Volatile and persistent real exchange rates with or without sticky prices

The flexible-price two-country monetary model is extended to include a consumption externality with habit persistence. Two methodologies are employed to explore this model's ability to generate volatile and persistent exchange rates. In the first, actual data is used for the exogenous driving processes. In the second, the model is simulated using estimated forcing processes. The theory, in both cases, is capable of explaining the high volatility and persistence of real and nominal exchange rates as well as the high correlation between real and nominal rates.     

Equilibrium implications of interest rate smoothing

We introduce a macro-finance model in which monetary authorities adjust the money supply by targeting not only output and inflation but also the slope of the yield curve. We study the impact of McCallum-type rules on capital growth, the volatility of interest rates, the spread between long- and short-term rates, and the persistence of monetary shocks. Our model supports the Federal Reserve's choice to incorporate financial data in their policy decisions and expand the monetary base to decrease the nominal interest rate spread at the cost of lower expected long-term growth.     

Optimal inflation persistence: Ramsey taxation with capital and habits

Ramsey models of fiscal and monetary policy featuring time-separable preferences and a fixed supply of capital predict highly volatile inflation with no serial correlation. In this paper, we show that an otherwise-standard Ramsey model that incorporates capital accumulation and habit persistence predicts highly persistent inflation. The result depends on increases in either the ability to smooth consumption or the preference for doing so. The effect operates through the Fisher relationship: a smoother profile of consumption implies a more persistent real interest rate, which in turn implies persistent optimal inflation. Our work complements a recent strand of the Ramsey literature based on models with nominal rigidities. In these latter models, inflation volatility is lower than in the baseline model but continues to exhibit little persistence. We quantify the effects of habit and capital on inflation persistence and also relate our findings to recent work on optimal fiscal policy with incomplete markets.     

Maintaining low inflation: Money, interest rates, and policy stance

This paper presents a systematic empirical relationship between money and subsequent prices and output, using US, euro area and Swiss data since the 1960-1970s. Monetary developments, unlike interest rate stance measures, are shown to provide qualitative and quantitative information on subsequent inflation. The usefulness of monetary analysis is contrasted to weaknesses in modeling monetary policy and inflation with respectively short-term interest rates and real activity measures. The analysis sheds light on the recent change in inflation volatility and persistence as well as on the Phillips curve flattening, and reveals drawbacks in pursuing a low inflation target without considering monetary aggregates.     

Monetary policy implementation and overnight rate persistence

Overnight money market rates are the predominant operational target of monetary policy. As a consequence, central banks have redesigned the implementation of monetary policy to keep the deviations of the overnight rate from the key policy rate small and short-lived. This paper uses fractional integration techniques to explore how the operational framework of four major central banks affects the persistence of overnight rates. Our results suggest that a well-communicated and transparent interest rate target of the central bank is a particularly important condition for a low degree of overnight rate persistence.     

Nominal Interest Rates and the News

This paper provides new estimates of the impact of monetary policy actions and macroeconomic news on the term structure of nominal interest rates. The key novelty is to parsimoniously capture the impact of news on all interest rates using a simple no‐arbitrage model. The different types of news are analyzed in a common framework by recognizing their heterogeneity, which allows for a systematic comparison of their effects. This approach leads to novel empirical findings. First, monetary policy causes a substantial amount of volatility in both short‐term and long‐term interest rates. Second, macroeconomic data surprises have small and mostly insignificant effects on the long end of the term structure. Third, the term‐structure response to macroeconomic news is consistent with considerable interest‐rate smoothing by the Federal Reserve. Fourth, monetary policy surprises are multidimensional while macroeconomic surprises are one‐dimensional.     

Was It Real? The Exchange Rate-Interest Differential Relation over the Modern Floating-Rate Period

In this paper, we explore the relationship between real exchange rates and real interest rate differentials in the United States, Germany, Japan, and the United Kingdom. Contrary to theories based on the joint hypothesis that domestic prices are sticky and monetary disturbances are predominant, we find little evidence of a stable relationship between real interest rates and real exchange rates. We consider both in-sample and out-of-sample tests. One hypothesis that is consistent with our findings is that real disturbances (such as productivity shocks) may be a major source of exchange rate volatility.     

Mortgage Choice in the Euro Area: Macroeconomic Determinants and the Effect of Monetary Policy on Debt Burdens

This paper provides novel evidence on the role of the macroeconomic environment for households’ choice between fixed‐interest‐rate and adjustable‐interest‐rate mortgages (ARMs) in the euro area. We find that relatively more ARMs are taken out when economic growth is strong, the interest rate spread is high, or unemployment shows low volatility. A simulation exercise shows that a reduction in mortgage rates as witnessed during the monetary easing in the course of the global financial crisis produces a substantial decline in debt burdens among mortgage‐holding households, especially in countries where households have higher debt burdens and a larger share of ARMs.     

Real exchange rate persistence and monetary policy rules

The objective of this paper is to analyze the effects of alternative monetary rules on real exchange rate persistence. Using a two-country stochastic dynamic general equilibrium with nominal price stickiness and local currency pricing, we will show how the persistence of purchasing power parity deviations can be related to a monetary theory of these deviations. When monetary policy lean against the wind, there is no relationship of proportionality between the time during which prices remain sticky and the persistence of the response of the real exchange rate: in this case high nominal price rigidity is not sufficient, per se, in generating any persistence following a monetary shock. Moreover, we emphasize the role of interest rates smoothing policies and relative price stickiness within countries in understanding the relationship between the real exchange rate and monetary shocks. With reasonable parameters values, a wide range of monetary policy rules can generate real exchange rate autocorrelations around the ones observed in the data.     

Monetary Policy and Inflation Expectations in Latin America: Long-Run Effects and Volatility Spillovers

This paper uses multiple cointegration analysis to estimate simultaneously a monetary reaction function and the determinants of expected inflation for Brazil, Chile, Colombia, and Mexico. In addition, M-GARCH modeling is used to test for the presence of volatility spillovers between the monetary stance and inflation expectations. The analysis shows that there are long-term relationships between the interest rate, expected inflation, and the inflation target, and that greater volatility in the monetary stance increases the volatility of expected inflation in Brazil, Colombia, and Mexico.     

The Impact of the Volatility of Monetary Policy Shocks

This paper studies the impact of the volatility of monetary policy using a structural vector auroregression (SVAR) model enriched along two dimensions. First, it allows for time‐varying variance of monetary policy shocks via a stochastic volatility specification. Second, it allows a dynamic interaction between the level of the endogenous variables in the VAR and the time‐varying volatility. The analysis establishes that the nominal interest rate, output growth, and inflation fall in reaction to an increase in the volatility of monetary policy. The analysis also develops a dynamic stochastic general equilibrium model enriched with stochastic volatility to monetary policy that generates similar responses and provides a theoretical underpinning of these findings.     

Excess long real rate volatility

Variance and comovement bounds tests are performed on riskless real interest rates for the USA, Canada, UK, Germany, and Japan. Each country’s long real rate exhibits excess volatility relative to its fundamental long real rate derived under the rational expectations theory of real term structure. Internationally, each country’s long real rate relative to the USA exhibits excess comovement relative to their corresponding fundamental long real rates. The excess volatility clouds the arbitrage-induced link between long and short real rates. This noise hinders the monetary transmission mechanism and the ability of central bankers to influence long real rates by managing short real rates.     

Explaining exchange rate volatility: an empirical analysis of ‘the holy trinity’ of monetary independence, fixed exchange rates, and capital mobility

This paper uses a panel of data from twenty-two countries between 1967 and 1992 to explain exchange rate volatility, focusing on potential tradeoffs between fixed exchange rates, independent monetary policy, and capital mobility. I use monetary models to parameterize monetary divergence and factor analysis to measure capital mobility. Exchange rate volatility is loosely linked to both monetary divergence and the degree of capital mobility. Interestingly, exchange rate volatility is significantly correlated with the width of the explicitly declared exchange rate band, even after taking monetary divergence and capital mobility into account.     

Time-varying risk premium yield spread effect in term structure and global financial crisis: Evidence from Europe

The global financial crisis had a significant effect on the interest rates and the term structure of interest rates around the globe. In this paper we apply the GARCH-in-mean (GARCH-M) to study the effect of the global financial crisis on the term structure volatility, persistence of volatility, risk premium, and effects of the yield spread in five European markets; Portugal, Ireland, Italy, Greece and Spain (PIIGS). To the best of our knowledge this is the first such study in the field, and thus represents the main contribution of the paper to the literature. We investigate both the longer end and the shorter end of the term structure. We study two versions of the longer end based on the 10-year bond (long-term rate) and the two short-term rates, (three- and six-month rates). The shorter end of the term structure is based on the two short-term rates. Results indicate a substantial change in the term structure volatility, persistence of volatility, risk premium, and the effects of the yield spread due to the financial crisis. These results are found for both the longer end and the shorter end versions of the term structure.     

RBA monetary policy communication: The response of Australian interest rate futures to changes in RBA monetary policy

This paper examines the Australian interest rate futures market reaction to changes in Reserve Bank of Australia (RBA) monetary policy. Having determined market expectations from 30-day Interbank futures, the study finds evidence that interest rate futures react strongly to target rate announcements across the maturity spectrum, with a stronger reaction evident in short maturity futures. Further, there is evidence of an asymmetric news effect whereby volatility reacts more strongly to bad news. Disaggregation of the market reaction into target- and path-surprise factors demonstrates that the change in market expectations of future target rates plays a significant role in explaining changes in yield, particularly for bond futures. There is strong evidence that monetary policy statements drive the path-factor, while the December 2007 modification in policy communication has improved the ability of the RBA to influence market expectations.     

Identifying the effects of a lender of last resort on financial markets: Lessons from the founding of the fed

We use the founding of the Federal Reserve to identify the effects of a lender of last resort. We examine stock return and interest rate volatility during September and October, when markets were vulnerable because of financial stringency from the harvest. Stock volatility fell by 40% and interest rate volatility by more than 70% following the monetary regime change. The drop is insignificant if major panic years are omitted from the analysis, however. Because business cycle downturns occurred in the same year as financial crises, our results suggest that the existence of the Federal Reserve reduced liquidity risk.     

When does uncovered interest parity hold?

A consensus is emerging that returns to the currency carry trade are driven by two factors. One of these is probably consumption risk but there is widespread disagreement about the identity of the remaining factor. This paper bolsters the case for volatility being the unknown factor. A structural model that specifies that monetary volatility is the second factor is tested for 56 monetary regimes using the artificial economy methodology. The negative slope in the Fama regression arises when monetary volatility is low and the precautionary savings motive dominates the intertemporal substitution motive. When monetary volatility is high, the Fama slope is positive in line with uncovered interest parity. We conclude that, given the predominance of precautionary savings, the degree of monetary volatility explains whether uncovered interest parity holds.     

三季度银行间市场走势分析

本文主要分析了三季度货币政策工具的几个特点。在此基础上,对货币、债券市场走势进行判断：一是货币市场方面,资金面逐步缓解,货币市场利率震荡下行;二是债券市场方面,波动加大,短债利率攀至历史最高。     

Implications of habit formation for optimal monetary policy

We study the implications for optimal monetary policy of introducing habit formation in consumption into a general equilibrium model with sticky prices. Habit formation affects the model's endogenous dynamics through its effects on both aggregate demand and households’ supply of output. We show that the objective of monetary policy consistent with welfare maximization includes output stabilization, as well as inflation and output gap stabilization. We find that the variance of output increases under optimal policy, even though it acquires a higher implicit weight in the welfare function. We also find that a simple interest rate rule nearly achieves the welfare-optimal allocation, regardless of the degree of habit formation. In this rule, the optimal responses to inflation and the lagged interest rate are both declining in the size of the habit, although super-inertial policies remain optimal.     

高利率能否捍卫汇率稳定：基于马尔科夫变换的世代交叠模型的分析

按照传统观点,在本国货币遭受投机攻击时,中央银行的典型做法是提高短期利率来捍卫货币和汇率制度。但批评者认为,提高利率会增加经济发展的成本,容易引发信用恐慌和产出减少。通过建立一个基于马尔科夫变换的世代交叠模型可以发现,利率被提的越高,汇率波动率也会随之相应增加。当高利率的货币政策使经济增长放缓甚至衰退,维持汇率稳定的可信度下降时,投机者就会发动对本币的投机攻击。最后在外汇储备耗尽的情况下,中央银行权衡得失后不得不实行浮动汇率制。