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on Open MacroEconomics |
| By: | Vincenzo Cuciniello (Chair of International Finance, Ecole Polytechnique Federale de Lausanne (EPFL), Switzerland); Luisa Lambertini (Chair of International Finance, Ecole Polytechnique Federale de Lausanne (EPFL), Switzerland) |
| Abstract: | We study whether monetary policy should target the exchange rate in a two-country model with non-atomistic wage setters, non-traded goods and different degrees of exchange-rate pass through. Commitment to an exchange rate target reduces the labor market distortion. Large labor unions anticipate that higher wages depreciate the exchange rate, which triggers an increase in the interest rate and restrain wage demands. However, reduced exchange rate flexibility worsens the distortion stemming from preset pricing. Targeting the nominal exchange rate will be optimal when the labor market distortion is larger than the preset-pricing one. This result arises with cooperation both under producer and local currency pricing, even though the optimal degree of exchange-rate targeting is higher under local currency pricing. In the Nash equilibrium, the terms-of-trade effect raises optimal wage mark-ups thereby reducing the optimal weight on the exchange rate target. The terms-of-trade effect is stronger as openness and substitutability among Home and Foreign goods increase. |
| Keywords: | Monetary policy, International Finance, Open-Economy Macroeconomics |
| JEL: | F3 F41 E52 |
| Date: | 2009–05 |
| URL: | http://d.repec.org/n?u=RePEc:cif:wpaper:200901&r=opm |
| By: | Enrique G. Mendoza; Vincenzo Quadrini |
| Abstract: | Two observations suggest that financial globalization played an important role in the recent financial crisis. First, more than half of the rise in net borrowing of the U.S. nonfinancial sectors since the mid 1980s has been financed by foreign lending. Second, the collapse of the U.S. housing and mortgage-backed-securities markets had worldwide effects on financial institutions and asset markets. Using an open-economy model where financial intermediaries play a central role, we show that financial integration leads to a sharp rise in net credit in the most financially developed country and leads to large asset price spillovers of country-specific shocks to bank capital. The impact of these shocks on asset prices are amplified by bank capital requirements based on mark-to-market. |
| JEL: | E44 F36 F41 |
| Date: | 2009–10 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:15432&r=opm |
| By: | Jean Imbs; Haroon Mumtaz; Morten O. Ravn; Hélène Rey |
| Abstract: | We use a unique dataset on television prices across European countries and regions to investigate the sources of differences in price levels. Our findings are as follows: (i) Quality is a crucial determinant of price differences. Even in an integrated economic zone as Europe, rich economies tend to consume higher quality goods. This effect accounts for the lion’s share of international price dispersion. (ii) Sizable international price differentials subsist even for the same television sets. The average bilateral price difference is as high as 80 euros, or 8% of the average TV price in our sample. (iii) EMU countries display lower price dispersion than non-EMU countries. (iv) absolute price differentials and relative price volatility are positively correlated with exchange rate volatility, but not with conventional measures of transport costs. (v) Importantly we show brand premia are sizable. They differ markedly across borders, in a way that does not correlate with transport costs, nor exchange rate movements. Taken together, the evidence is consistent firms exploiting market power through brand values to price discriminate across borders. |
| JEL: | F0 F1 F15 F23 F41 |
| Date: | 2009–10 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:15418&r=opm |
| By: | Dan Andrews (Reserve Bank of Australia); Daniel Rees (Reserve Bank of Australia) |
| Abstract: | This paper explores the effect of terms of trade volatility on macroeconomic volatility using a panel of 71 countries from 1971–2005. It finds that terms of trade volatility has a statistically significant and positive impact on the volatility of output growth and inflation, although the magnitudes of these effects depend on the policy framework and the structure of markets. Specifically, adopting a more flexible exchange rate tends to ameliorate the effect of terms of trade shocks on macroeconomic volatility. The paper also finds some evidence that a monetary policy regime that focuses on low inflation helps to moderate the volatility of output and inflation in the face of a volatile terms of trade. The same is true of financial market development in the case of output volatility. Using data on the expenditure components of GDP, the channels through which terms of trade shocks affect output are examined. The results suggest that terms of trade volatility has its largest effect on the volatility of consumption, exports and imports. There is evidence to suggest that greater financial market development helps to mitigate the effect of terms of trade volatility on consumption volatility, while monetary policy that focuses on low inflation is associated with lower volatility of imports. |
| Keywords: | terms of trade shocks; growth; inflation; structural reform |
| JEL: | E20 F41 |
| Date: | 2009–10 |
| URL: | http://d.repec.org/n?u=RePEc:rba:rbardp:rdp2009-05&r=opm |
| By: | Laura Mayoral; Maria Dolores Gadea |
| Abstract: | In this paper we analyze the persistence of aggregate real exchange rates (RERs) for a group of EU-15 countries by using sectoral data. The tight relation between aggregate and sectoral persistence recently investigated by Mayoral (2008) allows us to decompose aggregate RER persistence into the persistence of its different subcomponents. We show that the distribution of sectoral persistence is highly heterogeneous and very skewed to the right, and that a limited number of sectors are responsible for the high levels of persistence observed at the aggregate level. We use quantile regression to investigate whether the traditional theories proposed to account for the slow reversion to parity (lack of arbitrage due to nontradibilities or imperfect competition and price stickiness) are able to explain the behavior of the upper quantiles of sectoral persistence. We conclude that pricing to market in the intermediate goods sector together with price stickiness have more explanatory power than variables related to the tradability of the goods or their inputs. |
| Keywords: | PPP puzzle, real exchange rates, persistence, heterogeneous dynamics, aggregation bias, nontradability, imperfect competition, pricing-to-market. |
| Date: | 2009–10–13 |
| URL: | http://d.repec.org/n?u=RePEc:aub:autbar:787.09&r=opm |
| By: | Vincenzo Cuciniello (Chair of International Finance, Ecole Polytechnique Federale de Lausanne (EPFL), Switzerland) |
| Abstract: | This paper uses a two-country, sticky-price model with non-atomistic wage setters to study the role of collective wage bargaining in the propagation of monetary shocks. I find that the welfare transmissions of a monetary expansion are reinforced by different labor market structures. Non-atomistic domestic unions anticipate that their wage demands raise real labor income through a movement of the terms of trade. This leads to an additional channel of transmission of monetary policy that goes through aggregate supply. Yet, workers benefit more from a monetary expansion when the exchange rate pass-through is not limited and the elasticity of substitution across traded goods is sizable. It follows that wage mark-ups charged by unions endogenously vary with those structural parameters. In particular, labor and product market distortions are strategic substitute in affecting the perceived labor demand elasticity. |
| Keywords: | non-atomistic agents, interdependence, exchange rate fluctuation, wage setting |
| JEL: | F41 F42 J5 |
| Date: | 2009–07 |
| URL: | http://d.repec.org/n?u=RePEc:cif:wpaper:200906&r=opm |
| By: | Vincenzo Cuciniello (Chair of International Finance, Ecole Polytechnique Federale de Lausanne (EPFL), Switzerland) |
| Abstract: | This paper presents a simple model of policy coordination in line with the New Open Economy Macroeconomics literature. I extent the analysis on non-cooperative toward cooperative solutions by incorporating a collective wage bargaining system and conservative central banks. It turns out that previous results on international monetary policy cooperation are modified such that cooperation is welfare improving. The finding in the model relies on wage setters’ perceptions about affecting monetary policy. It is shown that under cooperation wage setters perceive a tighter monetary policy, thereby inducing wage restraints. |
| Keywords: | Monetary policy games , International policy coordination , Central bank conservatism, Monopoly unions |
| JEL: | E58 F41 F42 J51 |
| Date: | 2009–06 |
| URL: | http://d.repec.org/n?u=RePEc:cif:wpaper:200905&r=opm |
| By: | Diego A. Comin; Norman Loayza; Farooq Pasha; Luis Serven |
| Abstract: | We build a two country asymmetric DSGE model with two features: (i) a product cycle structure determines the range of intermediate goods used to produce new capital in each country and (ii) there are investment flow adjustment costs in the developing economy. We calibrate the model to match the Mexico-US trade and FDI flows. The model is able to explain (i) why US shocks have a larger effect on Mexico than in the US and hence why the Mexican economy is more volatile than the US; (ii) why US business cycles lead over medium term fluctuations in Mexico and (iii) why Mexican consumption is not less volatile than output. |
| JEL: | E3 F1 F2 F4 O3 |
| Date: | 2009–10 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:15428&r=opm |
| By: | Stephen Murchison |
| Abstract: | Several authors have presented reduced-form evidence suggesting that the degree of exchange rate pass-through to the consumer price index has declined in Canada since the early 1980s and is currently close to zero. Taylor (2000) suggests that this phenomenon, which has been observed for several other countries, may be due to a change in the behaviour of inflation. Specifically, moving from a high to a low-inflation environment has reduced the expected persistence of cost changes and, by consequence, the degree of pass-through to prices. This paper extends his argument, suggesting that this change in persistence is due to a change in the parameters of the central bank's policy rule. Evidence is presented for Canada indicating that policy has responded more aggressively to inflation deviations over the low pass-through period relative to the high pass-through period. We test the quantitative importance of this change in policy for exchange rate pass-through by varying the parameters of a simple monetary policy rule embedded in an open economy, dynamic stochastic general equilibrium model. Results suggest that increases in the aggressiveness of policy consistent with that observed for Canada are sufficient to effectively eliminate measured pass-through. However, this conclusion depends critically on the inclusion of price-mark-up shocks in the model. When these are excluded, a more modest decline to pass-through is predicted. |
| Keywords: | Exchange rates; Transmission of monetary policy |
| JEL: | F31 F41 E52 |
| Date: | 2009 |
| URL: | http://d.repec.org/n?u=RePEc:bca:bocawp:09-29&r=opm |
| By: | L. Randall Wray |
| Abstract: | This paper contrasts the orthodox approach with an alternative view on finance, saving, deficits, and liquidity. The conventional view on the cause of the current global financial crisis points first to excessive United States trade deficits that are supposed to have "soaked up" global savings. Worse, this policy was ultimately unsustainable because it was inevitable that lenders would stop the flow of dollars. Problems were compounded by the Federal Reserve's pursuit of a low-interest-rate policy, which involved pumping liquidity into the markets and thereby fueling a real estate boom. Finally, with the world awash in dollars, a run on the dollar caused it to collapse. The Fed (and then the Treasury) had to come to the rescue of U.S. banks, firms, and households. When asset prices plummeted, the financial crisis spread to much of the rest of the world. According to the conventional view, China, as the residual supplier of dollars, now holds the fate of the United States, and possibly the entire world, in its hands. Thus, it's necessary for the United States to begin living within its means, by balancing its current account and (eventually) eliminating its budget deficit. I challenge every aspect of this interpretation. Our nation operates with a sovereign currency, one that is issued by a sovereign government that operates with a flexible exchange rate. As such, the government does not really borrow, nor can foreigners be the source of dollars. Rather, it is the U.S. current account deficit that supplies the net dollar saving to the rest of the world, and the federal government budget deficit that supplies the net dollar saving to the nongovernment sector. Further, saving is never a source of finance; rather, private lending creates bank deposits to finance spending that generates income. Some of this income can be saved, so the second part of the saving decision concerns the form in which savings might be held—as liquid or illiquid assets. U.S. current account deficits and federal budget deficits are sustainable, so the United States does not need to adopt austerity, nor does it need to look to the rest of the world for salvation. Rather, it needs to look to domestic fiscal stimulus strategies to resolve the crisis, and to a larger future role for government in helping to stabilize the economy. |
| Keywords: | Finance; Saving; Budget Deficits; Current Account Deficits; Financial Crisis |
| JEL: | E12 E21 E22 E42 E63 F32 |
| Date: | 2009–10 |
| URL: | http://d.repec.org/n?u=RePEc:lev:wrkpap:wp_580&r=opm |