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on Open Economy Macroeconomics |
| By: | Oliver de Groot; Ceyhun Bora Durdu; Enrique G. Mendoza |
| Abstract: | Global and local methods are widely used in international macroeconomics to analyze incomplete-markets models. We study solutions for an endowment economy, an RBC model and a Sudden Stops model with an occasionally binding credit constraint. First-order, second-order, risky steady state (RSS), and DynareOBC solutions are compared v. fixed-point-iteration global solutions in the time and frequency domains. The solutions differ in key respects, including measures of precautionary savings, cyclical moments, impulse response functions, financial premia and macro responses to credit constraints, and periodograms of consumption, foreign assets and net exports. The global method is easy to implement and fast albeit slower than local methods, except DynareOBC which is of comparable speed. These findings favor global methods except when prevented by the curse of dimensionality and urge caution when using local methods. Of the latter, first-order solutions are preferable because results are very similar to second-order and RSS methods. |
| JEL: | E44 E47 F41 F44 F47 |
| Date: | 2019–11 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:26426&r=all |
| By: | Benigno, Gianluca (Federal Reserve Bank of New York); Chen, Huigang (Uber Technologies Inc.); Otrok, Christopher (University of Missouri, Federal Reserve Bank of St. Louis); Rebucci, Alessandro (John Hopkins University, CEPR); Young, Eric R. (University of Virginia) |
| Abstract: | There is a new and now large literature analyzing government policies for financial stability based on models with endogenous borrowing constraints. These normative analyses build upon the concept of constrained efficient allocation, where the social planner is constrained by the same borrowing limit that agents face. In this paper, we show that the same set of policy tools that implement the constrained efficient allocation can be used by a Ramsey planner to replicate the unconstrained allocation, thus achieving higher welfare. The constrained social planner approach may lead to inaccurate characterizations of welfare-maximizing policies relative to the Ramsey approach. |
| Keywords: | constrained efficiency; financial crises; macroprudential policies and capital controls; pecuniary externalities; Ramsey optimal policy; social planner |
| JEL: | E61 F38 F44 H23 |
| Date: | 2019–10–01 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fednsr:899&r=all |
| By: | Mikhail Dmitriev (Department of Economics, Florida State University); Jonathan Hoddenbagh (Department of Economics, Johns Hopkins University) |
| Abstract: | We establish the share of exports in production as a sufficient statistic for optimal noncooperative monetary policy. Under financial autarky, markups positively co-move with the export share. For complete markets, markups should be procyclical if the export share is procyclical. When central banks cooperate, markups are constant under complete markets, and countercyclical under financial autarky. |
| Keywords: | Open economy macroeconomics, Optimal monetary policy. Price stability |
| JEL: | E50 F41 F42 |
| Date: | 2019–10 |
| URL: | http://d.repec.org/n?u=RePEc:fsu:wpaper:wp2019_10_01&r=all |
| By: | Bianchi, Javier (Federal Reserve Bank of Minneapolis); Ottonello, Pablo (University of Michigan); Presno, Ignacio (Federal Reserve Board of Governors) |
| Abstract: | The excess procyclicality of fiscal policy is commonly viewed as a central malaise in emerging economies. We document that procyclicality is more pervasive in countries with higher sovereign risk and provide a model of optimal fiscal policy with nominal rigidities and endogenous sovereign default that can account for this empirical pattern. Financing a fiscal stimulus is costly for risky countries and can render countercyclical policies undesirable, even in the presence of large Keynesian stabilization gains. We also show that imposing austerity can backfire by exacerbating the exposure to default, but a well-designed "fiscal forward guidance" can help reduce the excess procyclicality. |
| Keywords: | Fiscal stabilization policy; Sovereign default; Procyclicality |
| JEL: | E62 F34 F41 F44 H50 |
| Date: | 2019–09–12 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedmwp:762&r=all |
| By: | Ohanian, Lee E. (University of California Los Angeles); Restrepo-Echavarria, Paulina (Federal Reserve Bank of St. Louis); Van Patten, Diana (University of California Los Angeles); Wright, Mark L. J. (Federal Reserve Bank of Minneapolis) |
| Abstract: | The Bretton Woods international financial system, which was in place from roughly 1949 to 1973, is the most significant modern policy experiment to attempt to simultaneously manage international payments, international capital flows, and international currency values. This paper uses an international macroeconomic accounting methodology to study the Bretton Woods system and finds that it: (1) significantly distorted both international and domestic capital markets and hence the accumulation and allocation of capital; (2) significantly slowed the reconstruction of Europe, albeit while limiting the indebtedness of European countries. Our results also provide support for the utility of the accounting methodology in that it finds a sharp change in the behavior of domestic and international capital market wedges that coincides with the breakdown of the system. |
| Keywords: | Bretton Woods; International Payments; Capital Flows |
| JEL: | E21 F21 F41 J20 |
| Date: | 2019–10–13 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedlwp:2019-030&r=all |
| By: | Georgiadis, Georgios; Gräb, Johannes; Khalil, Makram |
| Abstract: | This paper draws a causal link between the rise of global value chain participation and the decline of exchange rate pass-through to import prices over the last decades. We first present a structural two-country model in order to illustrate how participation in global value chains can impact exchange rate pass-through to import prices. In the model, the sensitivity of an economy's domestic-currency production costs to exchange rate changes rises as it participates more in global value chains by importing a larger share of its intermediate inputs. The increased sensitivity of the economy's domestic-currency production costs to exchange rate changes translates into a higher sensitivity of its domestic-currency export prices. The latter implies a reduction of the sensitivity of the economy's foreign-currency export prices – i.e. its trading partner's local-currency import prices – to exchange rate changes. Hence, an increase in the economy's global value chain participation implies a fall in its trading partner's exchange rate pass-through to import prices. We then provide empirical evidence in a cross-country panel dataset for the time period from 1995 to 2014 that is consistent with the mechanisms spelled out in the structural model. In particular, the data suggest that exchange rate pass-though to export prices is higher in economies which participate more in global value chains, and that exchange rate pass-though to import prices is lower in economies whose trading partners participate more in global value chains. Quantitatively, our estimates imply that the rise in global value chain participation can account for about 50% of the decline in exchange rate pass-through to import prices since the mid-1990s. JEL Classification: F32, F41, F62 |
| Keywords: | exchange rate pass-through, global value chain participation |
| Date: | 2019–11 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20192327&r=all |
| By: | Javier Bianchi; Pablo Ottonello; Ignacio Presno |
| Abstract: | The excess procyclicality of fiscal policy is commonly viewed as a central malaise in emerging economies. We document that procyclicality is more pervasive in countries with higher sovereign risk and provide a model of optimal fiscal policy with nominal rigidities and endogenous sovereign default that can account for this empirical pattern. Financing a fiscal stimulus is costly for risky countries and can render countercyclical policies undesirable, even in the presence of large Keynesian stabilization gains. We also show that imposing austerity can backfire by exacerbating the exposure to default, but a well-designed "fiscal forward guidance" can help reduce the excess procyclicality. |
| Keywords: | Fiscal Stabilization Policy ; Sovereign Default ; Procyclicality |
| JEL: | E62 F34 F41 F44 H50 |
| Date: | 2019–09–20 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedgif:1257&r=all |
| By: | de Haan, Leo; Holton, Sarah; van den End, Jan Willem |
| Abstract: | We empirically analyse the relationship between longer term central bank liquidity support and banks’ balance sheet ratios, using difference-in-differences panel regressions and propensity score matching on a large sample of banks in the euro area. The research question is whether the liquidity operations, which were introduced to prevent disorderly deleveraging, can also be linked to unintended changes in banks’ funding policies and asset allocations. The results show that unconditional and conditional refinancing operations are associated with different developments on banks’ balance sheets. Unconditional longer-term refinancing operations went together with higher maturity transformation by banks in stressed countries, and also more carry trades, i.e. banks borrowing more while increasing their holdings of government bonds. In contrast, refinancing operations that were conditional on banks’ lending were not associated with such carry trades, highlighting the benefits of conditionality attached to long-term refinancing operations. JEL Classification: E51, G21, G32 |
| Keywords: | banking, central bank liquidity, financial intermediation |
| Date: | 2019–11 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20192326&r=all |
| By: | Vespignani, Joaquin L. (University of Tasmania); Raghavan, Mala (University of Tasmania); Majumder, Monoj Kumar (Sher-e-Bangla Agricultural University) |
| Abstract: | An important economic paradox that frequently arises in the economic literature is that countries with abundant natural resources are poor in terms of real gross domestic product per capita. This paradox, known as the “resource curse,” is contrary to the conventional intuition that natural resources help to improve economic growth and prosperity. Using panel data for 95 countries, this study revisits the resource curse paradox in terms of oil resource abundance for the period 1980–2017. In addition, the study examines the role of trade openness in influencing the relationship between oil abundance and economic growth. The study finds that trade openness is a possible avenue to reduce the resource curse. Trade openness allows countries to obtain competitive prices for their resources in the international market and access advanced technologies to extract resources more efficiently. Therefore, natural resource–rich economies can reduce the resource curse by opening themselves to international trade. |
| Keywords: | Oil rents; real GDP per capita; trade openness; dynamic panel data model |
| JEL: | E23 F13 Q43 |
| Date: | 2019–10–01 |
| URL: | http://d.repec.org/n?u=RePEc:fip:feddgw:370&r=all |
| By: | Benjamin Born; Francesco D'Ascanio; Gernot Müller; Johannes Pfeifer |
| Abstract: | Under fixed exchange rates, fiscal policy is an effective tool. According to classical views because it impacts the real exchange rate, according to Keynesian views because it impacts output. Both views have merit because the effects of government spending are asymmetric. A spending cut lowers output but does not alter the real exchange rate. A spending increase appreciates the exchange rate but does not alter output unless there is economic slack. We establish these results in a small open economy model with downward nominal wage rigidity and provide empirical evidence on the basis of quarterly time-series data for 38 countries. |
| Keywords: | downward nominal wage rigidity, government spending shocks, exchange rate peg, real exchange rate, output, non-linear effects, asymmetric adjustment |
| JEL: | E62 F41 F44 |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:ces:ceswps:_7922&r=all |
| By: | Kuikeu, Oscar |
| Abstract: | what could explained the persistence on the dependence of sub-Saharan African countries toward the export of raw materials? This is the main question of this paper. In fact, we test the hypothesis of a Dutch disease occurrence in CEMAC. Globally speaking, the obtained results are significant testimony of the robustness of VAR methodology as an engine to test this kind of hypothesis. The volatility in the international price of raw materials and the real exchange rate appreciation are the main causes of the Dutch disease occurrence in CEMAC, following our results from the VAR models. To finish, also following our results, between these two factors (volatility and competitivity), in Cameroon, it is the channel of exchange rate who prevails relatively more contrary to Gabon. |
| Keywords: | CEMAC, Dutch disease, VAR models |
| JEL: | C32 F41 |
| Date: | 2019–11–04 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:96813&r=all |
| By: | Daniel Baksa (Institute for Capacity Development, International Monetary Fund and Central European University); Istvan Konya (Institute of Economics, Centre for Economic and Regional Studies, and University of Pécs and Central European University) |
| Abstract: | We study the role of productivity convergence and financial conditions in the recent growth experience of Hungary. We build a stochastic, small-open economy growth model with productivity convergence, capital accumulation and external borrowing. Using empirically identified processes for productivity and the external interest premium, we simulate the effects of two unexpected, permanent changes on Hungarian growth. The first change is the sharp productivity slowdown starting in 2006, and the second is the tightening of external financial conditions starting in 2009. Simulating our model, we show that the empirically identified productivity and interest premium processes - along with the two unexpected permanent changes and regular i.i.d. productivity and interest premium innovations – capture the main medium-run dynamics of the Hungarian economy both before and after the global financial crisis. Running counterfactuals, we also find that the observed slowdown in GDP per capita growth was mostly driven by productivity, while the tightening of external financing conditions is important to understand investment behavior and the net foreign asset position. |
| Keywords: | economic growth, convergence, productivity, interest premium, Hungary |
| JEL: | E13 E22 F43 O47 |
| Date: | 2019 |
| URL: | http://d.repec.org/n?u=RePEc:has:discpr:1916&r=all |
| By: | Shaghil Ahmed; Ricardo Correa; Daniel A. Dias; Nils Gornemann; Jasper Hoek; Anil K. Jain; Edith X. Liu; Anna Wong |
| Abstract: | China’s economy has become larger and more interconnected with the rest of the world, thus raising the possibility that acute financial stress in China may lead to global financial instability. This paper analyzes the potential spillovers of such an event to the rest of the world with three methodologies: a VAR, an event study, and a DSGE model. We find the sentiment channel to be the primary spillover channel to the United States, affecting global risk aversion and asset prices such as equity prices and the dollar, in addition to modest real effects through the trade channel. In comparison, the combined financial and real effects to other advanced and emerging market economies, especially net commodity exporters, would be more consequential due to their larger direct exposure to China and more limited scope of monetary policy to respond to shocks. |
| Keywords: | China ; Financial crisis ; Spillovers ; Financial system |
| JEL: | F30 G28 E60 |
| Date: | 2019–10–18 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedgif:1260&r=all |
| By: | Rodrigo, Alejandro |
| Abstract: | The current account in general and the trade balance in particular can be useful indicators of competitiveness. Capital investments are undertaken to increase productive capacity and enhance competitive position, but if competitors also invest wisely or our own investments generate a misallocation of resources the competitive position may remain unchanged or even get worse. Empirical research regarding the sustainability of persistent current account deficits for the Spanish economy aims to provide evidence about the predictability of future financial crises. In addition, further analysis is performed concerning the recent current account adjustment in order to answer the inquiries relating its continuity. |
| Keywords: | current account deficits, trade balance, capital expenditure, unit labor cost, competitive position, intertemporal budget constraint, sustainability. |
| JEL: | F21 F30 F32 F41 |
| Date: | 2019–10–18 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:96753&r=all |
| By: | Gordon, Grey (Federal Reserve Bank of Richmond) |
| Abstract: | Taste shocks result in nondegenerate choice probabilities, smooth policy functions, continuous demand correspondences, and reduced computational errors. They also cause significant computational cost when the number of choices is large. However, I show that, in many economic models, a numerically equivalent approximation may be obtained extremely efficiently. If the objective function has increasing differences (a condition closely tied to policy function monotonicity) or is concave in a discrete sense, the proposed algorithms are O(n log n) for n states and n choice--a drastic improvement over the naive algorithm's O(n2) cost. If both hold, the cost can be further reduced to O(n). Additionally, with increasing differences in two state variables, I propose an algorithm that in some cases is O(n2) even without concavity (in contrast to the O(n3) naive algorithm). I illustrate the usefulness of the proposed approach in an incomplete markets economy and a long-term sovereign debt model, the latter requiring taste shocks for convergence. For grid sizes of 500 points, the algorithms are up to 200 times faster than the naive approach. |
| Keywords: | Computation; Monotonicity; Discrete Choice; Taste Shocks; Sovereign Default; Curse of Dimensionality |
| JEL: | C61 C63 E32 F34 F41 F44 |
| Date: | 2019–09–11 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedrwp:19-15&r=all |
| By: | Ahmed, Rashad |
| Abstract: | I investigate the link between economic fundamentals and exchange rate adjustment to commodity price fluctuations. I overcome the traditional issue of simultaneity by exploiting the September 14, 2019 drone attack on two Saudi Arabian refineries as a natural experiment. This unanticipated event caused the largest 1-day global crude oil price spike in over a decade. Using high-frequency exchange rate data for 30 countries, I measure each currency’s return around the event window, and link currency return heterogeneity to country-level economic and monetary fundamentals. Crude export and import intensities were associated with appreciation (depreciation). In addition, countries with current account surpluses, as opposed to deficits, and greater international reserves saw more currency appreciation, thereby buffering the depreciating effects on crude oil importers. Countries with higher policy interest rates, consisting of mostly Emerging Market economies, experienced greater depreciation conditional on crude oil export/import exposure. |
| Keywords: | Commodity, exchange rates, oil price, terms of trade |
| JEL: | E44 F3 F31 Q43 |
| Date: | 2019–10–10 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:96855&r=all |
| By: | Mariam Camarero (Jaume I University. Department of Economics, Av. de Vicent Sos Baynat s/n, E-12071 Castellón, Spain); María Dolores Gadea-Rivas (Department of Economic Structure and History and Public Economics, Applied Economics Area, GVia 2. planta 5, University of Zaragoza, 50005-Zaragoza, Spain); Ana Gómez-Loscos (Banco de España, DGEconomics, Statistics and Research, Alcala 48, 28014 Madrid, Spain); Cecilio Tamarit (University of Valencia, INTECO Joint Research Unit. Department of Applied Economics II. PO Box 22.006 - E-46071 Valencia, Spain) |
| Abstract: | A decade after the beginning of the Great Recession, flow external imbalances, measured by the current account (CA) have narrowed markedly. However, stock or net foreign assets (NFA) imbalances have kept increasing and have created challenges for future macroeconomic and financial stability. To date, early warning systems (scoreboards) have focused more on flow than on the stock variables. To approach this problem, in this paper we analyze expansions using two complementary sets of indicators proposed by Harding and Pagan (2002) and Gadea et al. (2017). After controlling for a large set of explanatory variables, we find that the effect of CA imbalances is limited, except when the measures selected take into account past CA developments or some degree of persistence. In contrast, the evolution of NFA seems to be much more explanatory of the time it takes to regain the level of output previous to the recession, as well as the amplitude and the cumulation of the recoveries. Therefore, we conclude that future macro-prudential policies should pay more attention to stock variables to measure external imbalances due to their effects on the characteristics of recoveries. |
| Keywords: | Business cycles, recoveries, NFA, external imbalances, current account |
| JEL: | F21 R12 C23 |
| Date: | 2019–10 |
| URL: | http://d.repec.org/n?u=RePEc:eec:wpaper:1912&r=all |
| By: | Samer Shousha |
| Abstract: | This paper shows that dollar appreciations lead to declines in GDP, investment, and credit to the private sector in emerging market economies (EMEs). These results imply that the transmission of dollar movements to EMEs occurs mainly through financial conditions rather than net exports, contrary to what would be expected from the conventional Mundell-Fleming model. Moreover, the central role of the U.S. dollar in global trade invoicing and financing - the dominant currency paradigm - and the increased integration of EMEs into international supply chains weaken the traditional trade channel. Finally, as expected if financial vulnerabilities are prominent, EMEs with higher exposure to credit denominated in dollars and lower monetary policy credibility experience greater contractions during dollar appreciations. |
| Keywords: | Dollar ; Balance sheet mismatch ; Dominant currency paradigm ; Global value chain ; Monetary policy credibility |
| JEL: | F31 F34 F36 F41 F44 |
| Date: | 2019–10–04 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedgif:1258&r=all |
| By: | Heise, Sebastian (Federal Reserve Bank of New York) |
| Abstract: | Economists have long suspected that firm-to-firm relationships might lower the responsiveness of prices to shocks due to the use of fixed-price contracts. Using transaction-level U.S. import data, I show that the pass-through of exchange rate shocks in fact rises as a relationship grows older. Based on novel stylized facts about a relationship’s life cycle, I develop a model of relationship dynamics in which a buyer-seller pair accumulates relationship capital to lower production costs under limited commitment. The structurally estimated model generates countercyclical markups and countercyclical pass-through of shocks through variation in the economy’s rate of relationship creation, which falls in recessions. |
| Keywords: | prices; exchange rate; supply chain; trade relationships |
| JEL: | E30 E32 F14 L14 |
| Date: | 2019–08–01 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fednsr:896&r=all |
| By: | Amat Adarov (The Vienna Institute for International Economic Studies, wiiw) |
| Abstract: | Using dynamic factor models and state-space techniques we quantify financial cycles for twenty European countries over the period 1960Q1–2015Q4 capturing imbalances across credit, housing, bond and equity markets. The paper documents the existence of slow-moving and persistent financial cycles for all countries in the sample, many of which also exhibit high cross-country synchronicity. Spillover analysis points at the significant role the global financial cycle and a common latent region-specific factor, the European financial cycle, play in shaping national financial market dynamics. Estimations using Bayesian panel VAR models to assess interactions between external and internal macroeconomic imbalances suggest that financial cycles are an important driver of business cycles and public debt dynamics, with much stronger shock transmission observed in the euro area and systemic European economies. Disclaimer Research for this paper was financed by the Anniversary Fund of the Oesterreichische Nationalbank (Project No. 17044). Support provided by Oesterreichische Nationalbank for this research is gratefully acknowledged. |
| Keywords: | financial cycles, macroeconomic imbalances, financial stability, business cycles, financial spillovers, panel VAR, Bayesian VAR |
| JEL: | E44 F32 G15 F4 |
| Date: | 2019–10 |
| URL: | http://d.repec.org/n?u=RePEc:wii:wpaper:166&r=all |
| By: | Gordon Y. Liao |
| Abstract: | This paper examines the connection between deviations in covered interest rate parity and differences in the credit spread of bonds of similar risk but different currency denomination. These two pricing anomalies are highly aligned in both the time series and the cross-section of currencies. The composite of these two pricing deviations – the corporate basis – represents the currency-hedged borrowing cost difference between currency regions and explains up to a third of the variation in the aggregate corporate debt issuance flow. I show that arbitrage aimed at exploiting one type of security anomaly can give rise to the other. |
| Keywords: | Covered interest rate parity ; Limits of arbitrage ; Credit market segmentation ; Debt issuance ; Dollar convenience yield ; Foreign exchange rate hedge |
| JEL: | E44 F3 F55 G12 G15 G23 G28 G32 |
| Date: | 2019–08 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedgif:1255&r=all |
| By: | Nathan Converse; Enrico Mallucci |
| Abstract: | How does sovereign risk affect investors' behavior? We answer this question using a novel database that combines sovereign default probabilities for 27 developed and emerging markets with monthly data on the portfolios of individual bond mutual funds. We first show that changes in yields do not fully compensate investors for additional sovereign risk, so that bond funds reduce their exposure to a country's assets when its sovereign default risk increases. However, the magnitude of the response varies widely across countries. Fund managers aggressively reduce their exposure to high-debt countries and high-risk countries. By contrast, they are more lenient toward core developed markets. In this sense, these economies appear to receive preferential treatment. Second, we document what determines the destination of reallocation ows. When fund managers reduce their exposure to a country in response to its sovereign risk, they shift their assets to countries outside the immediate geographic region while at the same time avoiding countries with high debt-to-GDP ratios and markets to which they are already heavily exposed. These results are supportive of models of sovereign default that assign a nontrivial role to the preferences of international creditors. |
| Keywords: | Sovereign risk ; Mutual funds ; International capital flows ; Spillovers |
| JEL: | F3 F32 F36 G1 G11 G15 G2 G23 |
| Date: | 2019–10–18 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedgif:1261&r=all |
| By: | Duca, John V. (Federal Reserve Bank of Dallas) |
| Abstract: | Evidence indicates that house prices have become somewhat more synchronized during this century, likely reflecting more correlated movements in long-term interest rates and macroeconomic cycles that are related to trends in globalization and international portfolio diversification. Nevertheless, the trend toward increased synchronization has not been continuous, reflecting that house prices depend on other fundamentals, which are not uniform across countries or cities. Theory and limited econometric evidence indicate that the more common are fundamentals, the more in-synch house price cycles will become and the more substitution effects may matter. In addition, real estate markets that are open to immigration and foreign investment have become more sensitive to shifts in the international demand for property by migrants or investors. |
| Keywords: | House prices; synchronization; star cities; international capital flows |
| JEL: | R0 R20 |
| Date: | 2019–10–09 |
| URL: | http://d.repec.org/n?u=RePEc:fip:feddwp:1911&r=all |