nep-opm New Economics Papers
on Open Economy Macroeconomics
Issue of 2017‒08‒20
six papers chosen by
Martin Berka
University of Auckland

  1. Nominal Exchange Rates and Net Foreign Assets' Dynamics: the Stabilization Role of Valuation Effects By Sara Eugeni
  2. Globalization and the Increasing Correlation between Capital Inflows and Outflows By J. Scott Davis; Eric van Wincoop
  3. The PPP Puzzle: An Update By Razzak, Weshah
  4. Monetary Policy in the Capitals of Capital By Gerko, Elena; Rey, Hélène
  5. Directed Technological Change & Cross Country Income Differences: A Quantitative Analysis By Jerzmanowski, Michal; Tamura, Robert
  6. How to Cope with Volatile Commodity Export Prices: Four Proposals By Jeffrey Frankel

  1. By: Sara Eugeni (Durham Business School)
    Abstract: This paper proposes a theory of nominal exchange rate determination to shed light on its role in countries’ portfolio choices and its impact on the dynamics of net foreign assets through valuation effects. The model can rationalize the behavior of the US external position over the past 20 years, which has been characterized by persistent current account deficits and stabilizing valuation effects, as a consequence of the increase in emerging market countries’ share of world GDP. We also show quantitatively that the valuation channel is a key component of the process of external adjustment, consistently with the empirical literature.
    Keywords: nominal exchange rate determination, valuation effects, endogenous portfolio choice, net foreign assets’ dynamics, incomplete markets, overlapping-generations economies
    JEL: F31 F32 F36 F41
    Date: 2017–08
  2. By: J. Scott Davis; Eric van Wincoop
    Abstract: We document that the correlation between capital inflows and outflows has increased substantially over time in a sample of 128 advanced and developing countries. We provide evidence that this is a result of an increase in financial globalization (stock of external assets and liabilities). This dominates the effect of an increase in trade globalization (exports plus imports), which reduces the correlation between capital inflows and outflows. In the context of a two-country model with 14 shocks we show that the theoretical impact of financial and trade globalization on the correlation between capital inflows and outflows is consistent with the data.
    JEL: F3 F41
    Date: 2017–08
  3. By: Razzak, Weshah
    Abstract: We show that the Purchasing Power Parity (PPP) puzzle, whereby the half-life of the shock to the real exchange rate is long and unjustifiable by monetary and financial shocks, is a result of specification and estimation issues. We provide an alternative specification for PPP and show that the half-life of the shock could be as short as 6.8 months and as long as 2 years, which is considerably shorter than what have been reported in the literature.
    Keywords: PPP, unit root, half-life of shocks
    JEL: C13 C18 F31
    Date: 2107–08–12
  4. By: Gerko, Elena; Rey, Hélène
    Abstract: The importance of financial markets and international capital flows has increased greatly since the 1990s. How does this affect the effectiveness of monetary policy? We analyse the transmission of monetary policy in two important financial centres, the United States and the United Kingdom. Studying the responses of mortgage and corporate spreads, we find evidence in favour of an important financial channel in both countries. Our identification strategy allows us to study effects of the policy rate and of forward guidance, broadly defined. We also analyse international financial spillovers, which we find to be asymmetric.
    Keywords: high frequency identification; international financial spillovers; monetary policy
    JEL: E4 E52 E58 F41 G15
    Date: 2017–08
  5. By: Jerzmanowski, Michal; Tamura, Robert
    Abstract: Research aimed at understanding cross-country income differences finds that inputs of human and physical capital play a limited role in explaining those differences. However, most of this work assumes workers with different education levels are perfect substitutes. Does moving away from this assumption affect our conclusions about the causes of long run development? To answer this question we construct measures of skill-specific productivity and barriers to innovation for a large sample of countries over the period 1910-2010. We use a model of endogenous directed technological change together with a new data set on output and labor force composition across countries. We find that rich countries use labor of all skill categories more efficiently, however, in the absence or barriers to entry, poor countries would actually be more efficient at using low-skill labor. Our estimates imply that after 1950 the world technology frontier expanded much faster for college-educated workers than for those with lower skill sets. This technology diffused to many countries, allowing even poorer countries to experience relatively robust growth of high-skill-specific productivity. Their GDP growth failed to reflect that because of their labor composition; they have very few workers in the higher skilled category. Finally, we investigate the relative importance of factor endowments versus barriers to technology in explaining the current disparities of standards of living and find it to depend crucially on the value of the elasticity of substitution between skill-types. Under a lower value of 1.6, our model yields barrier estimates that are lower and relatively less important in explaining cross-country income differences: in this scenario physical and human capital account almost 70% of variance in 2010 GDP per worker in our sample. Using elasticity of 2.6, we find barriers that are higher and explain most of the variation in output. We provide some evidence that the higher value of elasticity is preferred.
    Keywords: endogenous directed technology, heterogeneous labor, cross country income differences
    JEL: E1 J0 O1
    Date: 2017–08–01
  6. By: Jeffrey Frankel
    Abstract: Countries where exports are relatively concentrated in oil, gas, minerals and agricultural commodities experience terms of trade that are highly volatile. This volatility is one of the possible explanations for the famous Natural Resource Curse.1 The aim in this keynote address is to offer four policy proposals to help countries manage commodity volatility and thereby help make sure that commodity wealth is a blessing rather than a curse. Two of the ideas fall in the area of microeconomic policy: specific financial contracts structured so as to hedge risk. Two of the ideas fall in the area of macroeconomic policy institutions: ways to make fiscal and monetary policy counter-cyclical rather than pro-cyclical.2 It is always hard to make policy proposals that are convincing and at the same time are original. I will try to strike a balance between being convincing and being original. Of the four ideas, two are tried and tested. Two have not been tried much. The question then becomes: why not? Let us first pause to ask: Don’t commodity-exporters already use financial markets to smooth trade fluctuations? If international financial markets worked well, countries facing temporary adverse trade shocks could borrow to finance current account deficits, and vice versa. But they don’t work that well. Capital flows to developing countries tend, if anything, to be pro-cyclical. The appropriate theory usually builds on the assumption that borrowing requires collateral, in the form of commodity export proceeds. The important point for policy-makers is that some careful thought is required to design institutions that can protect against the volatility. Many other policies and institutions for dealing with commodity volatility have been proposed and tried in various countries, some successful, some much less so. Many of the ideas that tend to work poorly can be described as seeking to suppress price volatility rather than manage it. I see them as akin to King Canute commanding the tide not to come in. I am thinking, for example, of price controls, commodity marketing boards, and controls on exports. Better to accept fluctuations in demand and supply as a fact of life, and to devise policies and institutions to equip the economy to cope with them. 1 Brueckner and Carneiro (2016), Blattman, Hwang, and Williamson (2007), Hausmann and Rigobon (2003), Mendoza (1997) and Poelhekke and van der Ploeg (2007). Terms of trade volatility hurts growth in the presence of investment irreversibilities and credit constraints (Aghion, Angeletos, Banerjee & Manova, 2010). Frankel (2012a) surveys the Natural Resource Curse. 2 E.g., Kaminsky, Reinhart and Végh {2005).
    Keywords: agriculture, commodities, currency basket, fiscal, hedging, indexed bonds, minerals, monetary, oil
    JEL: E F O
    Date: 2017–07

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