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on Open Economy Macroeconomics |
| By: | Stelios Fourakis; Loukas Karabarbounis |
| Abstract: | Advanced economies borrowed substantially during the Covid recession to fund their fiscal policy. The Covid recession differed from the Great Recession in that sovereign debt markets remained calm and spreads barely responded. We study the experience of Greece, the most extreme manifestation of the puzzling behavior of spreads during Covid. We develop a small open economy model with long-term debt and default, which we augment with official lenders, heterogeneous households and sectors, and Covid constraints on labor supply and consumption demand. The model is quantitatively consistent with the observed boom-bust cycle of Greece before Covid and salient observations on macro aggregates, government debt, and the sovereign spread during Covid. The spread is stable despite a rise in external borrowing during Covid, because lockdowns were perceived as transitory and the bailouts of the 2010s had tilted the composition of debt at the beginning of Covid away from defaultable private debt. The ECB's policy of purchasing debt in secondary markets during Covid did not stabilize spreads so much, but allowed the government to provide transfers that reduced inequality. |
| Keywords: | Official lending; Lockdowns; Inequality; Sovereign debt |
| JEL: | E58 E20 F44 F34 E60 |
| Date: | 2024–01–09 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedmwp:97773&r=opm |
| By: | Alessandro Moro (Bank of Italy); Valerio Nispi Landi (Bank of Italy) |
| Abstract: | Using a DSGE model, we study the macroeconomic consequences of a foreign central bank digital currency (CBDC) being available to residents in a small open economy. We find that a gradual and permanent increase in domestic households' preference for a foreign CBDC leads to a structural reduction in economic activity, especially when the CBDC is designed to be similar to domestic deposits. Imposing capital flow management measures on outflows, relaxing macroprudential policy, or selling foreign reserves can help smooth the transition. A Taylor rule that targets PPI inflation is more effective in limiting the disruptive effects than CPI targeting or an exchange-rate peg. We also show that an economy with a large stock of foreign CBDC is better shielded from exogenous increases in the interest rate on foreign debt if the CBDC remuneration remains constant. |
| Keywords: | central bank digital currency, DSGE model, open economy macroeconomics, financial globalization |
| JEL: | E44 E58 F38 F41 |
| Date: | 2023–07 |
| URL: | http://d.repec.org/n?u=RePEc:bdi:wptemi:td_1416_23&r=opm |
| By: | Dr. Romain Baeriswyl; Alex Oktay; Dr. Marc-Antoine Ramelet |
| Abstract: | We find that the response of stock prices to the exchange rate reflects a currency denomination effect—that is, a change in the relative international value of firms’ cash flows and equity—rather than a change in domestic economic conditions. To do so, we compute exogenous movements for the Swiss franc on SNB announcement days and trace their effects on Swiss stocks. Exploiting firm heterogeneity reveals that the prices of stocks with foreign-denominated cash flows are considerably more sensitive to the exchange rate. Using the staggered introduction of American Depositary Receipts in Switzerland, we provide causal evidence that cross-listing markedly amplifies the sensitivity of domestic stock prices to exchange rate fluctuations, consistent with the law of one price. Stock market movements that follow central bank announcements should therefore be interpreted with caution because they partially reflect parity movements and not only economic information. |
| Keywords: | International asset pricing, Law of one price, Exchange rate shocks, Cross-listing |
| JEL: | F31 G12 G15 |
| Date: | 2023 |
| URL: | http://d.repec.org/n?u=RePEc:snb:snbwpa:2023-05&r=opm |
| By: | Ayse Dur; Andrew Glover; Jacek Rothert |
| Abstract: | We highlight the welfare effect of policies that balance global current accounts when households face uninsurable income risk and borrowing constraints. Subsidizing savings in debtor economies reduces current account imbalances and raises the welfare of almost all citizens by increasing world capital, raising wages, and improving insurance for low-wealth households. The same balancing of current accounts is achieved by taxing savings in lender economies; however, this policy hurts most households by reducing global capital. These results suggest that balancing global imbalances may be a positive byproduct of raising investment rates, especially in debtor countries. |
| Keywords: | global imbalances; incomplete markets; heterogeneity |
| JEL: | E2 E44 F32 F36 F4 |
| Date: | 2024–02–14 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedkrw:97779&r=opm |
| By: | Edwards, Sebastián |
| Abstract: | In this paper I analyze the work on exchange rates and external imbalances by University of Chicago faculty members during the university’s first hundred years, 1892-1992. Many people associate Chicago’s views with Milton Friedman’s advocacy for flexible exchange rates. But, of course, there was much more than that, including the work of J. Laurence Laughlin on bimetallism, Jacob Viner on the balance of payments, Lloyd Metzler on transfers, Harry Johnson on trade and currencies, Lloyd Mints on exchange rate regimes, Robert Mundell on optimal currency areas, and Arnold Harberger on shadow exchange rates, among other. The analysis shows that, although different scholars emphasized different issues, there was a common thread in this research, anchored on the role of relative prices’ changes during the adjustment process. |
| Date: | 2024–02–16 |
| URL: | http://d.repec.org/n?u=RePEc:osf:socarx:vrtns&r=opm |
| By: | Torres, Leonardo Barros; Paczos, Wojtek (Cardiff Business School); Shakhnov, (University of Surrey) |
| Abstract: | We present a theory of determinants of sovereign debt stability on foreign and domestic markets. Besides the two traditional factors - debt size and output contractions, we highlight the role of the third factor: distortionary tax, which hinders the government’s ability to freely raise revenues. We emphasise the impact of tax distortions and output fluctuations on the trade-off between domestic and foreign debt stability. The paper explains why outright defaults in domestic debt are rare, despite its significant share in public debt, and provides insights into optimal debt issuance and taxation strategies. |
| Keywords: | sovereign debt, debt stability, selective default, debt composition, distortionary tax |
| JEL: | F34 G15 H63 |
| Date: | 2024–02 |
| URL: | http://d.repec.org/n?u=RePEc:cdf:wpaper:2024/8&r=opm |
| By: | António Afonso; José Alves; Sofia Monteiro |
| Abstract: | Acknowledging the potential detrimental impact that twin-deficits may have on sovereign risk, this study uses a two-step approach to assess the impact of fiscal and external sustainability on sovereign risk dynamics for a panel of 27 European Economies between 2001Q4 and 2022Q3. To do so, we first estimate a country-specific time-varying measure of fiscal sustainability, through the cointegration between government revenues and expenditures, and of external sustainability, derived from the exports-imports cointegration. We then resort to those time-varying coefficients to assess their impact on sovereign risk, proxied by 10-year CDS and CDS spreads (against the US) making use of Weighted Least Squares (WLS) analysis. Noticeably, we show that an improvement of both fiscal and external sustainability lead to a reduction in sovereign risk. This phenomenon becomes notably pronounced, particularly when examining countries experiencing an upward trajectory in their public debt levels. |
| Keywords: | Sovereign Risk; Fiscal Sustainability; External Sustainability; CDS; CDS spreads. |
| JEL: | C23 F45 G23 G32 H63 |
| Date: | 2024–02 |
| URL: | http://d.repec.org/n?u=RePEc:ise:remwps:wp03112024&r=opm |
| By: | Charles Yuji Horioka (Research Institute for Economics and Business Administration, Kobe University, Asian Growth Research Institute, Institute of Social and Economic Research, Osaka University, JAPAN, School of Economics, University of the Philippines, Diliman, PHILIPPINES, and National Bureau of Economic Research, JAPAN) |
| Abstract: | The finding of Feldstein and Horioka (1980) that domestic saving and domestic investment are highly correlated across countries despite the rapid globalization and liberalization of financial markets in recent decades has been regarded as a Puzzle or Paradox. However, in this paper, we show that countries as a whole may not be able to transfer their capital abroad and that the Feldstein-Horioka Finding of domestic saving and domestic investment being highly correlated across countries may arise even if there are no frictions in financial markets and even if individual investors can freely transfer their capital abroad if there are frictions in goods markets such as transport costs, tariffs, nontariff barriers, the cost of regulatory compliance, etc. In fact, there is evidence that frictions in goods markets are a more serious impediment to countries as a whole being able to transfer their capital abroad than frictions in financial markets, especially in the short run. |
| Keywords: | Capital controls; Fallacy of composition; Feldstein-Horioka finding; Feldstein-Horioka Puzzle or Paradox; Frictions in financial markets; Frictions in goods markets; Global interest rate; Globalization and liberalization of financial markets; Interest parity; Interest rate equalization; International capital flows; International capital mobility; Saving-investment correlations; Saving retention coefficient; Trade costs; Trade frictions |
| JEL: | F15 F21 F32 F36 F41 G15 |
| Date: | 2024–02 |
| URL: | http://d.repec.org/n?u=RePEc:kob:dpaper:dp2024-03&r=opm |
| By: | Fabrizio Ferriani (Bank of Italy); Andrea Gazzani (Bank of Italy); Filippo Natoli (Bank of Italy) |
| Abstract: | Using data from a broad panel of countries at a weekly frequency, we find that local natural disasters have significant effects on global portfolio flows. First, when disasters strike, international investors reduce their net flows to equity mutual funds exposed to affected countries. This only happens when disasters occur in the emerging economies that are more exposed to climate risk. Second, natural disasters lead investors to reduce their portfolio flows into unaffected, high-climate-risk countries in the same region as well. Third, disasters in high-climate-risk emerging economies spur investment flows into advanced countries that are relatively safer from a climate risk standpoint. Overall, this suggests that natural disasters trigger an updating of beliefs about global climate threats that are propagated via a new channel: international investors search for climatic safety. |
| Keywords: | climate change, natural disasters, capital flows, flight-to-safety, emerging markets |
| JEL: | C32 C33 E44 F3 Q54 |
| Date: | 2023–07 |
| URL: | http://d.repec.org/n?u=RePEc:bdi:wptemi:td_1420_23&r=opm |
| By: | Taiyo Yoshimi; Uraku Yoshimoto; Kiyotaka Sato; Takatoshi Ito; Junko Shimizu; Yushi Yoshida |
| Abstract: | This study empirically investigates how the invoice currency choice differs between intra-firm and arm’s-length exports. We also examine whether other firm- and product-level characteristics affect the choice of invoice currency. This study is the first to be granted access to highly disaggregated transaction-level trade data for Japan. Focusing on Japanese automobile exports to France, we demonstrate that the importer’s currency tends to be chosen in intra-firm export invoicing based on a panel logit estimation. Our empirical findings remain robust when different types of intra-firm export variables and other conventional explanatory variables are introduced, such as firm and product market share, exchange rate volatility, euro-invoiced imports, labor productivity, and research and development intensity. Given growing intra-firm trade and expanding global value chains, Japanese parent firms tend to invoice in the importers’ currency, assuming the foreign exchange risk that arises from intra-firm trade. Thus, exchange rate risk management is a significant consideration for Japanese parent firms. |
| JEL: | F14 F30 F31 |
| Date: | 2024–02 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:32142&r=opm |
| By: | Dong, Mike (U of California, Riverside); Goto, Shingo (U of Rhode Island); Xu, Yan (Ohio State U); Zhang, Yuzhao (HKU) |
| Abstract: | We use a Beveridge-Nelson decomposition to link expected foreign-currency excess returns to the "prospective interest rate differential"--the infinite sum of expected future interest rate differentials. Empirically, we find our prospective interest rate differential is a stronger predictor of currency excess returns than carry, in both portfolio sorts and Fama-MacBeth regressions. A factor based on the prospective interest rate differential is also useful in explaining the returns of a broad set of currency test portfolios. |
| JEL: | E43 F31 G12 G15 |
| Date: | 2024–01 |
| URL: | http://d.repec.org/n?u=RePEc:ecl:ohidic:2024-03&r=opm |
| By: | Bada Han; Rashad Ahmed; Mr. Joshua Aizenman; Yothin Jinjarak |
| Abstract: | We explore the role of sectoral debt dynamics in shaping business cycles in a sample of 52 Emerging Market Economies (EMEs) and Frontier Market Economies (FMEs) from 2005 to 2021. Higher household debt levels and growth are associated with significantly slower GDP growth in more developed EMEs but not in less developed EMEs and FMEs. We also examine the relationship between US dollar cycles, sectoral debt levels and growth, and economic activity. Among developed EMEs, higher expected household debt growth magnifies the impact of US dollar fluctuations on economic activity, with significant but less persistent effects on consumption and more persistent effects on investment. Our empirical findings highlight the important role of household debt dynamics in relatively developed EMEs. |
| Keywords: | Sectoral Debt; Household Debt; Dollar Cycle; Emerging Markets |
| Date: | 2024–02–16 |
| URL: | http://d.repec.org/n?u=RePEc:imf:imfwpa:2024/030&r=opm |