nep-opm New Economics Papers
on Open Economy Macroeconomics
Issue of 2022‒01‒17
twelve papers chosen by
Martin Berka
University of Auckland

  1. Dominant Currency Paradigm: A Review By Gita Gopinath; Oleg Itskhoki
  2. Inflation and conflicting claims in the open economy By Guilherme Spinato Morlin
  3. The Valuation Effects of Trade By Omar Barbiero
  4. Fiscal regimes and the exchange rate By Enrique Alberola; Carlos Cantú; Paolo Cavallino; Nicola Mirkov
  5. News-Driven International Credit Cycles By Galip Kemal Ozhan
  6. The Transmission Mechanisms of International Business Cycles: Output Spillovers through Trade and Financial Linkages By Falk Bräuning; Viacheslav Sheremirov
  7. Growth led by government expenditure and exports: public and external debt stability in a supermultiplier model By Guilherme Spinato Morlin
  8. Tradable Emission Permits and Strategic Capital Taxation By Nikos Tsakiris; Panos Hatzipanayotou; Michael S. Michael
  9. Impact of Covid Pandemic on Foreign Exchange Reserves By Nikolova, Irena
  10. A Decentralized Central Bank Digital Currency By Rahman, Abdurrahman Arum
  11. Exchange rate movements in emerging economies - Global vs regional factors in Asia By Raphael Chiappini; Delphine Lahet
  12. Sparse and Stable International Portfolio Optimization and Currency Risk Management By Raphael Burkhardt; Urban Ulrych

  1. By: Gita Gopinath; Oleg Itskhoki
    Abstract: A handful of currencies, especially the US dollar, play a dominant role in international trade. We survey the active theoretical and empirical literature that documents patterns of currency use in global trade, the implications of dominant currencies for international transmission of shocks, exchange rate pass-through, expenditure switching, and optimal monetary policy. We describe advances in the endogenous currency choice literature including conditions for the emergence and persistence of dominant currency equilibria.
    JEL: F30 F40
    Date: 2021–12
  2. By: Guilherme Spinato Morlin
    Abstract: Exchange rates and international prices are fundamental to explain inflation in open economies. Conflict inflation models account for these variables by including imported inputs and, in some cases, a distributive impact of exchange rates. A different viewpoint emerges from the Classical-Keynesian theory of distribution for a price-taker open economy. Thus, we explore this alternative by developing a conflict inflation model building on Classical Keynesian approach. The paper contributes to the literature by combining the conflicting claims approach with the Classical-Keynesian open economy framework. Including tradable prices, the model considers their direct impact on distribution. Therefore, it addresses a cause of inflation overlooked in the literature. Finally, conflict inflation affects the real exchange rate, which becomes an important distributive variable
    JEL: B51 D33 E11 E31 F41
    Date: 2021–10
  3. By: Omar Barbiero
    Abstract: This paper estimates the cash flow and real effects of currency mismatches generated by foreign-priced operations of French manufacturers. The value of transactions invoiced in foreign currencies is twice as sensitive to exchange rates as the value of transactions invoiced in the domestic currency. I aggregate foreign-priced operations to the firm level to build a shift-share measure of invoice currency mismatch. This measure outperforms any trade-weighted effective exchange rate index in explaining cash flows of trading firms. Large firms absorb valuation shocks in their balance sheet, and small exporters partially hedge their dollar-priced exports with dollar-priced imports. Only investment and payroll of small domestic-oriented firms are sensitive to invoice currency valuations. These results show how trade value sensitivities to currency fluctuations can coexist with the evidence of disconnect between exchange rates and real macroeconomic fundamentals.
    Keywords: exchange rate sensitivity; currency mismatch; dollar-priced trade
    JEL: F30 F31 F32 F34 F36 F40 F41 F42
    Date: 2021–09–01
  4. By: Enrique Alberola; Carlos Cantú; Paolo Cavallino; Nicola Mirkov
    Abstract: In this paper, we argue that the effect of monetary and fiscal policies on the exchange rate depends on the fiscal regime. A contractionary monetary (expansionary fiscal) shock can lead to a depreciation, rather than an appreciation, of the domestic currency if debt is not backed by future fiscal surpluses. We look at daily movements of the Brazilian real around policy announcements and find strong support for the existence of two regimes with opposite signs. The unconventional response of the exchange rate occurs when fiscal fundamentals are deteriorating and markets' concern about debt sustainability is rising. To rationalize these findings, we propose a model of sovereign default in which foreign investors are subject to higher haircuts and fiscal policy shifts between Ricardian and non-Ricardian regimes. In the latter, sovereign default risk drives the currency risk premium and affects how the exchange rate reacts to policy shocks.
    Keywords: Exchange rate, monetary policy, fiscal policy, fiscal dominance, sovereign default
    JEL: E52 E62 E63 F31 F34 F41 G15
    Date: 2022
  5. By: Galip Kemal Ozhan
    Abstract: How does news about future economic fundamentals affect within-country and cross-country credit allocation? How effective is unconventional policy when financial crises are driven by unfulfilled favorable news? I study these questions by employing a two-sector, two-country macroeconomic model with a financial sector in which financial crises are associated with occasionally binding leverage constraints. In response to positive news on the valuation of non-traded sector capital that turns out to be incorrect at a later date, the model captures the patterns of financial flows and current account dynamics in Spain between 2000-2010, including the changes in the sectoral allocation of bank credit and movements in cross-country borrowing during the boom and the bust. When there are unconventional policies by a common authority in response to unfulfilled favorable news, liquidity injections perform better in ameliorating the downturn than direct assets purchases from the non-traded sector.
    Keywords: Central bank research; Digital currencies and fintech
    JEL: E44 F32 F41 G15 G21
    Date: 2021–12
  6. By: Falk Bräuning; Viacheslav Sheremirov
    Abstract: We study the transmission channels through which shocks affect the global economy and the cross-country comovement of real economic activity. For this purpose, we collect detailed data on international trade and financial linkages as well as domestic macro and financial variables for a large set of countries. We document significant international output comovement following U.S. monetary shocks, and find that openness to international trade matters more than financial openness in explaining cross-country spillovers. In particular, output in countries with a high share of exports and imports responds to U.S. monetary shocks significantly more than output in countries with a low share, whereas we do not find material heterogeneity depending on international investment positions or financial flows in the balance of payments. We further document strong network amplification associated with the patterns of bilateral trade flows, as indirect spillovers account for nearly half of the total effect. Studies that do not account for direct bilateral linkages between national economies — and the indirect linkages through the network they form – may thus present an incomplete view of international business cycles.
    Keywords: financial linkages; international spillovers; monetary shocks; trade networks
    JEL: E52 F42 F44 G15
    Date: 2021–10–01
  7. By: Guilherme Spinato Morlin
    Abstract: The Sraffian supermultiplier model revealed the role of autonomous demand in economic growth. Nevertheless, the long-run sustainability of a growth process driven by autonomous demand requires the stability of the financial stocks behind it. Growth led by government expenditure and exports is thus stable if both public and external debts present convergent dynamics. Thus, in this paper, we develop a supermultiplier model for an open economy with government to assess the stability of growth led by government expenditure and exports. We analyze the stability conditions for public debt and foreign debt ratios. Public debt-to-income ratio stability requires that the interest rate is smaller than the output growth rate. Foreign debt-to-exports ratio stability requires that the international interest rate is smaller than the growth rate of exports. The external constraint may appear as a restriction to external indebtedness, imposing an upper limit to growth. Nonetheless, the presence of a domestic autonomous expenditure may relax the external constraint. The model allows for two demand-led growth regimes: balance of payments constrained and policy constrained. A fiscal policy rule is proposed to keep the foreign debt ratio below an upper limit. Simulations of five cases show the conditions for stability of debt ratios, and the outcomes of the fiscal policy rule and a structural change policy. In the simulations, fiscal policy successfully reduces the equilibrium foreign debt-to-export ratio by decreasing the share of government expenditures in autonomous demand. Successful industrial policies that increase exports’ growth keep the foreign debt ratio below the threshold with a higher growth rate than the fiscal policy rule. Altogether, the model provides stability conditions for growth in an open economy paying its international liabilities in foreign currency
    Keywords: : Sraffian supermultiplier; Thirlwall’s Law; demand-led growth; public debt;external debt
    JEL: E12 F41 F43 E62 O41
    Date: 2021–10
  8. By: Nikos Tsakiris; Panos Hatzipanayotou; Michael S. Michael
    Abstract: In a model of two large asymmetric countries, we examine the effectiveness of the non-cooperative setting of tradable emission permits in reducing global pollution, under different rules of international taxation of capital earnings. Our key result is that, under certain conditions, the lowest Nash equilibrium level of global pollution is achieved when the policy-mix combines internationally, rather than nationally, tradable emission permits and either capital-tax exemptions or capital-tax credits.
    Keywords: Emission Permits; Cross-border Pollution; Capital Tax Competition; Capital Tax Rules
    JEL: F18 F21 H21
    Date: 2022–01–14
  9. By: Nikolova, Irena
    Abstract: The foreign exchange reserves are part of the central bank tools for maintaining the stability of the national legal tender. Several issues are of great importance when analysing the foreign exchange reserves. Firstly, the structure and size of the reserves is determined by the monetary policy of the central bank. Secondly, the monetary policy is different in regards with the applied exchange rate arrangement in the country as the central bank plays a significant role in maintaining the selected exchange rate. These issues are considered when reviewing the impact of the pandemic on the foreign exchange reserves. The aim of the paper is to review the role of the foreign exchange reserves in pandemic and to analyse the opportunities for their future implementation. The statistical methods are applied to assess the present situation compared to the pre-pandemic period, and the data is from the Bank for International Settlements and the International Monetary Fund databases. The conclusion is that the foreign exchange reserves are necessary for the central banks and governments, especially in times of crises and in pandemic. They are applied as a “buffer” for maintaining the stability of the domestic currency and the whole national financial system. Moreover, in recent years the role of the foreign exchange reserves is reviewed as an additional tool of the governments and central banks for introducing new digital currencies on the market.
    Keywords: foreign exchange reserves, covid pandemic, currencies, central bank, exchange rate arrangements
    JEL: F3 F30 F31
    Date: 2021
  10. By: Rahman, Abdurrahman Arum
    Abstract: Central bank digital currency (CBDC) is a digitized fiat currency. As the nature of the central bank is centralized, the CBDC is also centralized. This paper proposes a decentralized CBDC that is controlled by many central banks together or countries in the world. It is only for international transactions between member countries. While domestic transactions continue to use the national currency of each country. A decentralized CBDC can explore the advantages of digital technologies more deeply than the centralized ones by making reconciliations between central banks in real-time. Furthermore, this system provides international liquidity for all (member) countries in the world sustainably and free of charge. This system eliminates global imbalances, makes the exchange rate more stable, and so makes the whole international monetary system naturally more stable. In doing so, the system does not require economic integration so that all countries in the world may join without many conditions.
    Keywords: Cryptocurrency, organic system, global currency, international monetary system, global imbalances.
    JEL: E40 E50 O3
    Date: 2022–01–03
  11. By: Raphael Chiappini (Larefi - Laboratoire d'analyse et de recherche en économie et finance internationales - UB - Université de Bordeaux); Delphine Lahet (Larefi - Laboratoire d'analyse et de recherche en économie et finance internationales - UB - Université de Bordeaux)
    Date: 2020–04–01
  12. By: Raphael Burkhardt (University of Zurich - Department of Banking and Finance); Urban Ulrych (University of Zurich - Department of Banking and Finance; Swiss Finance Institute)
    Abstract: This paper introduces a sparse and stable optimization approach for a multi-currency asset allocation problem. We study the benefits of joint optimization of assets and currencies as opposed to the standard industry practice of managing currency risk via so-called currency overlay strategies. In our setting, a classical mean-variance problem in an international framework is augmented by several extensions that aim at reducing parameter uncertainty related to the input parameters and induce sparsity and stability of the asset and currency weights. These extensions integrate maximal net exposure to foreign currencies, shrinkage of the input parameters, and constraints on the norms of the asset- and currency-weight vectors. The empirical performance of the portfolio optimization strategies based on the proposed regularization techniques and the joint (i.e., asset and currency) optimization is tested out of sample. We demonstrate that the sparse and stable joint optimization approach consistently outperforms the standard currency overlay as well as the equally-weighted and the non-regularized global portfolio benchmarks net of transaction costs. This result shows that the common industry practice of employing currency overlay strategies is suboptimal and can be improved by a joint optimization over assets and currencies.
    Keywords: International Asset Allocation, Currency Risk Management, Currency Overlay, Shrinkage Estimation, Regularization, Mean-Variance Optimization
    JEL: C61 F31 G11 G15
    Date: 2022–01

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