
| Date: | 2016–03 |
| URL: | http://d.repec.org/n?u=RePEc:bis:biswps:551&r=opm |
| By: | Esposito, Piero (LUISS School of European Political Economy); Messori, Marcello (LUISS School of European Political Economy) |
| Abstract: | One of the main problems facing the European Monetary Union is the macroeconomic imbalances between ‘core’ and ‘peripheral’ member states. Though they predated the union’s creation, these problems were highlighted between 1999 and the advent of the international financial crisis. One significant indicator of these imbalances is the often divergent trade and current account disequilibria of these two groups of countries. With the events of 2007-08 and the subsequent ‘flight to quality’ of financial capital, the current account deficits of ‘peripheral’ member states became unbearable. By the end of 2014, all ‘peripheral’ countries had eliminated or drastically reduced their deficits. We show that this result is more dependent on the contraction of their GDP and relative reduction in their average real wages than on a productivity increase in their economy. To reach this conclusion, the paper empirically describes the determinants of the structural evolution in trade and current account imbalances and then offers econometric evidence of the impact of different components of unit labor cost on net exports. Based on this evidence, the paper points out the fragility of the European adjustments and suggests some policy implications. |
| Keywords: | imbalances; disequilibria; euro area; competitiveness; productivity; labor; economic policy; monetary union |
| JEL: | F15 F16 F36 O52 |
| Date: | 2016–03–15 |
| URL: | http://d.repec.org/n?u=RePEc:ris:sepewp:2016_003&r=opm |
| By: | Marco Airaudo; Edward F. Buffie; Luis-Felipe Zanna |
| Abstract: | We analyze coordination of monetary and exchange rate policy in a two-sector model of a small open economy featuring imperfect substitution between domestic and foreign financial assets. Our central finding is that management of the exchange rate greatly enhances the efficacy of inflation targeting. In a flexible exchange rate system, inflation targeting incurs a high risk of indeterminacy where macroeconomic fluctuations can be driven by self-fulfilling expectations. Moreover, small inflation shocks may escalate into much larger increases in inflation ex post. Both problems disappear when the central bank leans heavily against the wind in a managed float. |
| Date: | 2016–03–08 |
| URL: | http://d.repec.org/n?u=RePEc:imf:imfwpa:16/55&r=opm |
| By: | Shigeto Kitano (Research Institute for Economics & Business Administration (RIEB), Kobe University, Japan); Kenya Takaku (Faculty of Business, Aichi Shukutoku University) |
| Abstract: | We develop a sticky price, small open economy model with financial frictions a la Gertler and Karadi (2011), in combination with liability dollarization. An agency problem between domestic financial intermediaries and foreign investors of emerging economies introduces financial frictions in the form of time-varying endogenous balance sheet constraints on the domestic financial intermediaries. We consider a shock that tightens the balance sheet constraint and show that capital controls, the possibility of which is rigorously examined as a policy tool for the emerging economies, can be an alternative to credit policy employed by advanced economy central banks in mitigating the negative shock. |
| Keywords: | Capital control, Credit policy, Balance sheets, Small open economy, Nominal rigidities, New Keynesian, DSGE, Financial intermediaries, Financial frictions, Crisis |
| JEL: | E44 E58 F32 F41 |
| Date: | 2015–03 |
| URL: | http://d.repec.org/n?u=RePEc:kob:dpaper:dp2016-11&r=opm |
| By: | Asonuma, Tamon; Trebesch, Christoph |
| Abstract: | Sovereign debt restructurings can be implemented preemptively - prior to a payment default. We code a comprehensive new dataset and find that preemptive restructurings (i) are frequent (38% of all deals 1978-2010), (ii) have lower haircuts, (iii) are quicker to negotiate, and (iv) see lower output losses. To rationalize these stylized facts, we build a quantitative sovereign debt model that incorporates preemptive and post-default renegotiations. The model improves the fit with the data and explains the sovereign’s optimal choice: preemptive restructurings occur when default risk is high ex-ante, while defaults occur after unexpected bad shocks. Empirical evidence supports these predictions. |
| Keywords: | Sovereign Debt; Default; Debt Restructuring; Crisis Resolution |
| JEL: | F34 F41 H63 |
| Date: | 2015–11–07 |
| URL: | http://d.repec.org/n?u=RePEc:lmu:muenec:26563&r=opm |
| By: | Nagayasu, Jun |
| Abstract: | In order to differentiate between commonality and heterogeneity in real effective exchange rates, which are considered a measure of external competitiveness, we decompose their movements into global and country-specific factors using the Bayesian factor model. First, we show a complex but often positive relationship between real exchange rates and net trade volume using panel data of developed and developing countries. Then we report a particular global trend in real exchange rates, but a substantial proportion of their variation is found to be country-specific. In line with this finding, we conclude that structural shifts, when they do exist, are considered country-specific factors. Furthermore, consistent with economic theory, this global factor is closely related to a trend in the global interest rate, while country-specific factors are closely related to idiosyncratic movements in the countries' own interest rates. Such a decomposition results in better model performance in terms of coefficient signs, and therefore our results suggest that external competitiveness is heterogeneous among countries and that economic policy can influence countries’ competitiveness. |
| Keywords: | Real effective exchange rates; factor model; variance decomposition; external competitiveness |
| JEL: | F3 |
| Date: | 2016–03–01 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:70078&r=opm |
| By: | Daniel Cohen (Ecole d'Économie de Paris - Paris School of Economics); Sébastien Villemot (OFCE) |
| Abstract: | We distinguish two types of debt crises: those that are the outcome of exogenous shocks (to productivity growth for instance) and those that are endogenously created, either by self-fulfilling panic in financial markets or by the reckless behavior of “Panglossian” borrowers. After Krugman, we characterize as “Panglossian” those borrowers who only focus on their best growth prospects, anticipating to default on their debt if hit by an adverse shock, rationally ignoring the risk of default. We apply these categories empirically to the data. We show that, taken together, endogenous crises are powerful explanations of debt crises, more important for instance than the sheer effect of growth on a country's solvency. |
| Keywords: | Sovereign debt; Self-fulfilling crises |
| JEL: | F34 |
| Date: | 2015–03 |
| URL: | http://d.repec.org/n?u=RePEc:spo:wpmain:info:hdl:2441/11qtj0lq55839bohgrsg6l7aqj&r=opm |
| By: | Mary Amiti (Federal Reserve Bank of New York, 33 Liberty Street, New York, NY 10045); Oleg Itskhoki (Princeton University, Department of Economics, Princeton, NJ 08544); Jozef Konings (Katholieke Universiteit Leuven, Department of Economics, Naamsestraat 69, 3000 Leuven, Belgium, National Bank of Belgium) |
| Abstract: | How strong are strategic complementarities in price setting across firms? In this paper, we provide a direct empirical estimate of firm price responses to changes in prices of their competitors. We develop a general framework and an empirical identification strategy to estimate the elasticities of a firm’s price response to both its own cost shocks and to the price changes of its competitors. Our approach takes advantage of a new micro-level dataset for the Belgian manufacturing sector, which contains detailed information on firm domestic prices, marginal costs, and competitor prices. The rare features of these data enable us to construct instrumental variables to address the simultaneity of price setting by competing firms. We find strong evidence of strategic complementarities, with a typical firm adjusting its price with an elasticity of 35% in response to the price changes of its competitors and with an elasticity of 65% in response to its own cost shocks. Furthermore, we find substantial heterogeneity in these elasticities across firms, with small firms showing no strategic complementarities and a complete cost pass-through, while large firms responding to their cost shocks and competitor price changes with roughly equal elasticities of around 50%. We show, using a tightly calibrated quantitative model, that these findings have important implications for shaping the response of domestic prices to international shocks. |
| Keywords: | Pass-through, markups,strategic complementarities, firm heterogeneity |
| JEL: | F1 F3 F4 |
| Date: | 2016–03 |
| URL: | http://d.repec.org/n?u=RePEc:nbb:reswpp:201603-295&r=opm |
| By: | Dongwon Lee (Department of Economics, University of California Riverside); Kyungkeun Kim (University of Washington) |
| Date: | 2016–03 |
| URL: | http://d.repec.org/n?u=RePEc:ucr:wpaper:201605&r=opm |
| By: | Castro, César; Jiménez-Rodríguez, Rebeca |
| Abstract: | This paper analyzes how oil price shocks are transmitted downstream to producer and consumer prices in the euro area at the highest disaggregate level. In doing so, we first generate an appropriate database that identifies each industrial production sector with its corresponding price of consumer goods for the euro area. We next estimate a constrained vector autoregressive model. Our findings show a statistically significant increase in producer prices after an oil price shock for branches with high oil consumptions, although this statistical pass-through is only partial. However, there is no evidence of a significant oil price pass-through to consumer prices for most branches, which suggests the adaptability of European producers from the most branches to higher oil price pressures without transmitting them to consumers (exceptions: mining, chemical and metal). |
| Keywords: | Oil price; Industrial prices; Consumer prices; Disaggregation |
| JEL: | E31 Q4 |
| Date: | 2016–03–22 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:70227&r=opm |