Convergence of Euro area inflation rates

We study the behavior of inflation rates among the 12 initial Euro countries in order to test whether and when the group convergence initially dictated by the Maastricht treaty and now by the ECB, occurs. We also assess the impact of events such as the advent of the Euro and the 2008 financial crisis. Due to the small size of the estimation sample, we propose a new procedure that increases the power of panel unit root tests when used to study group-wise convergence. Applying this new procedure to Euro area inflation, we find strong and lasting evidence of convergence among the inflation rates soon after the implementation of the Maastricht treaty and a dramatic decrease in the persistence of the differential after the occurrence of the single currency. After the 2008 crisis, Euro area inflation rates follow the ECB's price stability benchmark, although Greece reports relatively higher inflation.     

FOMC Forecasts as a Focal Point for Private Expectations

We explore empirically the theoretical prediction that public information acts as a focal point in the context of the U.S. monetary policy. We aim at establishing whether the publication of Federal Open Market Committee (FOMC) inflation forecasts affects the cross‐sectional dispersion of private inflation expectations. Our main finding is that publishing FOMC inflation forecasts has a negative effect on the cross‐sectional dispersion of private current‐year inflation forecasts. This effect is found to be robust to another survey data set and to various macroeconomic controls. Moreover, we find that the dispersion of private inflation forecasts is not affected by the dispersion of views among FOMC members.     

Trust no more? The impact of the crisis on citizens’ trust in central banks

Citizens’ trust in economic institutions has generally declined since the onset of the crisis. In particular, Eurobarometer surveys show that trust in the European Central Bank (ECB) has fallen significantly during the crisis. This paper studies the determinants of public trust in the ECB over the lifetime of the euro. Net trust in the ECB has decreased significantly in those countries which have experienced increasing sovereign bond yields and financial market turbulence. The finding that country-specific variables affect citizens’ trust in the ECB may seem counterintuitive. However, it is consistent with strong evidence in the political science literature showing that domestic considerations play a significant role when citizens get an opportunity to express their opinion on EU matters.     

The Role of Media for Inflation Forecast Disagreement of Households and Professional Forecasters

This paper investigates the effects of media coverage about consumer price inflation on inflation forecast disagreement of German households and professional forecasters. We adopt a Bayesian learning model in which media coverage of inflation affects forecast disagreement by influencing information sets as well as predictor choice. Our empirical results show that disagreement of households depends on the heterogeneity of story content and on the reporting intensity, especially of news on rising inflation. Disagreement of professional forecasters does not depend on media coverage. With respect to the influence of macroeconomic variables, we provide evidence that disagreement of professional forecasters primarily depends on the inflation rate and on inflation volatility. The response of households to inflation is much less pronounced.     

The Euro Area Bond Free Float and the Implications for QE

This paper examines how shocks to government bond duration risk held by price-sensitive investors affect the euro area term structure of interest rates and the wider macroeconomy. We construct a new measure of the bond “free float,” which adjusts total debt for foreign official holdings and weights by residual maturity. Using a small macrofinance Bayesian Vector Autoregression (VAR) model, we estimate that the first round of asset purchases under the European Central Bank's (ECB) public sector purchase program reduced euro area 10-year bond yields by around 30 bps in 2015. The positive impact on the output gap and inflation in 2016 was about 0.2 and 0.3 ppt, respectively.     

Monetary Policy Rules in a New Keynesian Euro Area Model

The first part of this paper is devoted to describe a New Keynesian model, which, after calibration, shows a great fit on Euro area macroeconomic data. Then, the stabilizing properties of alternative monetary policy rules are evaluated for consideration of the European Central Bank (ECB). Our main finding is that a simple rule that provides the reaction of the nominal interest rate to price inflation, wage inflation, and its previous observation can fairly well approximate the optimal monetary policy. This result is robust to including an ECB preference on interest-rate smoothing.     

Monetary and financial stability in the euro area: Pro-cyclicality versus trade-off

This paper investigates the nexus between monetary stability and financial stability. We examine, in the experience of EMU between 1994 and 2008, first, the response of the term structure of interest rates, share prices, exchange rates, property price inflation and the deposit–loan ratio of the banking sector (our proxies for financial stability) to changes in the consumer price level and ECB policy rate (our proxies for monetary stability); second, whether and to what extent lower inflation has caused share price stability and how ECB policy rate has reacted to inflation. Using a sign-restriction-based VAR approach, we find that there is a pro-cyclical relationship between monetary and financial stability in the long-run. With a positive inflation shock, we find on average a 2% estimated decline in share prices. This suggests that the interest rate instrument used for inflation targeting is conducive to financial stability.     

欧洲中央银行货币政策绩效评价:1999～2005

欧洲中央银行(ECB)围绕价格稳定目标确立起其货币政策战略。自1999年EMU正式建立以来,ECB的这一战略是否取得了成功呢?本文采用1999￣2005年数据,首先借助HICP通胀率、通胀预期等指标分析ECB货币政策在控制短期和中长期通胀方面的成效;然后进一步分阶段描述ECB货币政策行为和通胀率等主要宏观指标的内在联系。本文认为欧元区近些年来的通胀率超标主要是负向供给冲击尤其是能源价格冲击的结果;从主要指标看,ECB的货币政策战略已经取得初步成功;但是欧元区未来经济走势将对ECB的货币政策提出更严峻的挑战。     

The German public and its trust in the ECB: The role of knowledge and information search

In this paper, we analyse the effects of objective and subjective knowledge about monetary policy, as well as the information search patterns, of German citizens on trust in the ECB. We rely on a unique representative public opinion survey of German households conducted in 2011. We find that subjective and factual knowledge, as well as the desire to be informed, about the ECB foster citizens' trust. Specific knowledge about the ECB is more influential than general monetary policy knowledge. Objective knowledge is more important than subjective knowledge. However, an increasing intensity of media usage, especially newspaper reading, has a significantly negative influence on trust. We conclude that the only viable way for the ECB to generate more trust in itself is to spread monetary policy knowledge.     

Optimal monetary policy in an economy with incomplete markets and idiosyncratic risk

This study investigates an incomplete markets economy in which the saving behavior of a continuum of infinitely lived agents is influenced by precautionary saving motives and borrowing constraints. Agents can use two types of assets (interest bearing IOUS and money) to smooth consumption. Money is valued because of a timing friction in the bond market. In particular, the bond market closes before agents observe their idiosyncratic productivity shock. I find that the Friedman rule is not optimal for this economy. The results indicate that the optimal allocation has a rate of inflation of 10%, and a positive amount of private credit held by the government. A positive inflation rate transfers resources from agents with big endowments to those holding bonds which improves risk sharing, and therefore, welfare. However, for higher rates of inflation, agents economize on money holdings, offsetting the insurance effects, and causing a reduction in welfare. Furthermore, higher rates of inflation discourage agents from borrowing, and the endogenous lower bound on bond holdings is higher than the exogenous borrowing limit. High rates of inflation, therefore, exacerbate frictions in the bond market.     

Fiscal Requirements for Dynamic and Real Determinacies in Economies with Private Provision of Liquidity: A Monetarist Assessment

We study the impact of fiscal policies on the inherent links between inflation, unemployment, and asset prices in an environment where firms provide liquidity and the central bank follows a constant money growth rate rule. Firms, other than hiring workers, also supply private assets that are not only useful as a store of value but also as collateral. When firms are not taxed and public debt is scarce, the economy is non-Ricardian so that real indeterminacies can be observed. Moreover, labor market characteristics do not affect the demand for government liabilities. However, when agents face public and private asset scarcity, labor market conditions then impact asset prices and inflation. We further show that irrespective of the type of asset scarcity agents face, when firms are taxed non-ad valorem, not only the level of tax revenues but also its composition matter for real allocations. Moreover, we show that labor market conditions directly affect the dynamics of all government liabilities and inflation.     

Repo Auctions and the Market for Liquidity

What is the nature of imperfections in the market for liquidity? Studying bidder level data from European Central Bank (ECB) repo auctions, we find that this market appears to be informationally efficient in the sense that participants do not have private information about future short‐term rates. However, auction allocations affect banks' subsequent behavior in a way that is consistent with a degree of allocational and operational inefficiency. Also, large bidders appear to have better access to the interbank market than small ones. Finally, the evidence suggests that the ECB uses collateral haircuts that do not equilibrate opportunity costs.     

Monetary conservatism and fiscal policy

Does an inflation conservative central bank à la Rogoff (1985) remain desirable in a setting with endogenous fiscal policy? To provide an answer we study monetary and fiscal policy games without commitment in a dynamic, stochastic sticky-price economy with monopolistic distortions. Monetary policy determines nominal interest rates and fiscal policy provides public goods generating private utility. We find that lack of fiscal commitment gives rise to excessive public spending. The optimal inflation rate internalizing this distortion is positive, but lack of monetary commitment generates too much inflation. A conservative monetary authority thus remains desirable. When fiscal policy is determined before monetary policy each period, the monetary authority should focus exclusively on stabilizing inflation. Monetary conservatism then eliminates the steady state biases associated with lack of monetary and fiscal commitment and leads to stabilization policy that is close to optimal.     

The Happiness Trade‐Off between Unemployment and Inflation

Unemployment and inflation lower well‐being. The macroeconomist Arthur Okun characterized the negative effects of unemployment and inflation by the misery index—the sum of the unemployment and inflation rates. This paper makes use of a large European data set, covering the period 1975–2013, to estimate happiness equations in which an individual subjective measure of life satisfaction is regressed against unemployment and inflation rate (controlling for personal characteristics, country, and year fixed effects). We find, conventionally, that both higher unemployment and higher inflation lower well‐being. We also discover that unemployment depresses well‐being more than inflation. We characterize this well‐being trade‐off between unemployment and inflation using what we describe as the misery ratio. Our estimates with European data imply that a 1 percentage point increase in the unemployment rate lowers well‐being by more than five times as much as a 1 percentage point increase in the inflation rate.     

Adaptive learning, forecast-based instrument rules and monetary policy

This paper argues that recently popular forecast-based instrument rules for monetary policy may fail to stabilize economic fluctuations. In a New Keynesian model of output gap and inflation determination in which private agents face multi-period decision problems, but have non-rational expectations and learn over time, if the monetary authority adopts a forecast-based instrument rule and responds to observed private forecasts then this class of policies frequently induce divergent learning dynamics. A central bank that correctly understands private behavior can mitigate such instability by responding to the determinants of private forecasts. This suggests gathering information on the determinants of expectations to be useful.     

Learning by Disinflating

Disinflationary episodes are a valuable source of information for economic agents trying to learn about the economy. In this paper, we are particularly interested in how policymakers can themselves learn by disinflating. The approach differs from the existing literature, which typically focuses on the learning of private agents during a disinflation. We build a model where both the policymaker and private agents learn, and ask what happens if the policymaker has to disinflate to satisfy a new central bank mandate specifying greater emphasis on inflation stabilization. In this case, our results show that inflation may fall dramatically before it gradually rises to its new long‐run level. The potential for inflation to undershoot its long‐run level during a disinflationary episode suggests that caution should be exercised when assessing the success of any change in the policymaker's mandate.     

Interest rate expectations and uncertainty during ECB Governing Council days: Evidence from intraday implied densities of 3-month EURIBOR

This paper analyses changes in short-term interest rate expectations and uncertainty during ECB Governing Council days. For this purpose, it extends the estimation of risk-neutral probability density functions up to tick frequency. In particular, the non-parametric estimator of these densities, which is based on fitting implied volatility curves, is applied to estimate intraday expectations of 3-month EURIBOR 3 months ahead. Estimates of the noise impact on the statistical moments of the densities enhance the interpretation. In addition, the paper assesses the impact of the ECB communication during Governing Council days. The results show that the whole density may react to the communication and that such repositioning of market participants’ expectations will contain information beyond that of changes in the consensus view already observed in forward rates. The results also point out the relevance of the press conference in providing extra information and triggering an adjustment process for interest rate expectations.     

Do Central Bank Forecasts Influence Private Agents? Forecasting Performance versus Signals

Focusing on a set of central banks that publish inflation forecasts in real time, this paper aims to establish whether central bank inflation forecasts influence private inflation forecasts. The response is positive in the five countries studied: Sweden, the United Kingdom, Canada, Switzerland, and Japan. Three hypotheses may explain this central bank influence: central bank forecasts are more accurate than private ones, are based on different information sets, and/or convey signals about future policy decisions and policymakers’ preferences and objectives. We provide evidence that the source of these central banks’ influence is not linked to their forecasting performance.     

Reconsidering the Relationship between Inflation and Relative Price Variability

It has long been popularly believed that the relationship between inflation and relative price variability (RPV) is positive and stable. Using disaggregated CPI data for the United States and Japan, however, this study finds that the relationship is neither linear nor stable over time. The overall relationship is approximately U‐shaped around a nonzero threshold inflation rate. RPV therefore changes not with the inflation rate per se, but with the deviation of inflation from the threshold inflation rate. More importantly, the relationship is by no means stable over time but instead varies significantly in a way that coincides with regime changes of inflation or monetary policy. The relationship was positive during the period of high inflation of the 1970s and the early 1980s, as has been documented by a number of previous studies, whereas it takes a U‐shape profile during the Great Moderation. The results are robust to the use of core inflation, which excludes the traditionally volatile prices of food and energy. This paper then presents a modified version of the Calvo‐type sticky price model to describe the observed empirical regularities. Simulation experiments show that the modified Calvo model fits the data well, and that the underlying relationship hinges upon the degree of price rigidity, which is systematically related to inflation regime. For countries and periods with low inflation rates, the relationship takes a U‐shape as price adjustment is more sticky. In a high‐inflation environment, when price setting becomes more flexible, the U‐shaped profile vanishes.     

Escaping Volatile Inflation

Why has inflation been so stable in developed economies since the early 1990s? In this paper, we answer that the United States and other countries may have escaped from a volatile inflation equilibrium. Our argument builds on the story proposed by Tom Sargent in The Conquest of American Inflation, where the fall in inflation in the 1980s was attributed to changing government beliefs. To explain the escape in inflation volatility, we unwind one of Sargent's simplifications and allow the government to react to some of the shocks in the economy. In this case, when government beliefs turned against the Phillips curve in the 1980s they not only led to an escape from high inflation, but also stopped government using changes in inflation to offset shocks. Inflation and inflation volatility therefore escaped in tandem. Our analysis also sheds some light on why the escape in inflation occurred at the time it did.