nep-opm New Economics Papers
on Open Economy Macroeconomics
Issue of 2021‒04‒12
four papers chosen by
Martin Berka
University of Auckland

  1. Exchange Rate Fluctuations and Firm Leverage By Ṣebnem Kalemli-Özcan; Ilhyock Shim; Xiaoxi Liu
  2. Pandemics, Incentives, and Economic Policy: A Dynamic Model By Roberto Chang; Humberto Martínez; Andrés Velasco
  3. Economic performance under different monetary policy frameworks By Cobham, David; Macmillan, Peter; Mason, Connor; Song, Mengdi
  4. Dancing Alone or Together: The Dynamic Effects of Independent and Common Monetary Policies By Povilas Lastauskas; Julius Stakenas

  1. By: Ṣebnem Kalemli-Özcan; Ilhyock Shim; Xiaoxi Liu
    Abstract: We quantify the effect of exchange rate fluctuations on firm leverage. When home currency appreciates, firms who hold foreign currency debt and local currency assets observe higher net worth as appreciation lowers the value of their foreign currency debt. These firms can borrow more as a result and increase their leverage. When home currency depreciates, the reverse happens as firms have to de-lever with a negative shock to their balance sheets. Using firm-level data for leverage from 10 emerging market economies during the period from 2002 to 2015, we show that firms operating in countries whose non-financial sectors hold more of the debt in foreign currency, increase (decrease) their leverage relatively more after home currency appreciations (depreciations). Combining the leverage data with firm-level FX debt data for 4 emerging market countries, we further show that our results hold at the most granular level. Our quantitative results are asymmetric: the effects of depreciations, that are generally associated with sudden stops, are quantitatively larger than those of appreciations, which take place at a slower pace over time during capital inflow episodes. As our exercise compares depreciations and appreciations of similar size, these results are suggestive of financial frictions being more binding during depreciations than a possible relaxation of such frictions during appreciations.
    JEL: F3
    Date: 2021–03
  2. By: Roberto Chang; Humberto Martínez; Andrés Velasco
    Abstract: The advent of a pandemic is an exogenous shock, but the dynamics of contagion are very much endogenous --and depend on choices that individuals make in response to incentives. In such an episode, economic policy can make a difference not just by alleviating economic losses but also via incentives that affect the trajectory of the pandemic itself. We develop this idea in a dynamic equilibrium model of an economy subject to a pandemic. Just as in conventional SIR models, infection rates depend on how much time people spend at home versus working outside the home. But in our model, whether to go out to work is a decision made by individuals who trade off higher pay from working outside the home today versus a higher risk of infection and expected future economic and health-related losses. As a result, pandemic dynamics depend on factors that have no relevance in conventional models. In particular, expectations and forward-looking behavior are crucial and can result in multiplicity of equilibria with different levels of economic activity, infection, and deaths. The analysis yields novel policy lessons. For example, incentives embedded in a fiscal package resembling the U.S. CARES Act can result in two waves of infection.
    JEL: E6 F4 H3 I3
    Date: 2021–04
  3. By: Cobham, David; Macmillan, Peter; Mason, Connor; Song, Mengdi
    Abstract: We first outline the major trends in monetary policy frameworks, which are shifts towards inflation targeting and towards frameworks which offer higher degrees of monetary control. We then examine the economic performance (inflation and growth) associated with different frameworks, presenting unconditional and conditional analyses, running regressions weighted by GDP and population as well as by the number of countries, and using predictions of countries’ monetary policy framework choices to address the issue of endogeneity. We find some differences in performance associated with the different monetary policy frameworks, together with a general improvement over time which is explained in part by the trends towards inflation targeting and more precise monetary control but in part, and perhaps more strongly, reflects a more general trend towards better economic performance.
    Keywords: monetary policy framework, exchange rate targeting, inflation targeting, inflation, economic growth, weighted regressions
    JEL: E52 E61 F41
    Date: 2021–04–03
  4. By: Povilas Lastauskas (Bank of Lithuania, Vilnius University); Julius Stakenas (Vilnius University)
    Abstract: What would have been the hypothetical effect of monetary policy shocks had a country never joined the euro area, in cases where we know that the country in question actually did join the euro area? It is one thing to investigate the impact of joining a monetary union, but quite another to examine two things at once: joining the union and experiencing actual monetary policy shocks. We propose a methodology that combines synthetic control ideas with the impulse response functions to uncover dynamic response paths for treated and untreated units, controlling for common unobserved factors. Focusing on the largest euro area countries, Germany, France, and Italy, we find that an unexpected rise in interest rates depresses inflation and significantly appreciates exchange rate, whereas GDP fluctuations are less successfully controlled when a country belongs to the monetary union than would have been the case under the independent monetary policy. Importantly, Italy turns out to be the overall beneficiary, since all three channels – price, GDP, and exchange rate – deliver the desired results. We also find that stabilizing an economy within a union requires somewhat smaller policy changes than attempting to stabilize it individually, and therefore provides more policy space.
    Keywords: Dynamic causal effects; Monetary union; Price puzzle; Common factors
    JEL: C14 C32 C33 E52
    Date: 2021–03–26

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