nep-opm New Economics Papers
on Open Economy Macroeconomics
Issue of 2019‒07‒22
eight papers chosen by
Martin Berka
University of Auckland

  1. On the Credit and Exchange Rate Channels of Central Bank Asset Purchases in a Monetary Union By Matthieu Darracq Paries; Niki Papadopoulou
  2. Disinflation in Closed and Small Open Economies By Oleksandr Faryna; Magnus Jonsson; Nadiia Shapovalenko
  3. Real Exchange Rates and Primary Commodity Prices By Hevia, Constantino; Ayres, Joao Luiz; Nicolini, Juan Pablo
  4. Real Effective Exchange Rate and Trade Balance Adjustment: The Case of Turkey By Plamen K Iossifov; Xuan Fei
  5. On the Global Impact of Risk-off Shocks and Policy-put Frameworks By Ricardo J. Caballero; Gunes Kamber
  6. Does the IMF Program Implementation Matter for Sovereign Spreads? The Case of Selected European Emerging Markets By Darlena Tartari; Albi Tola
  7. China's overseas lending By Horn, Sebastian; Reinhart, Carmen M.; Trebesch, Christoph
  8. Exchange Rate Reconnect By Andrew Lilley; Matteo Maggiori; Brent Neiman; Jesse Schreger

  1. By: Matthieu Darracq Paries (European Central Bank); Niki Papadopoulou (Central Bank of Cyprus)
    Abstract: Through the euro area crisis, financial fragmentation across jurisdictions became a prime concern for the single monetary policy. The ECB broadened the scope of its instruments and enacted a series of non-standard measures to engineer an appropriate degree of policy accommodation. The transmission of these measures through the currency union remained highly dependent on the financial structure and conditions prevailing in various regions. This paper explores the country-specific macroeconomic transmission of selected non-standard measures from the ECB using a global DSGE model with a rich financial sector: we extend the six-region multi-country model of Darracq Paries et al. (2016), introducing credit and exchange rate channels for central bank asset purchases. The portfolio rebalancing frictions are calibrated to match the sovereign yield and exchange rate responses after ECB's Asset Purchase Programme (APP) first announcement. The domestic transmission of the APP through the credit intermediation chain is significant and quite heterogeneous across the largest euro area countries. The introduction of global portfolio frictions on euro area government bond holdings by international investors opens up for a larger depreciation of the euro. The interaction between international and domestic channels affect the magnitude and the cross-country distribution of the APP impact.
    Keywords: DSGE models; banking; financial regulation; cross-country spillovers; bank lending rates; non-standard measures
    JEL: E4 E5 F4
    Date: 2019–03
  2. By: Oleksandr Faryna (National Bank of Ukraine); Magnus Jonsson (Sveriges Riksbank); Nadiia Shapovalenko (National Bank of Ukraine)
    Abstract: This paper examines the cost of disinflation as measured by the sacrifice ratio and the central bank loss function in closed and small open economies. We show that the sacrifice ratio is slightly higher in the small open economy if monetary policy in both economies follow identical Taylor rules. However, if monetary policies follow optimized simple rules the sacrifice ratio becomes slightly lower in the small open economy. The cost in terms of the central bank loss is higher in the small open economy irrespective of monetary policies. Imperfect central bank credibility changes the results quantitatively, but not qualitatively. Finally, in both economies, the optimal implementation horizon is approximately two quarters in advance and approximately four quarters if central bank credibility is imperfect.
    Keywords: disinflation, small open economy, new Keynesian model, imperfect credibility, implementation
    JEL: E31 E5 F41
    Date: 2019–03
  3. By: Hevia, Constantino (Universidad Torcuato Di Tella); Ayres, Joao Luiz (Inter-American Development Bank); Nicolini, Juan Pablo (Federal Reserve Bank of Minneapolis)
    Abstract: In this paper, we show that there is substantial comovement between prices of primary commodities such as oil, aluminum, maize, or copper and real exchange rates between developed economies such as Germany, Japan, and the United Kingdom against the US dollar. We therefore explicitly consider the production of commodities in a two-country model of trade with productivity shocks and shocks to the supplies of commodities. We calibrate the model so as to reproduce the volatility and persistence of primary commodity prices and show that it delivers equilibrium real exchange rates that are as volatile and persistent as in the data. The model rationalizes an empirical strategy to identify the fraction of the variance of real exchange rates that can be accounted for by the underlying shocks, even if those are not observable. We use this strategy to argue that shocks that move primary commodity prices account for a large fraction of the volatility of real exchange rates in the data. Our analysis implies that existing models used to analyze real exchange rates between large economies that mostly focus on trade between differentiated final goods could benefit, in terms of matching the behavior of real exchange rates, by also considering trade in primary commodities.
    Keywords: Primary commodity prices; Real exchange rate disconnect puzzle
    JEL: F31 F41
    Date: 2019–05–09
  4. By: Plamen K Iossifov; Xuan Fei
    Abstract: There is an ongoing debate in the literature on whether global trade flows have become disconnected from the large real effective exchange rate movements in the wake of the global financial crisis. The question has important policy implications for the role of exchange rates in supporting growth and restoring external balance. In this paper, we use Turkey---a large and open emerging market economy that has experienced sizable swings of the real effective exchange rate---as a case study to test competing hypotheses. Our results lend support to the finding in existing cross-country studies that the real effective exchange rate remains an important determinant of trade flows. But, its effect is not symmetric in secular periods of appreciation and depreciation and is, oftentimes, dwarfed by the impact on trade flows of the income growth differential between trade partners.
    Date: 2019–06–28
  5. By: Ricardo J. Caballero; Gunes Kamber
    Abstract: Global risk-off shocks can be highly destabilizing for financial markets and, absent an adequate policy response, may trigger severe recessions. Policy responses were more complex for developed economies with very low interest rates after the Global Financial Crisis (GFC). We document, however, that the unconventional policies adopted by the main central banks were effective in containing asset price declines. These policies impacted long rates and inspired confidence in a policy-put framework that reduced the persistence of risk-off shocks. We also show that domestic macroeconomic and financial conditions play a key role in benefiting from the spillovers of these policies during risk-off episodes. Countries like Japan, which already had very low long rates, benefited less. However, Japan still benefitted from the reduced persistence of risk-off shocks. In contrast, since one of the main channels through which emerging markets are historically affected by global risk-off shocks is through a sharp rise in long rates, the unconventional monetary policy phase has been relatively benign to emerging markets during these episodes, especially for those economies with solid macroeconomic fundamentals and deep domestic financial markets. We also show that unconventional monetary policy in the US had strong effects on long interest rates in most economies in the Asia-Pacific region (which helps during risk-off events but may be destabilizing otherwise—we do not take a stand on this tradeoff).
    JEL: E40 E44 E52 E58 F30 F41 F44 G01
    Date: 2019–07
  6. By: Darlena Tartari; Albi Tola
    Abstract: The paper analyzes the impact of International Monetary Fund (IMF) programs, in conjunction with country-specific fundamentals and global factors, on the sovereign spreads in selected European emerging market economies (EMEs) from 2000 to 2016. For this purpose, we construct IMF indexes to capture the size of financial resources and the degree of implementation of IMF programs. Our sample is limited to countries belonging to the same region and having IMF programs and data on sovereign spreads over the same period. Our findings are unique in the current literature. They suggest that the size of financial resources and the degree of implementation of IMF programs matter for sovereign spreads, whereas the mere presence of IMF programs does not seem to affect them. Available IMF financial resources and a good implementation of IMF programs are associated with lower sovereign spreads in our panel. In addition, our results show that country-specific fundamentals and global factors remain the primary drivers of sovereign spreads.
    Keywords: Sovereign spreads, emerging markets, IMF arrangements, global risk
    JEL: E44 F33 G15
    Date: 2019
  7. By: Horn, Sebastian; Reinhart, Carmen M.; Trebesch, Christoph
    Abstract: Compared with China's dominance in world trade, its expanding role in global finance is poorly documented and understood. Over the past decades, China has exported record amounts of capital to the rest of the world. Many of these financial flows are not reported to the IMF, the BIS or the World Bank. "Hidden debts" to China are especially significant for about three dozen developing countries, and distort the risk assessment in both policy surveillance and the market pricing of sovereign debt. We establish the size, destination, and characteristics of China's overseas lending. We identify three key distinguishing features.First, almost all of China's lending and investment abroad is official. As a result, the standard "push" and "pull" drivers of private cross-border flows do not play the same role in this case. Second, the documentation of China's capital exports is (at best) opaque. China does not report on its official lending and there is no comprehensive standardized data on Chinese overseas debt stocks and flows. Third, the type of flows is tailored by recipient. Advanced and higher middle-income countries tend to receive portfolio debt flows, via sovereign bond purchases of the People's Bank of China. Lower income developing economies mostly receive direct loans from China's state-owned banks, often at market rates and backed by collateral such as oil. Our new dataset covers a total of 1,974 Chinese loans and 2,947 Chinese grants to 152 countries from 1949 to 2017. We find that about one half of China's overseas loans to the developing world are "hidden".
    Keywords: China,international capital flows,official finance,hidden debts,sovereign risk,Belt and Road initiative
    JEL: F21 F34 F42 G15 H63 N25
    Date: 2019
  8. By: Andrew Lilley; Matteo Maggiori; Brent Neiman; Jesse Schreger
    Abstract: The failure to find fundamentals that co-move with exchange rates or forecasting models with even mild predictive power – facts broadly referred to as “exchange rate disconnect” – stands among the most disappointing, but robust, facts in all of international macroeconomics. In this paper, we demonstrate that U.S. purchases of foreign bonds, which did not co-move with exchange rates prior to 2007, have provided significant in-sample, and even some out-of-sample, explanatory power for currencies since then. We show that several proxies for global risk factors also start to co-move strongly with the dollar and with U.S. purchases of foreign bonds around 2007, suggesting that risk plays a key role in this finding. We use security-level data on U.S. portfolios to demonstrate that the reconnect of U.S. foreign bond purchases to exchange rates is largely driven by investment in dollar-denominated assets rather than by foreign currency exposure alone. Our results support the narrative emerging from an active recent literature that the US dollar’s role as an international and safe-haven currency has surged since the global financial crisis.
    JEL: E44 E47 F31 F32 F37 G11 G15 G23
    Date: 2019–07

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