nep-opm New Economics Papers
on Open Economy Macroeconomics
Issue of 2021‒03‒08
nine papers chosen by
Martin Berka
University of Auckland

  1. International Transmission of Interest Rates: The Role of International Reserves and Sovereign Debt By António Afonso; Florence Huart; João Tovar Jalles; Piotr Stanek
  2. A Fundamental Connection: Exchange Rates and Macroeconomic Expectations By Vania Stavrakeva; Jenny Tang
  3. The Role of Fiscal Policies for External Imbalances: Evidence from the European Union By António Afonso; José Carlos Coelho
  4. What kind of region reaps the benefits of a currency union? By Augusto Cerqua; Roberta Di Stefano; Guido Pellegrini
  5. ECB-Global 2.0: a global macroeconomic model with dominant-currency pricing, tariffs and trade diversion By Georgiadis, Georgios; Hildebrand, Sebastian; Ricci, Martino; Schumann, Ben; van Roye, Björn
  6. Fixed exchange rate - a friend or foe of labor cost adjustments? By Milivojevic, Lazar; Tatar, Balint
  7. Sovereign default and imperfect tax enforcement By Francesco Pappadà; Yanos Zylberberg
  8. Understanding International Price and Consumption Disparities By Long Hai Vo
  9. The New Era of Unconditional Convergence By Dev Patel; Justin Sandefur; Arvind Subramanian

  1. By: António Afonso; Florence Huart; João Tovar Jalles; Piotr Stanek
    Abstract: We analyse the international transmission of interest rates by focusing on the role of the accumulation of international reserves and on the financing of sovereign debt. An increase in foreign exchange reserves is expected to moderate the influence of U.S. interest rates. However, a high level of government debt raises the sovereign risk premium. Moreover, an increase in the stock of government debt denominated in foreign currency may increase the expected rate of depreciation of the domestic currency. We explain the theoretical mechanisms in a model, which describes the money market equilibrium in an economy with capital account openness. Then, we test the predictions of the model for a panel of advanced and developing economies over the period 1970-2018. Our main findings are: i) significant spillovers from the U.S. interest rates to other countries, mostly for Advanced Economies; ii) a dampening effect of the share of external liabilities in the domestic currency, clearly a determinant of risk premium; iii) a negative effect of international reserves on interest rates, as expected; iv) higher reserves decrease risk premia, for long-term interest rates; v) the significance of spillovers fades once the sovereign debt reaches 100% of GDP in developed countries.
    Date: 2021
  2. By: Vania Stavrakeva; Jenny Tang
    Abstract: This paper presents new stylized facts about exchange rates and their relationship with macroeconomic fundamentals. We show that macroeconomic surprises explain a large majority of the variation in nominal exchange rate changes at a quarterly frequency. Using a novel present value decomposition of exchange rate changes that is disciplined with survey forecast data, we show that macroeconomic surprises are also a very important driver of the currency risk premium component and explain about half of its variation. These surprises have even greater explanatory power during economic downturns and periods of financial uncertainty.
    Keywords: exchange rates; exchange rate disconnect; macroeconomic announcements; international finance; professional forecast
    JEL: E44 F31 G14 G15
    Date: 2020–12–01
  3. By: António Afonso; José Carlos Coelho
    Abstract: We revisit the relation between budget deficits and current account deficits for 28 European Union countries from 1996 to 2019. We find that an increase in budget deficit of 1 pp of GDP results in a deterioration of the current account deficit of 0.318 pp of GDP, which supports the Twin Deficits Hypothesis. On the other hand, dynamic panel estimates partially corroborate the Equivalence Ricardian Hypothesis in the presence of a fiscal rules index. In addition: i) the relation between the two deficits is asymmetric and the negative impact of the recent Eurozone banking and sovereign debt crisis on the current account balance is observed; ii) after 2010, the budget balance positively affects the current account balance; and iii) the positive impact of the budget balance on the current account balance is higher in the cases of non-Eurozone countries, high budget deficit countries, and low exports countries, whereas it is lower in the cases of Eurozone countries, low budget deficit countries, and high exports countries.
    Date: 2021
  4. By: Augusto Cerqua (Department of Social Sciences and Economics, Sapienza University of Rome); Roberta Di Stefano (Department of Methods and Models for Economics, Territory and Finance, Sapienza University of Rome); Guido Pellegrini (Department of Social Sciences and Economics, Sapienza University of Rome)
    Abstract: What is the economic impact of joining a currency union? Is this impact heterogeneous across regions? And how does it change in case of a recession? We answer these questions by investigating the economic impact of joining the euro area for the latecomers, i.e., the countries that adopted the euro after 2002. Di erently from previous literature, we use NUTS-2 regions as units of analysis. This novelty allows us to investigate the theoretical predictions of a currency union impact at a more appropriate geographi- cal level. Using a counterfactual approach based on the recently developed kernel balancing estimator, we estimate the overall as well as the disaggre- gated impact of joining the euro area. We find that the adoption of the euro brought about a small positive e ect, which was, however, dampened by the Great Recession. Individual regional estimates suggest heterogeneous returns with benefits accruing mostly to core regions.
    Keywords: euro area, accession countries, regional data, kernel balancing estimator
    JEL: C23 F33 R11
    Date: 2021–02
  5. By: Georgiadis, Georgios; Hildebrand, Sebastian; Ricci, Martino; Schumann, Ben; van Roye, Björn
    Abstract: In a highly interlinked global economy a key question is how foreign shocks transmit to the domestic economy, how domestic shocks affect the rest of the world, and how policy actions mitigate or amplify spillovers. For policy analysis in such a context global multi-country macroeconomic models that allow a structural interpretation are needed. In this paper we present a revised version of ECB-Global, the European Central Bank's global macroeconomic model. ECB-Global 2.0 is a semi-structural, global multi-country model with rich channels of international shock propagation through trade, oil prices and global financial markets for the euro area, the US, Japan, the UK, China, oil-exporting economies, Emerging Asia, and a rest-of-the-world block. Relative to the original version of model, ECB-Global 2.0 features dominant-currency pricing, tariffs and trade diversion. We illustrate the usefulness of ECB-Global exploring scenarios motivated by recent trade tensions between China and the US. JEL Classification: C51, E30, E50
    Keywords: macro-modelling, multi-country models, spillovers
    Date: 2021–03
  6. By: Milivojevic, Lazar; Tatar, Balint
    Abstract: This paper examines the effectiveness of labor cost reductions as a means to stimulate economic activity and assesses the differences which may occur with the prevailing exchange rate regime. We develop a medium-scale three-region DSGE model and show that the impact of a cut in employers' social security contributions rate does not vary significantly under different exchange rate regimes. We find that both the interest rate and the exchange rate channel matters. Furthermore, the measure appears to be effective even if it comes along with a consumption tax increase to preserve long-term fiscal sustainability. Finally, we assess whether obtained theoretical results hold up empirically by applying the local projection method. Regression results suggest that changes in employers' social security contributions rates have statistically significant real effects - a one percentage point reduction leads to an average cumulative rise in output of around 1.3 percent in the medium term. Moreover, the outcome does not differ significantly across the different exchange rate regimes.
    Keywords: Structural policies,Labor cost adjustments,Exchange rate regime,Local projection,DSGE
    JEL: C53 C54 E32 E37 E61 E62 F41 F45 F47
    Date: 2021
  7. By: Francesco Pappadà (PSE - Paris School of Economics - ENPC - École des Ponts ParisTech - ENS Paris - École normale supérieure - Paris - PSL - Université Paris sciences et lettres - UP1 - Université Paris 1 Panthéon-Sorbonne - CNRS - Centre National de la Recherche Scientifique - EHESS - École des hautes études en sciences sociales - INRAE - Institut National de Recherche pour l’Agriculture, l’Alimentation et l’Environnement, Banque de France - Banque de France - Banque de France); Yanos Zylberberg (University of Bristol [Bristol], CEPR - Center for Economic Policy Research - CEPR)
    Abstract: The effect of fiscal policy on default risk is mitigated by the response of tax compliance. To explore the consequences of this stylized fact, we build a model of sovereign debt with limited commitment and imperfect tax enforcement. Fiscal policy persistently affects the size of the informal economy, which impacts future fiscal revenues and default risk. The interaction of imperfect tax enforcement and limited commitment strongly constrains the dynamics of optimal fiscal policy and leads to costly uctuations in consumption.
    Keywords: Sovereign default,Imperfect tax enforcement,Fiscal policy
    Date: 2021–02
  8. By: Long Hai Vo (Economics Department, Business School, The University of Western Australia; Research Center in Business, Economics and Resources, HCMC Open University; Faculty of Banking, Finance and Business Administration, Quy Nhon University)
    Abstract: This study proposes a new measure of the tradability of 120+ commodities based on price dispersion. This approach is used to construct price indices of tradables and non-tradables for 150+ countries. The expenditure share of tradables is lower for richer countries, while the relative price of non-tradables, which plays an important role in the determination of real exchange rates, is higher. Secondly, a common-factor approach (based on principal components) is introduced to compress the large volume of information on prices and quantities consumed globally. We find that cross-commodity correlations are higher for prices than for consumption. In addition, income is responsible for 98% of the variation in the first principal component of consumption but explains only 24% of the first price component. This suggests consumption are driven primarily by domestic factors, while prices are determined by factors outside the country, along the lines of the Purchasing Power Parity theory.
    Keywords: Economic measurement; Price and consumption; Principal component analysis; Tradability
    JEL: F40 E01 C43
    Date: 2021
  9. By: Dev Patel (Harvard University); Justin Sandefur (Centre for Global Development); Arvind Subramanian (Ashoka University)
    Abstract: The central fact that has motivated the empirics of economic growth—namely unconditional divergence—is no longer true and has not been so for decades. Across a range of data sources, poorer countries have in fact been catching up with richer ones, albeit slowly, since the mid-1990s. This new era of convergence does not stem primarily from growth moderation in the rich world but rather from accelerating growth in the developing world, which has simultaneously become remarkably less volatile and more persistent. Debates about a “middle-income trap†also appear anachronistic: middle-income countries have exhibited higher growth rates than all others since the mid-1980s.
    Keywords: JEL codes: F43; N10; O47 Keywords: Unconditional convergence, economic growth, middle-income trap
    Date: 2021–02

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