nep-opm New Economics Papers
on Open Economy Macroeconomics
Issue of 2021‒08‒09
nine papers chosen by
Martin Berka
University of Auckland

  1. Liquidity Traps, Prudential Policies, and International Spillovers By Javier Bianchi; Louphou Coulibaly
  2. One-stop source: A global database of inflation By Jongrim Ha; M. Ayhan Kose; Franziska Ohnsorge
  3. Sharing Asymmetric Tail Risk Smoothing, Asset Pricing and Terms of Trade By Corsetti, G.; Lipińska, A.; Lombardo, G.
  4. Impossible trinity in a small open economy: A state-space model informed policy simulation By Guna Raj Bhatta; Rabindra Nepal; Kankesu Jayanthakumaran; Charles Harvie
  5. Extreme capital flow episodes from the Global Financial Crisis to COVID-19: An exploration with monthly data By Annamaria de Crescenzio; Etienne Lepers
  6. Fundamentals vs. policies: can the US dollar’s dominance in global trade be dented? By Georgiadis, Georgios; Le Mezo, Helena; Mehl, Arnaud; Tille, Cédric
  7. Commodity prices and banking crises By Markus Eberhardt; Andrea F. Presbitero
  8. Price Levels, Size, Distribution and Growth of the World Economy: Insights from recent International Comparisons of Prices and Real Product By Alan Heston; D.S Prasada Rao
  9. Risk and Return Spillovers in a Global Model of the Foreign Exchange Network By Matthew Greenwood-Nimmo; Daan Steenkamp; Rossouw van Jaarsveld

  1. By: Javier Bianchi; Louphou Coulibaly
    Abstract: We present a simple open economy framework to study the transmission channels of monetary and macroprudential policies and evaluate the implications for international spillovers and global welfare. Using an analytical decomposition, we first identify three transmission channels: intertemporal substitution, expenditure switching, and aggregate income. Quantitatively, expenditure switching plays a prominent role for monetary policy, while macroprudential policy operates almost entirely through intertemporal substitution. Turning to the normative analysis, we show that the risk of a liquidity trap generates a monetary policy tradeoff between stabilizing output today and reducing capital flows to lower the likelihood of a future recession. However, leaning against the wind is not necessarily optimal, even in the absence of capital controls. Finally, we argue that contrary to emerging policy concerns, capital controls are not beggar-thy-neighbor and can enhance global macroeconomic stability.
    Keywords: Monetary and macroprudential policies; Liquidity traps; International spillovers; Capital flows
    JEL: E21 E52 F32 E62 E44 E43 E23
    Date: 2021–07–27
  2. By: Jongrim Ha; M. Ayhan Kose; Franziska Ohnsorge
    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
  3. By: Corsetti, G.; Lipińska, A.; Lombardo, G.
    Abstract: With the Global Financial Crisis, the COVID-19 pandemic, and the looming Climate Change, investors and policymakers around the world are bracing for a new global environment with heightened tail risk. Asymmetric exposure to this risk across countries raises the private and social value of arrangements improving insurance. We offer an analytical decomposition of the welfare effects of efficient capital market integration into a "smoothing" and a "level effect". Enhancing risk sharing affects the volatility of consumption, but also brings about equilibrium adjustment in asset and goods prices. This in turn drives relative wealth and consumption, as well as labor and capital allocation, across borders. Using model simulation, we explore quantitatively the empirical relevance of the different channels through which riskier and safer countries benefit from sharing macroeconomic risk. We offer an algorithm for the correct solution of the equilibrium using DSGE models under complete markets, at higher order of approximation.
    Keywords: International Risk Sharing, Asymmetry, Fat Tails, Welfare, Transfer Problem
    JEL: F15 F41 G15
    Date: 2021–07–26
  4. By: Guna Raj Bhatta; Rabindra Nepal; Kankesu Jayanthakumaran; Charles Harvie
    Abstract: Should monetary policy independence be maintained when the exchange rate is fixed under closed capital account conditions in a small open economy? We apply the Kalman filter at State Space model to test the Nepalese economy’s policy trilemma condition involving restricting capital flow, maintaining policy independence and fixing the exchange rate over the period 1989-2019. Accounting for two-thirds of Nepal’s total trade, Nepal is heavily trade-dependent to India in South Asia, which underwent economic liberalisation during the early 1990s. We modify the traditional Taylor-rule-based monetary policy reaction function to more closely represent Nepal’s economic characteristics by mixing backward-looking and forward-looking strategies and incorporating a fixed exchange rate in the monetary policy reaction function. The simulation results provide strong evidence of policy trilemma failure and inevitable policy trade-offs. In the monetary policy reaction function of both domestic and foreign conditions, the parameter value of domestic condition needs to be close to zero, to get the simulated interest rate close to observed. The loss of monetary policy independence raises a range of policy issues for the Nepalese economy: the rationale for fixing the exchange rate, and the efficacy of capital account closure which might deteriorate the effectiveness of monetary policy.
    Keywords: Monetary Policy Independence, Impossible Trinity, State Space Model, Calibration, Policy Simulation
    JEL: E47 E52 E58
    Date: 2021–07
  5. By: Annamaria de Crescenzio; Etienne Lepers
    Abstract: The COVID-19 pandemic triggered a sudden funding squeeze manifested in major disruptions in international capital flows, the most dramatic of the wave of extreme capital flow episodes since the global financial crisis (GFC). This paper contributes to efforts to better understand this extreme episode in the context of post-GFC structural financial changes. To do so, it presents a new monthly dataset of gross capital flows for 41 countries, better suited to the identification of sudden shocks than quarterly Balance of Payments data. Leveraging on this dataset, the paper first develops a more precise identification of extreme capital flow episodes since the GFC and revisit their drivers, asking whether COVID-19 episode significantly changed recent findings of the weaker role of global factors. The answer is no. Rather, the role of global factors may have further lost explanatory power in the post-GFC period including COVID. On the other hand, pull factors such as pre-COVID vulnerabilities and country-specific and pandemic-specific factors appear key to explaining the identified cross-country heterogeneity.
    JEL: F32 F34 F38
    Date: 2021–07–26
  6. By: Georgiadis, Georgios; Le Mezo, Helena; Mehl, Arnaud; Tille, Cédric
    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. JEL Classification: F14, F31, F44
    Keywords: dominant currency paradigm, international trade invoicing, markets vs. policies
    Date: 2021–07
  7. By: Markus Eberhardt; Andrea F. Presbitero
    Abstract: Commodity prices are one of the most important drivers of output fluctuations in developing countries. We show that a major channel through which commodity price movements can affect the real economy is through their effect on banks' balance sheets and financial stability. Our analysis finds that the volatility of commodity prices is a significant predictor of banking crises in a sample of 60 low-income countries (LICs). In contrast to recent findings for advanced and emerging economies, credit booms and capital inflows do not play a significant role in predicting banking crises, consistent with a lack of de facto financial liberalization in LICs. We corroborate our main findings with historical data for 40 'peripheral' economies between 1848 and 1938. The effect of commodity price volatility on banking crises is concentrated in LICs with a fixed exchange rate regime and a high share of primary goods in production. We also find that commodity price volatility is likely to trigger financial instability through a reduction in government revenues and a shortening of sovereign debt maturity, which are likely to weaken banks' balance sheets.
    Keywords: banking crises, commodity prices, volatility, low income countries
    Date: 2021
  8. By: Alan Heston (University of Pennsylvania); D.S Prasada Rao (The University of Queensland, Australia)
    Abstract: We highlight and extend findings of the recent International Comparison Program (ICP) for the years 2011 and 2017 that provides PPP based national accounts for 173 countries. The growth and distribution of world GDP are examined and some convergence is found. The ICP price level story is consistent with that of previous ICP rounds of the 1970s. Using new methods, international prices were compared between the 1975 ICP and 2017. Updating the results to 2019, it is clear China is number one and that gains of the lower income countries are another casualty of covid-19.
    Keywords: Purchasing power parities; price levels; global growth; inequality; price structures
    JEL: E01 E31 I31 O57
    Date: 2021–07
  9. By: Matthew Greenwood-Nimmo; Daan Steenkamp; Rossouw van Jaarsveld
    Abstract: Risk and Return Spillovers in a Global Model of the Foreign Exchange Network
    Date: 2021–08–04

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