nep-opm New Economics Papers
on Open Economy Macroeconomics
Issue of 2016‒11‒27
ten papers chosen by
Martin Berka
University of Auckland

  1. Optimal fiscal substitutes for the exchange rate in a monetary union By Kaufmann, Christoph
  2. Sovereign Risk and the Real Exchange Rate: A Non-Linear Approach By Jair N. Ojeda-Joya; Gloria Sarmiento
  3. International Transmissions of Monetary Shocks: Between a Trilemma and a Dilemma By Xuehui Han; Shang-Jin Wei
  4. Is Optimal Capital-Control Policy Countercyclical In Open-Economy Models With Collateral Constraints? By Schmitt-Grohé, Stephanie; Uribe, Martin
  5. Pegxit Pressure: Evidence from the Classical Gold Standard By Mitchener, Kris James; Pina, Goncalo
  6. Multiple Equilibria in Open Economy Models with Collateral Constraints: Overborrowing Revisited By Schmitt-Grohé, Stephanie; Uribe, Martin
  7. Take the Short Route: Equilibrium Default and Debt Maturity By Mark Aguiar; Manuel Amador; Hugo Hopenhayn; Iván Werning
  8. Monetary Policy Rule, Exchange Rate Regime, and Fiscal Policy Cyclicality in a Developing Oil Economy By Aliya Algozhina
  9. U.S. Monetary Policy Normalization and Global Interest Rates By Carlos Caceres; Yan Carriere-Swallow; Ishak Demir; Bertrand Gruss
  10. World Shocks, World Prices, and Business Cycles: An Empirical Investigation By Andrés Fernández; Stephanie Schmitt-Grohé; Martín Uribe

  1. By: Kaufmann, Christoph
    Abstract: This paper studies Ramsey-optimal monetary and fiscal policy in a New Keynesian 2-country open economy framework, which is used to assess how far fiscal policy can substitute for the role of nominal exchange rates within a monetary union. Giving up exchange rate flexibility leads to welfare costs that depend significantly on whether the law of one price holds internationally or whether firms can engage in pricing-tomarket. Calibrated to the euro area, the welfare costs can be reduced by 86% in the former and by 69% in the latter case by using only one tax instrument per country. Fiscal devaluations can be observed as an optimal policy in a monetary union: if a nominal devaluation of the domestic currency were optimal under flexible exchange rates, optimal fiscal policy in a monetary union is an increase of the domestic relative to the foreign value added tax.
    Keywords: Monetary union,Optimal monetary and fiscal policy,Exchange rate
    JEL: F41 F45 E63
    Date: 2016
  2. By: Jair N. Ojeda-Joya (Banco de la República de Colombia); Gloria Sarmiento (Banco de la República de Colombia)
    Abstract: We estimate a model of real exchange rate determination which is based on interest rate, term structure and purchasing power parities. This model takes into account sovereign risk as a key determinant with possibly non-linear effects. Estimations are performed for five Latin-American economies: Brazil, Chile, Colombia, Mexico and Peru. The results show that the model has good fit for all countries and the expected sign holds for most estimated coefficients. In particular, it is found that sovereign risk has a significant positive relation with the real exchange rate. There is evidence of the non-linearity of this relation for all countries except Mexico. This non-linearity implies coefficients that change with smooth transition as a function of international volatility indicators. In addition, we perform misalignment analyses and show that real exchange rates became over-depreciated during the initial development of the great financial crisis. Then, between 2011 and 2013, they went through a few periods of over-appreciation as international monetary and fiscal policies became expansive and international capital flows were bound to emerging economies searching for higher yields. Finally, the strong reduction of commodity prices led to a new over-depreciation episode during the second half of 2015. Classification JEL: C32, F31, E43
    Keywords: Real exchange rate, Misalignment, Sovereign Risk, International parities, Latin America, smooth transition regression
    Date: 2016–11
  3. By: Xuehui Han; Shang-Jin Wei
    Abstract: This paper re-examines international transmissions of monetary policy shocks from advanced economies to emerging market economies. In terms of methodologies, it combines three novel features. First, it separates co-movement in monetary policies due to common shocks from spillovers of monetary policies from advanced to peripheral economies. Second, it uses surprises in growth and inflation and the Taylor rule to gauge desired changes in a country’s interest rate if it is to focus exclusively on growth, inflation, and real exchange rate stability. Third, it proposes a specification that can work with the quantitative easing episodes when no changes in US interest rate are observed. In terms of empirical findings, we differ from the existing literature and document patterns of “2.5-lemma” or something between a trilemma and a dilemma: without capital controls, a flexible exchange rate regime offers some monetary policy autonomy when the center country tightens its monetary policy, yet it fails to do so when the center country lowers its interest rate. Capital controls help to insulate periphery countries from monetary policy shocks from the center country even when the latter lowers its interest rate.
    JEL: F3
    Date: 2016–11
  4. By: Schmitt-Grohé, Stephanie; Uribe, Martin
    Abstract: This paper contributes to a literature that studies optimal capital control policy in open economy models with pecuniary externalities due to flow collateral constraints. It shows that the optimal policy calls for capital controls to be lowered during booms and to be increased during recessions. Moreover, in the run-up to a financial crisis optimal capital controls rise as the contraction sets in and reach their highest level at the peak of the crisis. These findings are at odds with the conventional view that capital controls should be tightened during expansions to curb capital inflows and relaxed during contractions to discourage capital flight.
    JEL: E44 F41 G01 H23
    Date: 2016–11
  5. By: Mitchener, Kris James; Pina, Goncalo
    Abstract: We develop a simple model that highlights the costs and benefits of fixed exchange rates as they relate to trade, and show that negative export-price shocks reduce fiscal revenue and increase the likelihood of an expected currency devaluation. Using a new high-frequency data set on commodity-price movements from the classical gold standard era, we then show that the model's main prediction holds even for the canonical example of hard pegs. We identify a negative causal relationship between export-price shocks and currency-risk premia in emerging market economies, indicating that negative export-price shocks increased the probability that countries abandoned their pegs.
    Keywords: commodity prices; currency risk; exchange-rate devaluation
    JEL: F31 F33 F36 F41 N10 N20
    Date: 2016–11
  6. By: Schmitt-Grohé, Stephanie; Uribe, Martin
    Abstract: This paper establishes the existence of multiple equilibria in infinite-horizon open-economy models in which the value of tradable and nontradable endowments serves as collateral. In this environment, the economy displays self-fulfilling financial crises in which pessimistic views about the value of collateral induces agents to deleverage. The paper shows that under plausible calibrations, there exist equilibria with underborrowing. This result stands in contrast to the overborrowing result stressed in the related literature. Underborrowing emerges in the present context because in economies that are prone to self-fulfilling financial crises, individual agents engage in excessive precautionary savings as a way to self-insure.
    Keywords: capital controls.; Collateral constraints; Financial crises; overborrowing; Pecuniary externalities; underborrowing
    JEL: E44 F41 G01 H23
    Date: 2016–11
  7. By: Mark Aguiar; Manuel Amador; Hugo Hopenhayn; Iván Werning
    Abstract: We study the interactions between sovereign debt default and maturity choice in a setting with limited commitment for repayment as well as future debt issuances. Our main finding is that under a wide range of conditions the sovereign should, as long as default is not preferable, remain passive in long-term bond markets, making payments and retiring long-term bonds as they mature but never actively issuing or buying back such bonds. The only active debt-management margin is the short-term bond market. We show that any attempt to manipulate the existing maturity profile of outstanding long-term bonds generates losses, as bond prices move against the sovereign. Our results hold regardless of the shape of the yield curve. The yield curve captures the average costs of financing at different maturities but is misleading regarding the marginal costs.
    JEL: E62 F34 F41
    Date: 2016–11
  8. By: Aliya Algozhina
    Abstract: According to Frankel and Catao (2011), a commodity exporting developing economy is advised to target the output price index rather than consumer price index, as the former monetary policy is automatically countercyclical against the volatile terms of trade shock. This paper constructs a dynamic stochastic general equilibrium model of joint monetary and fiscal policies for a developing oil economy, to find an appropriate monetary rule combined with a pro/counter/acyclical fiscal stance based on a loss measure. The foreign exchange interventions distinguish between a managed and flexible exchange rate regime, while fiscal policy cyclicality depends on the oil output response of public consumption and public investment. The study reveals that the best policy combination is a countercyclical fiscal stance and CPI inflation monetary targeting under a flexible exchange rate regime to stabilize equally the domestic price inflation, aggregate output, and real exchange rate in a small open economy. This result is conditional on weights for those three variables used in the loss measure.
    Keywords: oil economy; monetary policy; fiscal policy; exchange rate; oil price shock; interventions; SWF;
    JEL: E31 E52 E62 E63 F31 F41 H54 H63 Q33 Q38
    Date: 2016–10
  9. By: Carlos Caceres; Yan Carriere-Swallow; Ishak Demir; Bertrand Gruss
    Abstract: As the Federal Reserve continues to normalize its monetary policy, this paper studies the impact of U.S. interest rates on rates in other countries. We find a modest but nontrivial pass-through from U.S. to domestic short-term interest rates on average. We show that, to a large extent, this comovement reflects synchronized business cycles. However, there is important heterogeneity across countries, and we find evidence of limited monetary autonomy in some cases. The co-movement of longer term interest rates is larger and more pervasive. We distinguish between U.S. interest rate movements that surprise markets versus those that are anticipated, and find that most countries receive greater spillovers from the former. We also distinguish between movements in the U.S. term premium and the expected path of risk-free rates, concluding that countries respond differently to these shocks. Finally, we explore the determinants of monetary autonomy and find strong evidence for the role of exchange rate flexibility, capital account openness, but also for other factors, such as dollarization of financial system liabilities, and the credibility of fiscal and monetary policy.
    Keywords: Monetary policy;United States;Interest rates;Spillovers;Asset prices;Central bank autonomy;Monetary policy; monetary conditions; autonomy; global financial cycle.
    Date: 2016–09–29
  10. By: Andrés Fernández; Stephanie Schmitt-Grohé; Martín Uribe
    Abstract: Most existing studies of the macroeconomic effects of global shocks assume that they are mediated by a single intratemporal relative price such as the terms of trade and possibly an intertemporal price such as the world interest rate. This paper presents an empirical framework in which multiple commodity prices and the world interest rate transmit world disturbances. Estimates on a panel of 138 countries over the period 1960-2015 indicate that world shocks explain on average 33 percent of aggregate fluctuations in individual economies. This figure doubles when the model is estimated on post 2000 data. The increase is attributable mainly to a change in the domestic transmission mechanism as opposed to changes in the world commodity price process as argued in the literature on the financialization of world commodity markets.
    JEL: F41
    Date: 2016–11

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