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on Open Economy Macroeconomics |
| By: | Giancarlo Corsetti (Centre for Economic Policy Research (CEPR); Centre for Macroeconomics (CFM); University of Cambridge); Luca Dedola (Centre for Macroeconomics (CFM); European Central Bank); Sylvain Leduc (Bank of Canada) |
| Abstract: | What determines the optimal monetary trade-off between internal objectives (inflation and output gap) and external objectives (competitiveness and trade imbalances) when inefficient capital flows cause exchange rate misalignment and distort current account positions? We characterize this trade-off analytically, using the workhorse model of modern monetary theory in open economies under incomplete markets–where inefficient capital flows and exchange rate misalignments can arise independently of nominal distortions. We derive aquadratic approximation of the utility-based global policy loss function under fairly general assumptions on preferences and openness, and solve for the optimal targeting rules under cooperation. We show that, in economies with a low degree of exchange rate pass-through, the optimal response to inefficient capital inflows associated with real appreciation is contractionary, above and beyond the natural rate: the optimal policy curbs excessive demand at the cost of exacerbating currency overvaluation. In contrast, a high degree of pass-through, and/or low trade elasticities, warrants expansionary policies that lean against exchange rate appreciation and competitive losses, at the cost of inefficient inflation. |
| Keywords: | Currency misalignments, Trade imbalences, Asset markets and risk sharing, Optimal targeting rules, International Policy, Exchange rate pass-through |
| JEL: | E44 E52 E61 F41 F42 |
| Date: | 2018–03 |
| URL: | http://d.repec.org/n?u=RePEc:cfm:wpaper:1806&r=opm |
| By: | Nelson Camanho; Harald Hau; Hélène Rey |
| Abstract: | We examine international equity allocations at the fund level and show how different returns on the foreign and domestic proportion of portfolios determine rebalancing behavior and trigger capital flows. We document the heterogeneity of rebalancing across fund types, its greater intensity under higher exchange rate volatility, and the exchange rate effect of such rebalancing. The observed dynamics of equity returns, exchange rates, and fund-level capital flows are compatible with a model of incomplete FX risk trading in which exchange rate risk partially segments international equity markets. |
| JEL: | F3 F31 F32 G15 |
| Date: | 2018–02 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:24320&r=opm |
| By: | Enrique G. Mendoza; Eugenio I. Rojas |
| Abstract: | "Liability dollarization,'' namely intermediation of capital inflows in units of tradables into domestic loans in units of aggregate consumption, adds three important effects driven by real-exchange-rate fluctuations that alter standard models of Sudden Stops significantly: Changes on the debt repayment burden, on the price of new debt, and on a risk-taking incentive (i.e. a negative premium on domestic debt). Under perfect foresight, the first effect makes Sudden Stops milder and multiple equilibria harder to obtain. The three effects add an ``intermediation externality'' to the macroprudential externality of standard models, which is present even without credit constraints. Optimal policy under commitment can be decentralized equally by taxing domestic credit or capital inflows, and hence capital controls as a separate instrument are not justified. This optimal policy is time-inconsistent and follows a complex, non-linear schedule. Quantitatively, an optimized pair of constant taxes on domestic debt and capital inflows makes crises slightly less likely and yields a small welfare gain, but other pairs reduce welfare sharply. For high effective debt taxes, capital controls and domestic debt taxes are again equivalent, and for low ones welfare is higher with higher taxes on domestic debt than on capital inflows. |
| JEL: | E44 F34 F41 |
| Date: | 2018–02 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:24336&r=opm |
| By: | Alessandro Barattieri; Matteo Cacciatore; Fabio Ghironi |
| Abstract: | We study the consequences of protectionism for macroeconomic fluctuations. First, using high-frequency trade policy data, we present fresh evidence on the dynamic effects of temporary trade barriers. Estimates from country-level and panel VARs show that protectionism acts as a supply shock, causing output to fall and inflation to rise in the short run. Moreover, protectionism has at best a small positive effect on the trade balance. Second, we build a small open economy model with firm heterogeneity, endogenous selection into trade, and nominal rigidity to study the channels through which protectionism affects aggregate fluctuations. The model successfully reproduces the VAR evidence and highlights the importance of aggregate investment dynamics and micro-level reallocations for the contractionary effects of tariffs. We then use the model to study scenarios where temporary trade barriers have been advocated as potentially beneficial, including recessions with binding constraints on monetary policy easing or in the presence of a fixed exchange rate. Our main conclusion is that, in all the scenarios we consider, protectionism is not an effective tool for macroeconomic stimulus and/or to promote rebalancing of external accounts. |
| JEL: | E31 E52 F13 F41 |
| Date: | 2018–02 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:24353&r=opm |
| By: | Giancarlo Corsetti (Centre for Macroeconomics (CFM); University of Cambridge); Joao B. Duarte (University of Cambridge; Nova School of Business and Economics); Samuel Mann (Centre for Macroeconomics (CFM); University of Cambridge) |
| Abstract: | We reconsider the effects of common monetary policy shocks across countries in the euro area, using a data-rich factor model and identifying shocks with high-frequency surprises around policy announcements. We show that the degree of heterogeneity in the response to shocks, while being low in financial variables and output, is significant in consumption, consumer prices and macro variables related to the labour and housing markets. Mirroring country-specific institutional and market differences, we find that home ownership rates are significantly correlated with the strength of the housing channel in monetary policy transmission. We document a high dispersion in the response to shocks of house prices and rents and show that, similar to responses in the US, these variables tend to move in different directions. |
| Keywords: | Monetary policy, High-frequency identification, Monetary union, Labour market, Housing market |
| JEL: | E21 E31 E44 E52 E44 |
| Date: | 2018–02 |
| URL: | http://d.repec.org/n?u=RePEc:cfm:wpaper:1805&r=opm |
| By: | Shang-Jin Wei |
| Abstract: | This paper seeks to draw lessons for developing countries based on a survey of the recent literature on financial globalization. First, while capital account openness holds promises (by potentially lowering cost of capital, promoting risk sharing, and providing disciplines on policies), it does not always work out that way in the data. Distortions in the domestic financial market, international capital market, domestic labor market, and domestic public governance can all make financial globalization less beneficial for developing countries. Second, developing countries may seek to avoid the effects of foreign monetary policy shocks. The empirical pattern appears to be somewhere between a trilemma and a dilemma. While nominal exchange rate flexibility provides some policy autonomy but not consistently, capital flow management can confer additional insulation against foreign monetary shocks. |
| JEL: | F2 G15 |
| Date: | 2018–02 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:24330&r=opm |
| By: | Linda S. Goldberg; Signe Krogstrup |
| Abstract: | This paper presents a new measure of capital flow pressures in the form of a recast Exchange Market Pressure index. The measure captures pressures that materialize in actual international capital flows as well as pressures that result in exchange rate adjustments. The formulation is theory-based, relying on balance of payments equilibrium conditions and international asset portfolio considerations. Based on the modified exchange market pressure index, the paper also proposes the Global Risk Response Index, which reflects the country-specific sensitivity of capital flow pressures to measures of global risk aversion. For a large sample of countries over time, we demonstrate time variation in the effects of global risk on exchange market pressures, the evolving importance of the global factor across types of countries, and the changing risk-on or risk-off status of currencies. |
| Date: | 2018–02–16 |
| URL: | http://d.repec.org/n?u=RePEc:imf:imfwpa:18/30&r=opm |
| By: | Moritz A. Roth (Banco de España) |
| Abstract: | Business cycle correlations are state-dependent and higher in recessions than in expansions. In this paper, I suggest a mechanism to explain why this is the case. For this purpose, I build an international real business cycle model with occasionally binding constraints on capacity utilization which can account for state-dependent cross-country correlations in GDP growth rates. The intuition is that firms can only use their machines up to a capacity ceiling. Therefore, in booms the growth of an individual economy can be dampened when the economy hits its capacity constraint. This creates an asymmetry that can spill-over to other economies, thereby creating state-dependent cross-country correlations in GDP growth rates. Empirically, I successfully test for the presence of capacity constraints using data from the G7 advanced economies in a Bayesian threshold autoregressive (T-VAR) model. This finding supports capacity constraints as a prominent transmission channel of cross-country GDP asymmetries in recessions compared to expansions. |
| Keywords: | international business cycles, business cycle asymmetries, GDP co-movement, capacity constraints, occasionally binding constraints |
| JEL: | E32 E60 F41 F44 F47 |
| Date: | 2018–01 |
| URL: | http://d.repec.org/n?u=RePEc:bde:wpaper:1804&r=opm |
| By: | Jin Cao (Norges Bank (Central Bank of Norway)); Valeriya Dinger (Universität Osnabrück) |
| Abstract: | We empirically analyze how bank lending reacts to monetary policy in the presence of global financial flows. Employing a unique and novel dataset of the funding modes and currency composition of the full population of Norwegian banks in structurally identified regressions, we show that the efficiency of the bank lending channel is affected when banks can shift to international funding and thus insulate their costs of funding from domestic monetary policy. We isolate the effect of global factors from domestic monetary policy by focusing on the deviation of exchange rates from the prediction of (uncovered and covered) interest rate parity. The Norwegian banking sector represents an ideal laboratory since the exogenous exchange rate dynamics allows for a convincing identification of the relation between lending and global factors. |
| Keywords: | monetary policy, foreign funding channel, bank lending channel, exchange rate dynamics |
| JEL: | E52 F36 G21 |
| Date: | 2018–02–23 |
| URL: | http://d.repec.org/n?u=RePEc:bno:worpap:2018_04&r=opm |
| By: | Matthieu Bussiere; Menzie D. Chinn; Laurent Ferrara; Jonas Heipertz |
| Abstract: | We re-examine the Fama (1984) puzzle – the finding that ex post depreciation and interest differentials are negatively correlated, contrary to what theory suggests – for eight advanced country exchange rates against the US dollar, over the period up to February 2016. The rejection of the joint hypothesis of uncovered interest parity (UIP) and rational expectations – sometimes called the unbiasedness hypothesis – still occurs, but with much less frequency. Strikingly, in contrast to earlier findings, the Fama regression coefficient is positive and large in the period after the global financial crisis. However, using survey based measures of exchange rate expectations, we find much greater evidence in favor of UIP. Hence, the main story for the switch in Fama coefficients in the wake of the global financial crisis is mostly a change in how expectations errors and interest differentials co-move, though the risk premium also plays a critical role for safe haven currencies (Japanese yen and Swiss franc). |
| JEL: | F31 F41 |
| Date: | 2018–02 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:24342&r=opm |
| By: | Vahagn Galstyan (Trinity College Dublin); Adnan Velic (Dublin Institute of Technology) |
| Abstract: | In this paper we exploit the newly augmented Coordinated Portfolio Investment Survey data of the IMF to study the cross-border inter-sectoral portfolio asset holdings of Germany. Our analysis reveals a significant degree of heterogeneity in the international asset positions of various German holding entities. The findings of our study also suggest differential relations between portfolio holdings and a set of gravity-style factors across holder-issuer pairings of various sectors. We conclude that aggregate-level patterns in international portfolio holdings may not persist in inter-sectoral data. |
| Keywords: | international portfolios, sectoral holdings, gravity |
| JEL: | F30 F41 G15 |
| Date: | 2018–03 |
| URL: | http://d.repec.org/n?u=RePEc:tcd:tcduee:tep0318&r=opm |
| By: | Jean-Pierre Allegret (Université Côte d'Azur, France; GREDEG CNRS); Mohamed Tahar Benkhodjay (ESSCA, School of Management); Tovonony Razafindrabe (CREM, Université Rennes 1) |
| Abstract: | This paper contributes to the literature on the Dutch disease effect in a small open oil exporting economy. Specifically, our contribution to the literature is twofold. On the one hand, we formulate a DSGE model in line with the balanced-growth path theory. On the other hand, besides alternative monetary rules, the model introduces an oil stabilization fund, an oil price rule, and a fiscal rule. Our aim is to analyze to what extent the combinations between our alternative monetary rules and fiscal policy are effective to prevent a Dutch disease effect in the aftermath of a positive oil price shock. Our main findings show that the Dutch disease, through the spending effect, occurs only in the case of inflation targeting regime. An expansionary fiscal policy contributes to improve the state of the economy through its impact on the productivity of the manufacturing sector. |
| Keywords: | Monetary Policy, Oil Stabilization Fund, Dutch disease, Oil Prices, DSGE model |
| JEL: | E52 F41 Q40 |
| Date: | 2018–03 |
| URL: | http://d.repec.org/n?u=RePEc:gre:wpaper:2018-06&r=opm |