nep-opm New Economics Papers
on Open Economy Macroeconomics
Issue of 2021‒07‒19
twelve papers chosen by
Martin Berka
University of Auckland

  1. Mussa Puzzle Redux By Oleg Itskhoki; Dmitry Mukhin
  2. When Interest Rates Go Low, Should Public Debt Go High? By Johannes Brumm; Xiangyu Feng; Laurence J. Kotlikoff; Felix Kubler
  3. One-Stop Source: A Global Database of Inflation By Ha, Jongrim; Kose, M. Ayhan; Ohnsorge, Franziska
  4. Lending Standards and Borrowing Premia in Unsecured Credit Markets By Kyle Dempsey; Felicia Ionescu
  5. Current Account Targeting Hypothesis versus Twin Deficit Hypothesis: the EMU experience of Portugal By António Afonso; José Carlos Coelho
  6. Does It Matter How Central Banks Accumulate Reserves? Evidence from Sovereign Spreads By César Sosa-Padilla; Federico Sturzenegger
  7. The evolution of Cambodian current account: A dynamic general equilibrium analysis By Kheng, Veasna; Pan, Lei
  8. Exchange rates, remittances, and competitiveness in Haiti By Díaz-Bonilla, Eugenio; Paz, Flor; Piñeiro, Valeria
  9. Macroeconomic Policy Making and Current Account Imbalances in the Euro Area By Taiki Murai; Gunther Schnabl
  10. The Complex Crises Database: 70 Years of Macroeconomic Crises By Manuel Bétin; Umberto Collodel
  11. Fundamentals vs. policies: can the US dollar's dominance in global trade be dented? By Georgios Georgiadis; Helena Le Mezo; Arnaud Mehl; Cédric Tille
  12. The Link between Financial Globalisation and Integration into Global Value Chains and Macroeconomic Impacts By Werner Hölzl

  1. By: Oleg Itskhoki; Dmitry Mukhin
    Abstract: The Mussa (1986) puzzle is the observation of a sharp and simultaneous increase in the volatility of both nominal and real exchange rates following the end of the Bretton Woods System of pegged exchange rates in 1973. It is commonly viewed as a central piece of evidence in favor of monetary non-neutrality because it is an instance in which a change in the monetary regime caused a dramatic change in the equilibrium behavior of a real variable (the real exchange rate) and is often further interpreted as direct evidence in favor of models with nominal rigidities in price setting. This paper shows that the data do not support this latter conclusion because there was no simultaneous change in the properties of the other macro variables, nominal or real. We show that an extended set of Mussa facts equally falsifies both conventional flexible-price RBC models and sticky-price New Keynesian models as explanations for the Mussa puzzle. We present a resolution to the broader Mussa puzzle based on a model of segmented financial market — a particular type of financial friction by which the bulk of the nominal exchange rate risk is held by financial intermediaries and is not shared smoothly throughout the economy. We argue that rather than discriminating between models with sticky versus flexible prices, or monetary versus productivity shocks, the Mussa puzzle provides sharp evidence in favor of models with monetary non-neutrality arising in the financial market, suggesting the importance of monetary transmission via the risk premium channel.
    JEL: E30 E40 E50 F30 F40 G10
    Date: 2021–06
  2. By: Johannes Brumm; Xiangyu Feng; Laurence J. Kotlikoff; Felix Kubler
    Abstract: Is deficit finance, explicit or implicit, free when borrowing rates are routinely lower than growth rates? Specifically, can the government make all generations better off by perpetually taking from the young and giving to the old? We study this question in simple closed and open economies and show that achieving Pareto gains requires implausible calibrations. Even then, the gains reflect, depending on the economy's openness, improved intergenerational risk-sharing, improved international risk-sharing, and beggaring thy neighbor – not intergenerational redistribution per se. Low government borrowing rates, including borrowing rates running far below growth rates, justify improved risk-sharing between generations and countries. They provide no convincing basis for using deficit finance to redistribute from young and future generations or other countries.
    JEL: H0 H2 H21 H22 H5 H6
    Date: 2021–06
  3. By: Ha, Jongrim; Kose, M. Ayhan; Ohnsorge, Franziska
    Abstract: This paper introduces a global database that contains inflation series: (i) for a wide range of inflation measures (headline, food, energy, and core consumer price inflation; producer price inflation; and gross domestic product deflator changes); (ii) at multiple frequencies (monthly, quarterly and annual) for an extended time period (1970-2021); and (iii) for a large number of (up to 196) countries. As it doubles the number of observations over the next-largest publicly available sources, our database constitutes a comprehensive, single source for inflation series. We illustrate the potential use of the database with three applications. First, we study the evolution of inflation since 1970 and document the broad-based disinflation around the world over the past half-century, with global consumer price inflation down from a peak of roughly 17 percent in 1974 to 2.5 percent in 2020. Second, we examine the behavior of inflation during global recessions. Global inflation fell sharply (on average by 0.9 percentage points) in the year to the trough of global recessions and continued to decline even as recoveries got underway. In 2020, inflation declined less, and more briefly, than in any of the previous four global recessions over the past 50 years. Third, we analyze the role of common factors in explaining movements in different measures of inflation. While, across all inflation measures, inflation synchronization has risen since the early 2000s, it has been much higher for inflation measures that involve a larger share of tradable goods.
    Keywords: Prices, global inflation, deflation, inflation synchronization, global factor
    JEL: E30 E31 F42
    Date: 2021–07–01
  4. By: Kyle Dempsey; Felicia Ionescu
    Abstract: Using administrative data from Y-14M and Equifax, we find evidence for large spreads in excess of those implied by default risk in the U.S. unsecured credit market. These borrowing premia vary widely by borrower risk and imply a nearly flat relationship between loan prices and repayment probabilities, at odds with existing theories. To close this gap, we incorporate supply frictions – a tractably specified form of lending standards – into a model of unsecured credit with aggregate shocks. Our model matches the empirical incidence of both risk and borrowing premia. Both the level and incidence of borrowing premia shape individual and aggregate outcomes. Our baseline model with empirically consistent borrowing premia features 45% less total credit balances and 30% more default than a model with no such premia. In terms of dynamics, we estimate that lending standards were unchanged for low risk borrowers but tightened for high risk borrowers at the outset of Covid-19. Borrowing premia imply a smaller increase in credit usage in response to a negative shock, which this tightening reduced further. Since spreads on loans of all risk levels are countercyclical, all consumers use less unsecured credit for insurance over the cycle, leading to 60% higher relative consumption volatility than in a model with no borrowing premia.
    Keywords: Bankruptcy; Borrowing premia; Consumer credit; Business cycles
    JEL: E21 E32 E44 E51 G12 G21 G22
    Date: 2021–06–24
  5. By: António Afonso; José Carlos Coelho
    Abstract: We study the relationship between the government budget balance and the current account balance for Portugal, using quarterly data from 1999 to 2019. On the one hand, the causality tests find a unidirectional relation running from the current account balance to the government budget balance. On the other hand, IV estimations show a bi-directional relationship between these variables, and the existence of a bilateral relationship between the structural components of both balances. Even so, the policy implication is that the use of fiscal policy to correct the external imbalance, especially in an economic crisis, is not substantial, due to the small size of the estimated impact. In addition, with an ARDL model, we find a negative long run relationship between the share of public consumption on GDP and the current account balance. As expected, the variation of real public consumption produces an adverse accumulated response on the current account balance. Finally, the investment rate negatively affects the cyclical component of the current account balance and contributes to the structural improvement of the budget balance.
    Keywords: budget balance; external balance; current account targeting hypothesis; twin deficits; government consumption; ARDL; causality; VAR; Portugal
    JEL: F32 F41 H62 C22
    Date: 2021–06
  6. By: César Sosa-Padilla; Federico Sturzenegger
    Abstract: There has been substantial research on the benefits of accumulating foreign reserves, but less on the relative merits of how these reserves are accumulated. In this paper we explore whether the form of accumulation affects country risk. We first present a model of endogenous sovereign debt defaults, where we show that reserve accumulation through the issuance of debt contingent on local output reduces spreads in a way that reserve accumulation with foreign borrowing does not. We confirm this model prediction when taking the theory to the data. These results suggest that attention should be placed on the way reserves are accumulated, a distinction that has important practical implications. In particular, our results call into question the benefits of programs of reserves strengthening through external debt such as those typically implemented by multilateral organizations.
    JEL: F32 F34 F41
    Date: 2021–06
  7. By: Kheng, Veasna; Pan, Lei
    Abstract: This paper develops and estimates a small open economy real-business cycle model to study the dynamics of Cambodian current account. Differing from previous studies, we include net unilateral transfers and net foreign direct investment (FDI) as additional sources of macroeconomic fluctuations. We show that these two sources explain the variations in current account better than the shocks that are widely identified in the literature (i.e. productivity and interest rate). Our model captures Cambodia’s saving-and investment behaviour and matches well the evolution of its current account. Specifically, the measurement error is nearly 4% and the correlation between data and model is around 0.93. As a step further, using our well-fitted model, we predict the future trend of Cambodian current account in the context of negative shocks in productivity, remittance, FDI and COVID-19 pandemic.
    Keywords: real business cycle; current account; FDI; unilateral transfer; COVID-19
    JEL: F3 F41
    Date: 2021
  8. By: Díaz-Bonilla, Eugenio; Paz, Flor; Piñeiro, Valeria
    Abstract: The exchange rate (ER) is one of the most important macroeconomic variables in the economy, defining the price of the domestic currency in relation to a foreign currency or currencies. The level and changes (both actual and expected) of the ER (nominal and real, defined below) have wide influence throughout the economy, affecting and being affected by the demand and supply of traded and nontraded goods and services, the demand and supply of money and monetary assets denominated in local currency in comparison with assets denominated in other currencies, and inflows or outflows of capitals and remittances, among main key variables. In consequence, the ER and ER policies influence growth, employment, inflation, international trade, and banking and fiscal stability (a classical general treatment can be found in Krueger 1983; see also Corden 1990).
    Keywords: HAITI, CARIBBEAN, exchange rate, remittances, economic competition, aid programmes, valuation
    Date: 2021
  9. By: Taiki Murai; Gunther Schnabl
    Abstract: The paper analyses the role of fiscal and monetary policy for the development of the current account imbalances in the euro area, including the most recent developments during the coronavirus crisis. Several financial transmission channels such as international bank lending, changes in TARGET2 balances, international rescue credit and government bond purchases of euro area central banks are identified. It is found that differing fiscal policy stances which have interacted differently with the ECB’s monetary policy have been at roots of first diverging and then converging current account positions in the euro area. Since the European financial and debt crisis, public financing mechanisms and the unconventional monetary of the ECB have contributed to the persistence of intra-euro area current account imbalances.
    Keywords: current account, current account imbalances, financial account, euro, EU, European Monetary Union, monetary policy, fiscal policy, TARGET2
    JEL: H62 F32 F33 F42
    Date: 2021
  10. By: Manuel Bétin (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, PJSE - Paris Jourdan Sciences Economiques - UP1 - Université Paris 1 Panthéon-Sorbonne - ENS Paris - École normale supérieure - Paris - PSL - Université Paris sciences et lettres - EHESS - École des hautes études en sciences sociales - ENPC - École des Ponts ParisTech - CNRS - Centre National de la Recherche Scientifique - INRAE - Institut National de Recherche pour l’Agriculture, l’Alimentation et l’Environnement); Umberto Collodel (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, PJSE - Paris Jourdan Sciences Economiques - UP1 - Université Paris 1 Panthéon-Sorbonne - ENS Paris - École normale supérieure - Paris - PSL - Université Paris sciences et lettres - EHESS - École des hautes études en sciences sociales - ENPC - École des Ponts ParisTech - CNRS - Centre National de la Recherche Scientifique - INRAE - Institut National de Recherche pour l’Agriculture, l’Alimentation et l’Environnement)
    Abstract: While the recent empirical literature on macroeconomic crises focused on a limited subset of events (e.g. banking, currency and sovereign), macroeconomic crises are usually characterized by large scale domino effects that involve a much wider and heterogeneous array of sectors and transform them into highly complex events. This data limitation, in turn, hampers the understanding of these chaotic and painful episodes for researchers and policymakers alike. After building a raw corpus of roughly 23,000 International Monetary Fund country reports, we harness the power of text mining to produce a new database on crises discussion: the database covers 20 different types of economic, financial and non economic events for a sample of 181 countries over the period 1950-2019. We document a substantial rise in complexity of macroeconomic crises throughout the X X and X X I t h century and a higher centrality of the non-fundamental channel in the system.
    Keywords: Financial crises,Narrative Economics,IMF,Text Analysis,Complexity
    Date: 2021–06
  11. By: Georgios Georgiadis (European Central Bank); Helena Le Mezo (European Central Bank); Arnaud Mehl (European Central Bank); Cédric Tille (IHEID, Graduate Institute of International and Development Studies, Geneva)
    Abstract: The US dollar plays a dominant role in the invoicing of international trade, albeit not an exclusive one as more than half of global trade is invoiced in other currencies. Of particular interest are the euro, with a large role, and the renminbi, with a rising role. These two currencies are well suited to contrast the roles of economic fundamentals and policies, as European policy makers have taken a neutral stance in contrast to the promotion of the international role of the renminbi by the Chinese authorities. We assess the drivers of invoicing using the most recent and comprehensive data set for 115 countries over 1999-2019. We find that standard mechanisms that foster use of a large economy's currency predicted by theory ‒ i.e. strategic complementarities in price setting and integration in cross-border value chains ‒ underpin use of the dollar and the euro for trade with the United States and the euro area. These mechanisms also support the role of the dollar, but not the euro, in trade between non-US and non-euro area countries, making the dollar the globally dominant invoicing currency. Fundamentals and policies have played a contrasted role for the use of the renminbi. We find that China's integration into global trade has further strengthened the dominant status of the dollar at the expense of the euro. At the same time, the establishment of currency swap lines by the People's Bank of China has been associated with increases in renminbi invoicing, with an adverse effect on dollar use that is larger than for the euro.
    Keywords: International trade invoicing; dominant currency paradigm; markets vs. policies
    JEL: F14 F31 F44
    Date: 2021–07–01
  12. By: Werner Hölzl
    Abstract: This paper examines the association between participation in global value chains and financial globalisation measured by international net and capital flows. The results show that financial globalisation and the rise of global value chains are related but not two sides of the same coin. In fact, we find that GVC participation is positively associated with equity capital flows but negatively associated with debt capital flows. We also study the association of GVC participation and capital flows with aggregate economic outcomes. The findings show that both GVC participation and equity flows affect the share of mortgage and business credit. But we uncover also important differences in the impact of capital flows between advanced and emerging countries. Regarding changes in the economic structure our results suggest a positive association of both GVC participation and equity inflows on the manufacturing share, while debt inflows are primarily associated with a growth of the service sector in advanced economies, but not in emerging and developing countries. The finding that there is no strong association between the globalisation indicators and innovation suggests that the fragmentation of value chains leads to functional specialisation in tasks and tends to weaken the link between innovation and production at country level. We find in addition that a higher GVC participation is weakly associated with a higher growth of government revenue, as are debt flows but only in advances countries. This finding suggests also that debt flows were redirected primarily into safe countries in advanced countries.
    Keywords: Globalisation, Financial Flows, Global Value Chains, Structural Change, Innovation
    Date: 2021–07–05

This nep-opm issue is ©2021 by Martin Berka. It is provided as is without any express or implied warranty. It may be freely redistributed in whole or in part for any purpose. If distributed in part, please include this notice.
General information on the NEP project can be found at For comments please write to the director of NEP, Marco Novarese at <>. Put “NEP” in the subject, otherwise your mail may be rejected.
NEP’s infrastructure is sponsored by the School of Economics and Finance of Massey University in New Zealand.