nep-opm New Economics Papers
on Open Economy Macroeconomics
Issue of 2021‒06‒14
ten papers chosen by
Martin Berka
University of Auckland

  1. Sectoral Fiscal Multipliers and Technology in Open Economy By Olivier Cardi; Romain Restout
  2. The Real Effects of Exchange Rate Risk on Corporate Investment: International Evidence By Taylor, Mark P; Wang, Zigan; Xu, Qi
  3. Trade, Unemployment, and Monetary Policy By Cacciatore, Matteo; Ghironi, Fabio
  4. Comfort in Floating: Taking Stock of Twenty Years of Freely-Floating Exchange Rate in Chile By Albagli, Elias; Calani, Mauricio; Hadzi-Vaskov, Metodij; Marcel, Mario; Ricci, Luca Antonio
  5. The Aftermath of Sovereign Debt Crises: A Narrative Approach By Esteves, Rui; Kenny, Seán; Lennard, Jason
  6. Monetary and Macroprudential Policies under Dollar-Denominated Foreign Debt By Hidehiko Matsumoto
  7. Export-Led Decay: The Trade Channel in the Gold Standard Era By Bernardo Candia; Mathieu Pedemonte
  8. Emerging Economies' Vulnerability to Changes in Capital Flows: The Role of Global and Local Factors By Yoshihiko Norimasa; Kazuki Ueda; Tomohiro Watanabe
  9. The Micro and Macro Dynamics of Capital Flows By Saffie, Felipe; Varela, Liliana; Yi, Kei-Mu
  10. US monetary policy and the financial channel of the exchange rate: evidence from India By Shesadri Banerjee; M S Mohanty

  1. By: Olivier Cardi; Romain Restout
    Abstract: Motivated by recent evidence pointing at an increase in the TFP following higher government spending, we explore how technology affects sectoral fiscal multipliers in open economy. Our estimates for eighteen OECD countries over 1970-2015 reveal that a government spending shock increases significantly the non-traded-goods-sector share of total hours worked while the response of the value added share of non-tradables (at constant prices) is muted at all horizon. The latter finding is puzzling as government spending shocks are strongly biased toward non-tradables. Our empirical findings show that the solution to this puzzle lies in technology which responds endogenously to the government spending shock. By offsetting the effect of the biasedness of the demand shock toward non-tradables, the rise in traded relative to non-traded TFP ensures that real GDP growth is uniformly distributed across sectors (i.e., in accordance with their value added share). Because a government spending shock also leads non-traded firms to bias technological change toward labor and traded firms to bias technological change toward capital, factor-augmenting technological change rationalizes the concentration of the rise in labor in the non-traded sector. Our quantitative analysis shows that a semi-small open economy model with tradables and non-tradables can reproduce the sectoral fiscal multipliers we document empirically once we let the decision on technology improvement vary across sectors and allow firms to change the mix of labor- and capital-augmenting efficiency over time.
    Keywords: Sector-biased government spending shocks, Endogenous technological change, Factor-augmenting efficiency, Open economy, Labor reallocation, CES production function, Labor income share
    JEL: E25 E62 F11 F41 O33
    Date: 2021
  2. By: Taylor, Mark P; Wang, Zigan; Xu, Qi
    Abstract: We empirically investigate the real effects of exchange rate risk on investment activities of international firms. We provide cross-country, firm-level evidence that greater unexpected currency volatility leads to significantly lower capital expenditures. The effect is stronger for countries with higher economic openness and for firms that do not use currency derivatives to hedge. We empirically test the implications of two potential mechanisms: Real options and precautionary savings. Our findings are consistent with both explanations. Two historical events in the FX markets strengthen the identification of our results.
    Keywords: corporate investment; Exchange rate; uncertainty
    JEL: F31 G31 G32
    Date: 2020–07
  3. By: Cacciatore, Matteo; Ghironi, Fabio
    Abstract: We study how trade linkages affect the conduct of monetary policy in a two-country model with heterogeneous firms, endogenous producer entry, and labor market frictions. We show that the ability of the model to replicate key empirical regularities following trade integration---synchronization of business cycles across trading partners and reallocation of market shares toward more productive firms---is central to understanding how trade costs affect monetary policy trade-offs. First, productivity gains through firm selection reduce the need of positive inflation to correct long-run distortions. As a result, lower trade costs reduce the optimal average inflation rate. Second, as stronger trade linkages increase business cycle synchronization, country-specific shocks have more global consequences. Thus, the optimal stabilization policy remains inward looking. By contrast, sub-optimal, inward-looking stabilization---for instance too narrow a focus on price stability---results in larger welfare costs when trade linkages are strong due to inefficient fluctuations in cross-country aggregate demand.
    Keywords: Optimal monetary policy; trade integration
    JEL: E24 E32 E52 F16 F41 J64
    Date: 2020–06
  4. By: Albagli, Elias; Calani, Mauricio; Hadzi-Vaskov, Metodij; Marcel, Mario; Ricci, Luca Antonio
    Abstract: Chile offers an example of a country that has overcome the fear of floating by reducing balance sheet mismatches, enhancing financial market development, as well as improving monetary, fiscal, and political institutions, and strengthening policy credibility. Under the floating regime, Chile's economic adjustment to external shocks appears significantly improved, and its exchange rate pass-through has substantially declined. Our results reinforce the case that moving to a clear and credible floating regime can be associated with a reduction in the fear of floating via economic transformation (like smaller balance sheet mismatches, a larger hedging market, and a lower exchange rate pass-through).
    Keywords: central bank independence; exchange rate pass-through; Exchange Rate Regime; FX derivatives; Hedging; Policy Credibility
    JEL: E31 E52 F31 F33 F41 G15
    Date: 2020–06
  5. By: Esteves, Rui (International Economics and International History Departments, Graduate Institute of International and Development Studies, Geneva); Kenny, Seán (Department of Economic History, Lund University); Lennard, Jason (Department of Economic History, London School of Economics)
    Abstract: Default is as old as sovereign debt. Since 1820, countries that issued sovereign debt have spent 18% of time in a state of default. Despite the scale of the problem, the causes and consequences of defaults are still imperfectly understood. In this paper we quantify the aggregate costof defaults, based on a large panel of 50 sovereigns between 1870and 2010. Since defaults are endogenousto the business cycle, we use the narrative approach to identify plausibly exogenous debt crises. Our estimatesyield significant and persistent costsof defaults starting at 1.6% of GDP and peaking at3.3% before reverting to trend five years after a debt event. Moreover, weidentify a large heterogeneity of costs by the cause of default. Higher costs are associated with defaults initiated bynegative supply shocks, political crises,or adverse terms of trade. In contrast, domestic demand shocks have a moderate effect, quickly reversed. Despite working with a large sample, we document how average estimates of default costs can be sensitive to different dating and definitions of defaults.
    Keywords: Business cycles; narrative approach; sovereign debt crises
    JEL: E32 F34 F41 G01 H63 N10 N20
    Date: 2021–05–21
  6. By: Hidehiko Matsumoto (Economist, Institute for Monetary and Economic Studies, Bank of Japan (currently, Assistant Professor, National Graduate Institute for Policy Studies, E-mail:
    Abstract: This paper studies the optimal monetary and macroprudential policies in a small open economy that borrows from abroad in foreign currency. The model features a novel mechanism in which sudden stops due to an occasionally binding borrowing constraint trigger a sharp currency depreciation through balance of payments adjustments, thereby increase the domestic-currency value of foreign debt and cause severe economic downturns. A policy analysis shows that a contractionary monetary policy mitigates depreciation during a crisis, but the anticipation of policy interventions during the crisis induces larger borrowings ex ante and destabilizes the economy. A combination of an ex ante macroprudential tax on foreign borrowing and ex post monetary policy interventions can stabilize the economy and improve social welfare.
    Keywords: Exchange rate, Balance of payments, Sudden stops, Monetary policy, Macroprudential policy
    JEL: F31 F32 F38 F41
    Date: 2021–05
  7. By: Bernardo Candia; Mathieu Pedemonte
    Abstract: Flexible exchange rates can facilitate price adjustments that buffer macroeconomic shocks. We test this hypothesis using adjustments to the gold standard during the Great Depression. Using prices at the goods level, we estimate exchange rate pass-through and find gains in competitiveness after a depreciation. Using novel monthly data on city-level economic activity, combined with employment composition and sectoral export data, we show that American exporting cities were significantly affected by changes in bilateral exchange rates. They were negatively impacted when the UK abandoned the gold standard in 1931 and benefited when the US left the gold standard in April 1933. We show that the gold standard deepened the Great Depression, and abandoning it was a key driver of the economic recovery.
    Keywords: Exchange rate regime; currency unions; export-led growth; Great Depression; gold standard
    JEL: E32 F45 N12
    Date: 2020–05–25
  8. By: Yoshihiko Norimasa (Bank of Japan); Kazuki Ueda (Bank of Japan); Tomohiro Watanabe (Nippon Life Insurance Company)
    Abstract: This study uses panel quantile regression to examine the risk of capital outflows in times of stress (capital flows-at-risk, CFaR) for 16 emerging economies. Our analysis shows that changes in financial conditions in advanced economies and in the monetary policy stance of the United States affect the risk of large capital outflows for some countries. In particular, we find that tighter financial conditions in advanced economies during a phase when the U.S. monetary policy stance is changing significantly affect emerging economies' CFaR. Further, using government debt as a measure of emerging economies' structural vulnerability, we find that an increase in government debt substantially raises the risk of capital outflows in times of stress. Moreover, while in the case of debt investment, CFaR tend to be greater the higher the level of government debt, in the case of other investment (consisting mainly of bank lending), CFaR tend to increase when financial conditions in advanced economies deteriorate.
    Keywords: Risk of Capital Outflows (CFaR: Capital Flows-at-Risk); Global Factors; Local Factors; Panel Quantile Regression; Relative Entropy
    JEL: E52 F32 F34 F37
    Date: 2021–05–26
  9. By: Saffie, Felipe; Varela, Liliana; Yi, Kei-Mu
    Abstract: We empirically and theoretically study the effects of capital flows on resource allocation within sectors and cross-sectors. Novel data on service firms - in addition to manufacturing firms - allows us to assess two channels of resource reallocation. Capital inflows lower the relative price of capital, which promotes capital-intensive industries - an input-cost channel. Second, capital inflows increase aggregate consumption, which tilts the demand towards goods with high income elasticities - a consumption channel. We provide evidence for these two channels using firm-level census data from the financial liberalization in Hungary, a policy reform that led to capital inflows. We show that firms in capital-intensive industries expand, as do firms in industries producing goods with high income elasticities. In the short-term, the consumption channel dominates and resources reallocate towards high income elasticity activities, such as services. We build a dynamic, multi-sector, heterogeneous firm model of an economy transitioning to its steady-state. We simulate a capital account liberalization and show that the model can rationalize our empirical findings. We then use the model to assess the permanent effects of capital flows and show that the long-term allocation of resources and, thus, aggregate productivity depend on degree of long-term financial openness of the economy. Larger liberalizations trigger long-run debt pushing the country to a permanent trade surplus. This tilts long-run production towards manufacturing exporters, which also increases aggregate productivity
    Keywords: Capital Flows; Financial Liberalization; Firm Dynamics; non-homothetic preferences; reallocation
    JEL: F15 F41 F43 F63
    Date: 2020–06
  10. By: Shesadri Banerjee; M S Mohanty
    Abstract: The effect of US monetary policy on EMEs is one of the fiercely debated issues in international finance. We contribute to this debate using micro- and macro-level analyses from India over the period 2004-2019. Using a dynamic panel estimation model of non-financial firms, we show that US monetary tightening adversely affects firms’ net worth and reduces domestic credit relative to external credit. Using a sign-identified VAR model, we find that the contractionary US monetary policy leads to a significant downturn in the domestic credit and business cycles. The responses of firms and the impact on the domestic credit cycle suggest that the financial channel of the exchange rate is one of the conduits transmitting US monetary policy to India.
    Keywords: US monetary policy, international transmission of monetary policy, dynamic panel estimation, sign-restricted VAR model, financial channel, Indian economy
    JEL: E32 E52 F41 F42 F61 F62
    Date: 2021–05

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