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on Central Banking |
| By: | Jonathan Benchimol (Bank of Israel) |
| Abstract: | Since the Global Financial Crisis, a lively debate has emerged regarding the monetary policy rule the central bank of a small open economy (SOE) follows and should follow. By identifying the monetary policy rule that best fits historical data and minimizes central bank loss functions, this study contributes to this debate. We estimate a medium-scale micro-founded SOE model under various monetary policy rules using Israeli data from 1994 to 2019. Our results indicate that the model achieves a better fit to historical data when assuming inflation targeting (IT) compared to nominal income targeting (NGDP). Given central bank goals, shock uncertainty, and limited information, NGDP targeting rules may have been more desirable over the last three decades than IT rules. |
| Keywords: | Monetary policy rule, Central bank loss, Inflation targeting, NGDP targeting, Limited information |
| JEL: | C11 C54 E32 E52 E58 |
| Date: | 2024–05 |
| URL: | http://d.repec.org/n?u=RePEc:boi:wpaper:2024.04&r= |
| By: | Persson, Torsten (IIES, Stockholm University); Tabellini, Guido (IGIER, Bocconi University) |
| Abstract: | We revisit the optimal-contract approach to the design of monetary institutions, in the light of the Zero Lower Bound (ZLB) on interest rates and the resort to Quantitative Easing (QE) in recent years. Four of our lessons have not yet been incorporated in the practices of inflation targeting central banks. First, the optimal contract and the implied inflation-targeting regime should condition on being at the ZLB or out of it. Second – as already argued by others – the optimal inflation target should be raised to deal with the possibility of being at the ZLB, and more so the greater the risk of being there. But this qualitative lesson does not appear to warrant major quantitative changes of inflation targets. Third, the relevance of the ZLB suggests that it may be desirable to expand central-bank mandates to encompass financial stability, broadly defined, besides price and output stability. Fourth, accountability for inflation performance is a central mechanism in a successful monetary-policy framework. How exactly to change those mechanisms in practice is a new and difficult challenge, which is at least as important as the search for optimal policy rules that has attracted so much recent attention. |
| Keywords: | Inflation targets; optimal contracts; Zero lower bound |
| JEL: | D02 E31 E58 H11 |
| Date: | 2024–05–01 |
| URL: | https://d.repec.org/n?u=RePEc:hhs:rbnkwp:0436&r= |
| By: | Eskelinen, Maria; Gibbs, Christopher G.; McClung, Nigel |
| Abstract: | New Keynesian models generate puzzles when confronted with the zero lower bound (ZLB) on nominal interest rates (e.g. the forward guidance puzzle or the paradox of flexibility). We show that these puzzles are absent in simple and medium-scale models when monetary policy approximates optimal policy, even loosely. The standard approach to modeling monetary policy at the ZLB does not approximate the policy a rational inflation targeting central bank would choose at the ZLB. It is this disconnect that is responsible for the puzzles. The puzzles, therefore, are best thought of as the plausible predictions of implausible monetary policy rather than implausible predictions to plausible monetary policy. We show how to write monetary policy rules that capture the same policy objective with and without the ZLB. |
| Date: | 2024 |
| URL: | http://d.repec.org/n?u=RePEc:zbw:bofrdp:295739&r= |
| By: | Mr. Tobias Adrian; Christopher J. Erceg; Marcin Kolasa; Jesper Lindé; Roger McLeod; Mr. Romain M Veyrune; Pawel Zabczyk |
| Abstract: | Central banks have come under increasing criticism for large balance sheet losses associated with quantitative easing (QE), and some observers have also argued that QE helped fuel the post-COVID-19 inflation boom. In this paper, we reconsider the conditions under which QE may be warranted considering the recent high inflation experience. We emphasize that the merits of QE should be evaluated based on the macroeconomic stimulus it provides and its effects on the consolidated fiscal position, and not simply on central bank profits or losses. Using an open economy DSGE model with segmented asset markets, we show how QE can provide a sizeable boost to output and inflation in a deep recession and improve the consolidated fiscal position—even if the central bank experiences considerable losses. However, the commitment-based features of QE and the possibility that upside inflation risks are bigger than recognized pre-pandemic call for more caution in using QE closer to full employment. We then consider how central banks might modify their policies for allocating profits to the government in light of large-scale losses. In short, we suggest that a more forward-looking and risk-based approach may be desirable in helping protect central bank financial autonomy and ultimately independence. |
| Keywords: | Monetary policy; quantitative easing; central bank remittances; forward guidance |
| Date: | 2024–05–17 |
| URL: | http://d.repec.org/n?u=RePEc:imf:imfwpa:2024/103&r= |
| By: | Francesco D’Acunto; Evangelos Charalambakis; Dimitris Georgarakos; Geoff Kenny; Justus Meyer; Michael Weber |
| Abstract: | This paper discusses the recent wave of research that has emphasized the importance of measures of consumers’ inflation expectations. In contrast to other measures of expected inflation, such as for experts or financial market participants, consumers’ inflation expectations capture the broader distribution of societal beliefs about inflation. This research has revealed very significant deviations from traditional assumptions about rationality in consumers’ expectations formation. However, households do act on their beliefs about inflation, though in heterogeneous ways that can depart from the predictions of conventional economic models. Recent euro area experiences highlight the importance of tracking the degree of anchoring in consumers’ inflation expectations in a way that considers their inherent complexity, heterogeneity, and subjectivity. On average, consumers’ medium and longer-term expectations deviate noticeably in levels from central bank targets and, in contrast with expert expectations, often co-move more closely with shorter-term inflation news. By stepping up their engagement with the wider public, central banks may be able to influence expectations by building up greater knowledge and trust and thereby support more effective monetary transmission. Communication efforts need to be persistent because central banks must compete with many other demands on consumers’ attention. |
| JEL: | E31 E52 E58 |
| Date: | 2024–05 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:32488&r= |
| By: | David Reifschneider (former Federal Reserve) |
| Abstract: | Federal Reserve policy in the wake of the COVID pandemic has been widely criticized as responding too slowly to surging inflation and an overheated labor market, thereby exacerbating the inflation problem and impairing macroeconomic performance more generally. This paper challenges this view by exploring the likely effects of a markedly more restrictive counterfactual monetary policy starting in early 2021. Under this policy, the Federal Open Market Committee (FOMC) would have strictly followed the prescriptions of a benchmark policy rule with labor utilization gauged using the ratio of vacancies to unemployment, thereby causing the federal funds rate to rise faster and by much more than it actually did. In addition, consistent with the alternative rule-based strategy, the FOMC would have provided less accommodative forward guidance than what it implicitly provided over time, based on the post-COVID evolution of the economic projections made by FOMC participants and major financial institutions. Finally, the Fed would have ended its large-scale asset purchases earlier and begun shrinking its balance sheet sooner. Because of uncertainty about inflation dynamics, simulations of the effects of the counterfactual policy are run using different specifications of the Phillips curve drawn from recent studies, with each in turn embedded in a large-scale model of the US economy that provides a detailed treatment of the monetary transmission mechanism. Using a range of assumptions for expectations formation and the interest sensitivity of aggregate spending, the various model simulations suggest that a more restrictive strategy on the part of the FOMC would have done little to check inflation in 2021 and 2022, although it probably would have sped its return to 2 percent thereafter. Because the modest reductions in inflation suggested by these simulations would have come at a cost of higher unemployment and lower real wages, the net social benefit of a more restrictive policy response on the part of the FOMC seems doubtful; the paper also questions the wisdom of a more rapid and pronounced tightening on risk-management grounds. |
| Keywords: | Inflation, monetary policy |
| JEL: | E17 E37 E58 |
| Date: | 2024–05 |
| URL: | https://d.repec.org/n?u=RePEc:iie:wpaper:wp24-13&r= |
| By: | Patrick Honohan (Peterson Institute for International Economics) |
| Abstract: | For most of the decade before the COVID-19 pandemic, undershooting rather than overshooting had been the main inflation problem of the European Central Bank (ECB). During 2020, consumer prices in the euro area were falling; by the end of that year, average inflation since the introduction of the euro two decades earlier stood at only 1.6 percent per year. Things began to snowball in 2021. The 12-month inflation rate steadily accelerated. It reached double digits in the final quarter of 2022--more than twice the level it had ever reached since the euro's introduction in 1999. Four striking features emerge from a review of the unexpected surge in European inflation since 2021: (1) The ECB's monetary policy response lagged behind that of the US Federal Reserve, reflecting the more gradual evolution of inflation in the euro area and its distinct pattern of causes; (2) the range of inflation rates across different euro area countries has been unprecedented. This largely reflects the differential impact of war-related energy shocks (especially for natural gas piped from Russia) as well as the differential fiscal response by national governments partially insulating consumers from these shocks; (3) not all households were net losers from the inflation, with some benefiting from the fact that inflation reduced the real value of their indebtedness; and (4) the speed with which inflation was returning toward target during 2023 prompted concerns that the ECB's monetary tightening might have been pushed too far, prolonging the output slowdown. |
| Date: | 2024–05 |
| URL: | https://d.repec.org/n?u=RePEc:iie:pbrief:pb24-2&r= |
| By: | Mr. Pau Rabanal; M. Belen Sbrancia |
| Abstract: | The recent increase of inflation globally has led to a renewed interest in understanding the link between inflation and wages. In Uruguay, the presence of centralized wage bargaining and indexation practices raises the question as to what extent wage growth dynamics can make the response of inflation to shocks more persistent. We use a medium-scale DSGE model which incorporates indexation in the wage setting equation to analyze the interactions between wage setting behavior and other macroeconomic variables, as well as the role of monetary policy. The analysis suggests that wage indexation increases the persistence of the response of inflation to domestic and foreign shocks, it also affects the monetary policy transmission mechanism and the severity of the trade-offs faced by the central bank. |
| Keywords: | Wage Setting; Inflation Persistence; Monetary Policy |
| Date: | 2024–05–24 |
| URL: | https://d.repec.org/n?u=RePEc:imf:imfwpa:2024/105&r= |
| By: | Lasha Arevadze (Macroeconomic Research Division, National Bank of Georgia); Shalva Mkhatrishvili (Head of Macroeconomics and Statistics Department, National Bank of Georgia); Saba Metreveli (Macroeconomic Research Division, National Bank of Georgia); Giorgi Tsutskiridze (Macroeconomic Research Division, National Bank of Georgia); Tamar Mdivnishvili (Macroeconomic Research Division, National Bank of Georgia); Nika Khinashvili (PhD candidate, Geneva Graduate Institute.) |
| Abstract: | Last couple of decades of research has significantly advanced New Keynesian DSGE modeling. While each of such models faces its own important limitations, it can still contribute to robust policy analysis as long as we consolidate relevant macroeconomic features in it and remain conscious of the limitations. With this paper we are introducing a DSGE model for Georgia with features relevant for Emerging Market Economies (EMEs), characterized with large number of real and nominal imperfections. While some model features are already standard to existing DSGE frameworks, we also emphasize aspects particularly relevant to EMEs. These include dominant currency invoicing, forward premium puzzle, breakdown of Ricardian equivalence, impaired expenditure switching mechanism, decoupled domestic and imported price levels impacting real exchange rate trend, and other non-stationarities. Additionally, we distinguish between global financial centers and other trade partner economies. This LEGO model with these building blocks is planned to be expanded further with other properties in the future to make the model suitable for analyzing FX interventions and macroprudential policies, in addition to monetary and fiscal policies. The model is intended to become the workhorse model for macro-financial analysis in Georgia, representing a key addition to the NBG’s existing FPAS, though its adaptability can extend to other country contexts as well. |
| Keywords: | Non-tradable sticky prices; Monetary policy credibility; Core inflation |
| JEL: | E10 E31 E52 E58 |
| Date: | 2024–05 |
| URL: | https://d.repec.org/n?u=RePEc:aez:wpaper:2024-02&r= |
| By: | Moloche, Guillermo |
| Abstract: | In this study, the author demonstrates that the selection of an appropriate money-demand function is crucial to ascertain the relationship between fiscal deficits and inflation. To do so, the author incorporates a Selden-Latané money-demand function into a micro-founded extension of the model introduced by Sargent, Williams, and Zha (2009). The use of this particular function results in a model that more accurately replicates Mexican money supply's past history, and furthermore, establishes a stronger historical association between fiscal and monetary policy, namely, between fiscal deficits and seigniorage. As a result, the author is able to provide more compelling evidence for the dominance of fiscal policy as the major cause of high inflation in Mexico during the last three decades of the twentieth century. |
| Keywords: | Inflation, Seigniorage, Fiscal Deficits, Monetary and Fiscal Policy Interaction |
| JEL: | E31 E41 E51 E52 E58 E63 |
| Date: | 2024–05–13 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:120925&r= |
| By: | Ida, Daisuke; Okano, Mitsuhiro; Hoshino, Satoshi |
| Abstract: | This note examines the role of stock price stabilization in a small open new Keynesian model. We show that stabilizing stock prices is desirable to attain a unique rational expectations equilibrium and that the open economy effect has a significant impact on the determinacy condition. |
| Keywords: | Stock prices; Monetary policy rules; Terms of trade; Indeterminacy; Taylor principle; |
| JEL: | E52 E58 F41 |
| Date: | 2024–05–24 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:121050&r= |
| By: | Stéphane Auray; Michael B. Devereux; Aurélien Eyquem |
| Abstract: | Monetary rules may have a large effect on the outcome of trade wars if central banks target the CPI inflation rate or more generally changes in the relative price of traded goods. We lay out a two-country open-economy model with sticky prices where countries engage in trade wars. In the presence of monopoly pricing markups, we show that the final level of tariffs and welfare losses from trade wars critically depend on the design of monetary policy. If central banks adopt a fixed nominal exchange rate or even better target the CPI inflation rate, trade wars are much less intense than those under PPI inflation targeting. We further show that an optimally delegated monetary rule that internalizes the formation of non-cooperative trade policy can actually completely eliminate a trade war, and even act to partly offset the welfare cost of monopoly markups. |
| JEL: | F30 F40 F41 |
| Date: | 2024–05 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:32451&r= |
| By: | Francesco Ferlaino |
| Abstract: | This study examines the redistribution effects of a conventional monetary policy shock among households in the presence of production-side financial frictions. A Heterogeneous Agents New Keynesian model featuring a financial accelerator is built after empirical evidence for consumption inequality. The results show that the presence of financial frictions significantly increases the magnitude of the Gini coefficient of wealth and other wealth inequality measures after contractionary monetary policy, compared to a scenario in which such frictions are inactive, proving that firms’ financial characteristics affect household wealth inequality. Consumption dynamics are also affected: financial frictions have a significant impact on how households consume and save after a monetary contraction, because they rely differently on labor income to smooth consumption. The relative increase in consumption inequality confirms the empirical results obtained in this study. |
| Keywords: | heterogeneous agents, financial frictions, monetary policy, New Keynesian models, inequalities, proxy-SVAR. |
| JEL: | C32 E12 E21 E44 E52 G51 |
| Date: | 2024–05 |
| URL: | https://d.repec.org/n?u=RePEc:mib:wpaper:538&r= |
| By: | Sushant Acharya; Jess Benhabib |
| Abstract: | We show that in Heterogeneous-Agent New-Keynesian (HANK) economies with countercyclical risk the natural interest rate is endogenous and co-moves with output, leaving the economy susceptible to self-fulfilling fluctuations. Unlike in Representative-Agent New-Keynesian models, the Taylor principle is not sufficient to guarantee uniqueness of equilibrium in HANK if risk is even mildly countercyclical. In fact, we prove that multiple bounded-equilibria exist, no matter how strongly monetary policy responds to changes in inflation. Neither inertial rules nor rules which respond to output-gap fluctuations can resolve this indeterminacy. Instead, to implement a unique equilibrium, policy must stabilize endogenous natural rate fluctuations. |
| JEL: | E31 |
| Date: | 2024–05 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:32462&r= |
| By: | Maideu-Morera, Gerard |
| Abstract: | The European Sovereign debt crises (2010-2012) showcased how excessive private leverage can threaten sovereign debt sustainability, making the existing fiscal rules targeting only public debt insufficient. In this paper, I study the optimal joint design of fiscal rules and macroprudential policies with sovereign default risk. I first consider a stylized two-period model of a small open economy where both the local government and a representative household borrow internationally. A central authority internal-izes externalities from sovereign default by the local government and designs fiscal rules and macroprudential policies. The model yields two insights: (i) it provides a novel rationale for macroprudential policies, and (ii) sovereign debt limits that are a function of the quantity of private debt (private-debt-dependent fiscal rules) can im-plement the optimal allocation. Then, I generalize these results to a multiperiod model with heterogeneous households, aggregate risk, and a rich asset structure. Finally, I calibrate a quantitative version of the model to compute the private-debt-dependent fiscal rules and the size of the macroprudential wedges. |
| Keywords: | Fiscal rules; macroprudential policy; sovereign default; endogenous borrowing constraints; economic unions |
| JEL: | F34 F41 F45 E44 G28 |
| Date: | 2024–05 |
| URL: | http://d.repec.org/n?u=RePEc:tse:wpaper:129336&r= |
| By: | Mr. Kelly Eckhold; Julia Faltermeier; Mr. Darryl King; Istvan Mak; Dmitri Petrov |
| Abstract: | This paper examines emerging market and developing economy (EMDE) central bank interventions to maintain financial stability during the COVID-19 pandemic. Through empirical analysis and case study reviews, it identifies lessons for designing future programs to address challenges faced in EMDEs, including less-developed financial markets and lower levels of institutional credibility. The focus is on the functioning of the financial markets that are key to maintaining financial stability—money, securities, and FX funding markets. Several lessons emerge, including: (i) objectives should be well-specified and communicated to facilitate eventual exit; (ii) intervention triggers should prioritize liquidity metrics over prices; (iii) actions should be sufficiently large to address market dysfunction; (iv) the risks of fiscal dominance and moral hazard should be minimized; and (v) program design should incentivize self-liquidation by appropriate pricing or through short-term operations that quickly liquidate. While interventions may increase risks to central bank balance sheets, potentially challenging policy solvency and operational independence, a well-designed framework can significantly mitigate these risks. |
| Keywords: | COVID-19 pandemic; central bank interventions; liquidity; and financial stability. |
| Date: | 2024–05–17 |
| URL: | http://d.repec.org/n?u=RePEc:imf:imfwpa:2024/101&r= |
| By: | Mauricio Barbosa-Alves; Javier Bianchi; César Sosa-Padilla |
| Abstract: | This paper develops a framework to study the management of international reserves when a government faces the risk of a rollover crisis. In the model, it is optimal for the government to reduce its vulnerability by initially lowering debt, and then increasing both debt and reserves as it approaches a safe zone. Furthermore, we find that issuing additional debt to accumulate reserves can lead to a reduction in sovereign spreads. |
| JEL: | E4 E5 F32 F34 F41 |
| Date: | 2024–05 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:32393&r= |
| By: | Thomas Drechsel |
| Abstract: | This paper combines new data and a narrative approach to identify shocks to political pressure on the Federal Reserve. From archival records, I build a data set of personal interactions between U.S. Presidents and Fed officials between 1933 and 2016. Since personal interactions do not necessarily reflect political pressure, I develop a narrative identification strategy based on President Nixon's pressure on Fed Chair Burns. I exploit this narrative through restrictions on a structural vector autoregression that includes the personal interaction data. I find that political pressure shocks (i) increase inflation strongly and persistently, (ii) lead to statistically weak negative effects on activity, (iii) contributed to inflationary episodes outside of the Nixon era, and (iv) transmit differently from standard expansionary monetary policy shocks, by having a stronger effect on inflation expectations. Quantitatively, increasing political pressure by half as much as Nixon, for six months, raises the price level more than 8%. |
| JEL: | C32 D72 E31 E40 E50 |
| Date: | 2024–05 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:32461&r= |
| By: | Nicola Amendola; Luis Araujo; Leo Ferraris |
| Abstract: | This paper compares digital and physical currency, focusing on a single intrinsic difference: digital, unlike physical, currency allows the authorities to trace the monetary flows in and out of the accounts. We show that this technological advance in record-keeping can be used to reward active balances relative to idle balances. This helps achieve efficiency in a wide range of circumstances. |
| Keywords: | Cash, Digital Currency, Optimal Monetary Policy |
| JEL: | E40 |
| Date: | 2024–05 |
| URL: | https://d.repec.org/n?u=RePEc:mib:wpaper:537&r= |
| By: | Carlos Madeira |
| Abstract: | This paper analyses the causal impact of macroprudential policies on growth, using industry-level data for 89 countries for the period 1990 to 2021. The small industry size creates an exogenous identification and avoids reverse-causality. I find that macroprudential tightening measures have a negative impact on manufacturing growth, but only for industries with high external finance dependence. This effect is stronger during banking crises, periods of higher output growth and for advanced economies. The effect is weaker during period of high private credit growth. Growth effects on externally dependent industries are economically sizeable and can persist over three years. |
| Keywords: | macroprudential policy, financial development, growth, external finance dependence, credit frictions |
| JEL: | E44 G28 O10 O16 |
| Date: | 2024–05 |
| URL: | http://d.repec.org/n?u=RePEc:bis:biswps:1191&r= |
| By: | Mitsuhiro Osada (Bank of Japan); Takashi Nakazawa (Bank of Japan) |
| Abstract: | This article presents approaches to assessing various measures of inflation expectations in terms of their term structure and forecasting power. First, looking at inflation expectations by forecast horizon, movements in measures of short-term inflation expectations are relatively similar across different economic agents, while there is considerable heterogeneity in long-term inflation expectations. Second, in terms of the forecasting power for future inflation, while measures of longer-term inflation expectations have a larger bias, once this bias is removed, many measures have forecasting power. Moreover, composite indicators based on the term structure and forecasting power of individual measures suggest that medium- to long-term inflation expectations have risen moderately in recent years. |
| Keywords: | Monetary policy; Inflation expectations; Term structure; Forecasting |
| JEL: | E31 E37 E52 |
| URL: | http://d.repec.org/n?u=RePEc:boj:bojrev:rev24e4&r= |
| By: | Daniel Aromí (IIEP UBA-Conicet/FCE UBA); Daniel Heymann (IIEP UBA-Conicet/FCE UBA) |
| Abstract: | We propose a method to generate “synthetic surveys” that shed light on policymakers’ perceptions and narratives. This exercise is implemented using 80 time-stamped Large Language Models (LLMs) fine-tuned with FOMC meetings’ transcripts. Given a text input, finetuned models identify highly likely responses for the corresponding FOMC meeting. We evaluate this tool in three different tasks: sentiment analysis, evaluation of transparency in Central Bank communication and characterization of policymaking narratives. Our analysis covers the housing bubble and the subsequent Great Recession (2003-2012). For the first task, LLMs are prompted to generate phrases that describe economic conditions. The resulting output is verified to transmit policymakers’ information regarding macroeconomic and financial dynamics. To analyze transparency, we compare the content of each FOMC minutes to content generated synthetically through the corresponding fine-tuned LLM. The evaluation suggests the tone of each meeting is transmitted adequately by the corresponding minutes. In the third task, we show LLMs produce insightul depictions of evolving policymaking narratives. Thisanalysis reveals relevant narratives’ features such as goals, perceived threats, identified macroeconomic drivers, categorizations of the state of the economy and manifestations of emotional states. |
| Keywords: | Monetary policy, large language models, narratives, transparency. |
| Date: | 2024–05 |
| URL: | https://d.repec.org/n?u=RePEc:aoz:wpaper:323&r= |
| By: | Alberto Binetti; Francesco Nuzzi; Stefanie Stantcheva |
| Abstract: | This paper studies people's understanding of inflation—their perceived causes, consequences, trade-offs—and the policies supported to mitigate its effects. We design a new, detailed online survey based on the rich existing literature in economics with two experimental components—a conjoint experiment and an information experiment—to examine how well public views align with established economic theories. Our key findings show that the major perceived causes of inflation include government actions, such as increased foreign aid and war-related expenditures, alongside rises in production costs attributed to recent events like the COVID-19 pandemic, oil price fluctuations, and supply chain disruptions. Respondents' anticipate many negative consequences of inflation but the most noted one is the increased complexity and difficulty in household decision-making. Partisan differences emerge distinctly, with Republicans more likely to attribute inflation to government policies and foresee broader negative outcomes, whereas Democrats anticipate greater inequality effects. Inflation is perceived as an unambiguously negative phenomenon without any potential positive economic correlates. Notably, there is a widespread belief that managing inflation can be achieved without significant trade-offs, such as reducing economic activity or increasing unemployment. These perceptions are hard to move experimentally. In terms of policy responses, there is resistance to monetary tightening, consistent with the perceived absence of trade-offs and the belief that it is unnecessary to reduce economic activity to fight inflation. The widespread misconception that inflation rises following increases in interest rates even leads to support for rate cuts to reduce inflation. There is a clear preference for policies that are perceived to have other benefits, such as reducing government debt in progressive ways or increasing corporate taxes, and for support for vulnerable households, despite potential inflationary effects. |
| JEL: | E03 E24 E31 E58 E71 |
| Date: | 2024–05 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:32497&r= |
| By: | Efrem Castelnuovo; Lorenzo Mori; Gert Peersman (-) |
| Abstract: | We employ a structural VAR model with global and US variables to study the relevance and transmission of oil, food commodities, and industrial input price shocks. We show that commodities are not all alike. Industrial input price changes are almost entirely endogenous responses to other shocks. Exogenous oil and food price shocks are relevant drivers of global real and financial cycles, with food price shocks exerting the greatest influence. We then conduct counterfactual estimations to assess the role of systematic monetary policy in shaping these effects. The results reveal that pro-cyclical policy reactions exacerbate the real and financial effects of food price shocks, whereas counter-cyclical responses mitigate those of oil shocks. Finally, we identify distinct mechanisms through which oil and food shocks affect macroeconomic variables, which could also justify opposing policy responses. Specifically, along with a sharper decrease in nondurable consumption, food price shocks raise nominal wages and core CPI, intensifying inflationary pressures. Conversely, oil price shocks act more like adverse aggregate demand shocks absent monetary policy reactions, primarily through a decrease in durable consumption and spending on goods and services complementary to energy consumption, which are amplified by financial frictions. |
| Keywords: | Commodity price shocks, transmission mechanisms, monetary policy |
| JEL: | E32 E52 F44 G15 Q02 |
| Date: | 2024–05 |
| URL: | http://d.repec.org/n?u=RePEc:rug:rugwps:24/1087&r= |
| By: | Mariam Tchanturia (Macroeconomic Research Division, National Bank of Georgia); Jared Laxton (Economist at Advanced Macro Policy Modelling (AMPM)); Douglas Laxton (NOVA School of Business and Economics, Saddle Point Research, The Better Policy Project); Shalva Mkhatrishvili (Head of Macroeconomics and Statistics Department, National Bank of Georgia) |
| Abstract: | COVID-19 was an unprecedented event that led to an extraordinary fiscal and monetary stimulus that resulted in a doubling in the S&P and over 50 percent increase in property prices in the US. These increases in asset prices combined with financial saving resulted in a 45 trillion dollar increase in US household net worth between 2020Q1 and 2023Q4, over twice the value of all goods and services produced by the US economy in 2019 (annual GDP was 21 trillion dollars in 2019). We believe this macroeconomic backdrop will play a prominent role in how the economy is going to evolve in the post-COVID-19 world. Our analysis begins with looking at the drivers of US consumption pre-COVID-19 and during COVID-19. We carry out a 2-step regression analysis by estimating the US consumption function in different periods with distinct features and incorporating different variables at each step to achieve stability in the parameters during the COVID-19 period. We use this analysis as a jumping off point for thinking about potential macro-financial risks caused by imbalances in the economy and whether monetary policy has been sufficient to reign in real economic activity. Our analysis suggests that the lower postCOVID-19 saving rate will likely persist until the economy experiences a tightening in financial conditions and large correction in equity and house prices. |
| Keywords: | Consumption Function, Monetary Policy, Neutral Rate |
| JEL: | E20 E21 E43 E52 |
| Date: | 2024–06 |
| URL: | https://d.repec.org/n?u=RePEc:aez:wpaper:2024-03&r= |
| By: | Simionescu, Mihaela; Schneider, Nicolas |
| Abstract: | Understanding the structure and properties of production networks is essential to identify the transmission channels from monetary shocks. While growingly studied, this literature keeps displaying critical caveats from which the investigation of G-7 economies is not spared. To fill this gap, this paper applies a version of Time-Varying Parameters Bayesian Vector-Autoregressions models (TVP-VAR) and investigates the responses of production networks (upstream and downstream dynamics) to endogeneous monetary shocks on key macro-level indicators (GDP, GDP deflator, exchange rate, short-term and long-term interest rates). Two distinct time-lengths are considered: a test (i.e., 2000–2014) and a treated period (i.e., 2007–2009, ”the Great Recession”). Prior, key statistical conditions are checked using a stepwise stationary testing framework including the Kwiatkowski–Phillips–Schmidt–Shin (Kapetanios et al. in J Economet 112(2):359–379, 2003—KPSS) and panel Breitung (Nonstationary panels, panel cointegration, and dynamic panels. Emerald Group Publishing Limited, London, 2001) unit root tests; followed by the Pesaran (General diagnostic tests for cross section dependence in panels, 2004) Cross-sectional Dependence (CD) test; and the Im–Pesaran–Shin (Im et al. in J Economet 115(1):53–74, 2003—IPS) test for unit root in the presence of heterogenous slope coefficients. Panel Auto-Regressive Distributed Lag Mean Group estimates (PARDL-MG) offer interesting short- and long-run monetary shocks-production networks response functions, stratified by country and sector. Findings clearly indicate that upstreamness forces dominated downstremness dynamics during the period 2000–2014, whereas the financial sector ermeges as the clear transmission channel through which monetary shocks affected the productive economy during the Great Recession. In general, we conclude that the prioduction structure influences the transmission of monetary shocks in the G-7 economies. Adequate policy implications are supplied, along with a methodological note on the forecasting potential of TVP-VAR methodologies when dealing with series exhibiting structural breaks. |
| JEL: | L81 N0 |
| Date: | 2023–11–26 |
| URL: | http://d.repec.org/n?u=RePEc:ehl:lserod:123040&r= |
| By: | Tomohiro Hirano; Joseph E. Stiglitz |
| Abstract: | This paper analyses the impact of credit expansions arising from increases in collateral values or lower interest rate policies on long-run productivity and economic growth in a two-sector endogenous growth economy with credit frictions, with the driver of growth lying in one sector (manufacturing) but not in the other (real estate). We show that it is not so much aggregate credit expansion that matters for long-run productivity and economic growth but sectoral credit expansions. Credit expansions associated mainly with relaxation of real estate financing (capital investment financing) will be productivity-and growth-retarding (enhancing). Without financial regulations, low interest rates and more expansionary monetary policy may so encourage land speculation using leverage that productive capital investment and economic growth are decreased. Unlike in standard macroeconomic models, in ours, the equilibrium price of land will be finite even if the safe rate of interest is less than the rate of output growth. |
| JEL: | E44 O11 |
| Date: | 2024–05 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:32479&r= |
| By: | Xiaodan Ding; Mr. Dimitrios Laliotis; Ms. Priscilla Toffano |
| Abstract: | We developed a novel Systemwide Liquidity (SWL) framework to identify liquidity stress in the system that goes beyond banks and to assess the role played by non-bank financial institutions (NBFIs) in episodes of liquidity stress. The framework, which complements standard liquidity and interconnectedness analyses, traces the flow of liquidity among various agents in the economy and explores possible transmission channels and amplification mechanisms of correlated liquidity shocks. The framework uses unique balance sheet and asset encumbrance data to demonstrate the importance of assessing liquidity at the system level by allowing for (i) analyses of each agent’s contribution to liquidity stress, (ii) analyses of the impact of different behavioral assumptions (e.g., pecking order of collateral utilization, negative externalities of fire-sales and margin positions), and (iii) policy simulations. Since this framework covers a comprehensive set of financial instruments and transactions, it paves the way for harmonization of systemwide liquidity analysis across countries. We applied this general framework to Mexico in the context of the FSAP. Results for Mexico show that commercial banks safeguard the resiliency of the financial system by backstopping the liquidity needs of other agents. Moreover, certain sectors appear more vulnerable when binding regulatory liquidity constraints trigger risk-averse behavioral responses. |
| Keywords: | Systemwide liquidity analysis; liquidity at risk; nonbank financial institution; liquidity stress testing; haircut; asset encumberance; margin calls; repurchase agreement; fire-sales; derivative positions |
| Date: | 2024–05–17 |
| URL: | http://d.repec.org/n?u=RePEc:imf:imfwpa:2024/104&r= |