Money demand instability and real exchange rate persistence in the monetary model of USD–JPY exchange rate

This paper proposes a hybrid monetary model of the dollar–yen exchange rate that takes into account factors affecting the conventional monetary model's building blocks. In particular, the hybrid monetary model is based on the incorporation of real stock prices to enhance money demand stability and also, productivity differential, relative government spending, and real oil price to explain real exchange rate persistence. By using quarterly data over a period of high international capital mobility and volatility (1980:01–2009:04), the results show that the proposed hybrid model provides a coherent long-run relation to explain the dollar–yen exchange rate as opposed to the conventional monetary model.     

Determinants of the real exchange rate in the long-run for developing and emerging countries: a theoretical and empirical approach

This paper presents a new framework for the determinants of real exchange in the long-run in developing and emerging countries (DECs). We assume that currencies should be regarded as an asset. In consequence, dealers in the foreign exchange market play a crucial role on its dynamics. To set our model, we connect the model developed by Kaltenbrunner, which is grounded on chapter 17 of the General Theory, with productivity’s differential effect. By doing so, it states that even short-run factors and monetary variables affect the long-run real exchange rate. Moreover, it points out that the hierarchical nature of the international monetary system is crucial to understand exchange rate movements in DECs. Besides presenting such theoretical approach, our contribution is to test it empirically for 45 DECs from 1990 to 2008 by applying econometric techniques appropriate for panel data. We use a new data-set, which comprises, among other variables, foreign portfolio flow, interest rate differential, external vulnerability measures, and international liquidity, on annual basis. The empirical results endorse this framework. Overall, it shows the primacy of financial factors as determinants of the long-run real exchange rate and points to the endogenous and self-perpetuating nature of international monetary system hierarchy.     

Can Sticky Price Models Generate Volatile and Persistent RealExchange Rates?

The central puzzle in international business cycles is that fluctuations in real exchange rates are volatile and persistent. We quantify the popular story for real exchange rate fluctuations: they are generated by monetary shocks interacting with sticky goods prices. If prices are held fixed for at least one year, risk aversion is high, and preferences are separable in leisure, then real exchange rates generated by the model are as volatile as in the data and quite persistent, but less so than in the data. The main discrepancy between the model and the data, the consumption–real exchange rate anomaly , is that the model generates a high correlation between real exchange rates and the ratio of consumption across countries, while the data show no clear pattern between these variables.     

Monetary policy and exchange rate dynamics in the Spanish economy

As the Spanish economy gets more integrated in international markets, the real exchange rate becomes a key determinant of the monetary transmission. In this paper we trace out the dynamic response of prices, output and the exchange rate following a monetary policy shock. We estimate a structural VAR model whose identification scheme is based on the long run properties common to a large class of models. The results suggest that a small model with efficient asset markets plus nominal inertia and long run monetary neutrality, captures the essential features of the monetary transmission mechanism in Spain. The interest rate shock is well identified and the exchange rate overshoots its long run value. There are no signs of liquidity puzzle nor of price puzzle or exchange rate puzzle either.     

RE-EXAMINING THE EFFECTIVENESS OF STABILISATION POLICY

This paper develops an alternative international macroeconomic model for evaluating the effectiveness of fiscal and monetary policy in stabilising national income under fixed and floating exchange rates. It encompasses national output and income, saving, investment, money and capital flows and linkages between the exchange rate, price levels and real interest rates consistent with international parity conditions. It demonstrates that the nature of government spending is pivotal to the effectiveness of fiscal policy, revealing that, ceteris paribus , higher public consumption expenditure contracts national income and depreciates the exchange rate, whereas higher productive public investment spending has opposite effects. The framework also shows that the effectiveness of fiscal and monetary policy as macroeconomic policy instruments is not ultimately dependent on the exchange rate regime.     

Exchange rate and price level dynamics under perfect substitutability of real and financial assets

This note investigates the implications of arbitrage between domestic financial and real assets for the evolution through time of the exchange rate and the price level after a monetary schock. The model yields results contrasting sharply with those of the traditional model of exchange rate dynamics based on international arbitrage [e.g. Dornbusch (1976)]. In particular, there is no overshooting of the exchange rate and the short-run deviations from purchasing power parity are the opposite of those implied by the traditional model.     

Unanticipated money,output, and prices in the small economy

A macroeconomic model for an open economy experiencing both domestic and international monetary disturbances is given. Expectations are assumed to be rational. Particular attention is focused on the reduced form coefficients for unanticipated domestic and foreign monetary disturbances under alternative exchange rate regimes.     

International Transmission of Monetary Shocks and the Non‐neutrality of International Money

Monetary shocks and how they are transmitted internationally are investigated in this paper. The paper shows that where a national currency is used as an international medium of exchange, the international money is non‐neutral. In particular, an increase in the supply of the international money leads to a transfer of real resources to the international money‐issuing country from its trading partner. It also induces an expansion of the nontradable sector in the international money‐issuing country, and an expansion of the tradable sector in its trading partner. The real impact of a monetary shock is greater under a fixed exchange rate system than under a flexible exchange rate system.     

CURRENCY SUBSTITUTION, U.S. MONEY DEMAND, AND INTERNATIONAL INTERDEPENDENCE

A number of writers have argued in recent years that massive international currency substitution has been a major cause of exchange rate volatility and monetary instability in the United States and other major countries. Such analysis is frequently coupled with recommendations for a return to pegged exchange rates. This paper critically examines the evidence presented for this currency substitution view. It argues that the weight of latest research suggests that direct international currency substitution has not been of major quantitative importance for the U.S. However, empirical evidence supports traditional views that international capital mobility can generate substantial short-run monetary interdependence even under flexible exchange rates. Thus, even though international currency substitution is of little importance to U.S. monetary conditions, a broader range of international considerations may be of considerable importance for the U.S. economy.     

Rational expectations,market shocks,and the exchange rate

The world economy has been subjected to numerous real shocks in recent years. In addition, purchasing-power parity seems to have collapsed. Critics of the monetary approach to the exchange rate have been quick to draw attention to these facts. This paper extends the basic framework of the monetary approach so that it provides a useful tool for explaining the impact of real shocks on the exchange rate and so that it is compatible with the existence of significant deviations from purchasing-power parity. The real shocks that are discussed include changes in commercial policy, the terms of trade, and productivity. It is demonstrated that real shocks influence the exchange rate through two distinct channels—a real-income channel and a deviations from purchasing-power-parity channel.     

International finance in general equilibrium

Our purpose in this paper is to unify international trade and finance in a single general equilibrium model. Our model is rich enough to include multiple commodities (including traded and nontraded goods), heterogeneous consumers in each country, multiple time periods, multiple credit markets, and multiple currencies. Yet our model is simple enough to be effectively computable. We explicitly calculate the financial and real effects of changes in tariffs, productivity, and preferences, as well as the effects of monetary and fiscal policy.We maintain agent optimization, rational expectations, and market clearing (i.e. perfect competition with flexible prices) throughout. But because of the important role money plays, and because of the heterogeneity of markets and agents, we find that fiscal and monetary policy both have real effects. The effects of policy on real income, long-term interest rates, and exchange rates are qualitatively identical to those suggested in Mundell-Fleming (without the small country hypothesis), although our equilibrating mechanisms are different. However, because the Mundell-Fleming model ignores expectations and relative price changes, our model predicts different effects on the flow of capital, the balance of trade, and real exchange rates in some circumstances.     

The international business cycle as intertemporal coordination failure

Where investments are irreversible and the future is uncertain, people in two countries can make investment decisions that turn out to be mutually inconsistent. I argue that this intertemporal coordination failure explains international business cycles in a two-currency-area setting with a floating foreign exchange rate. The sequence of events starts with an expansionary domestic monetary shock, which decreases the domestic real interest rate. Facing low transactions costs, people spend the new money relatively early in the foreign exchange market and in the foreign market for loanable funds. Domestic monetary expansion thereby changes the relative prices of domestic and foreign goods and also of goods of earlier and later stages of production. The relative price changes lead to intertemporal and international coordination failures once the monetary expansion ends and relative prices change. Domestic monetary policy thereby causes the comovement across different currency areas we observe of business cycles.     

Why does monetary policy respond to the real exchange rate in small open economies? A Bayesian perspective

To estimate how monetary policy works in small open economies, we build a dynamic stochastic general equilibrium model that incorporates the basic features of these economies. We conclude that the monetary policy in a group of small open economies (including Australia, Chile, Colombia, Peru, and New Zealand) is rather similar to that observed in closed economies. Our results also indicate, however, that there are strong differences due to the shocks from the international financial markets (mainly risk premium shocks). These differences explain most of the variability of the real exchange rate, which has important reallocation effects in the short run. Our results are consistent with an old idea from the Mundell–Fleming model: namely, a real depreciation to confront a risk premium shock is expansive or procyclical, in contradiction to the predictions of the balance sheet effect, the J curve effect, and the introduction of working capital into RBC models. In line with this last result, we have strong evidence that only in one of the five countries analyzed in this study does not intervene the real exchange rate, the case of New Zealand.     

Inflation volatility,economic growth and monetary policy in Bangladesh

This article provides an overview of the trends and movements of CPI-inflation in Bangladesh since the early 1950s and examines the key issues in rule-based monetary policy for price stability, implying low and stable inflation, in this country. Under a fixed exchange rate system, inflation in Bangladesh was moderately high and volatile during the 1950s and 1960s. Since the country’s independence from Pakistan in 1971, inflation in Bangladesh has remained moderately high on average and highly volatile and persistent under a fixed-pegged exchange rate system or under a managed floating system since 2003. Using data from the early 1970s or earlier depending on data availability, the article undertakes both Granger-causality and the structural vector autoregression (SVAR) analysis with two models. The first model is comprised of such variables as inflation, the real interest rate, the real exchange rate and output growth, and the second model is comprised of the volatilities of money growth, real output growth and inflation. Then, based on the empirical findings, the article concludes that a rule-based monetary policy, namely monetary targeting or inflation targeting, remains appropriate for Bangladesh provided that it adopts a more flexible, if not freely floating, exchange rate system. The article suggests that the use of monetary policy to achieve multiple objectives under a fixed-pegged exchange rate system creates a time-inconsistency problem, reduces monetary policy credibility and makes it (monetary policy) ineffective in lowering inflation and its volatility. Low credibility of monetary policy in particular raises inflation persistence. Within the present monetary-policy framework in Bangladesh, the article illustrates how the fixed-pegged exchange rate system has generated money growth volatility in the presence of large-scale inflows of overseas workers’ remittances and readymade garments export earnings. This does not seem to be a concern of the central bank of Bangladesh (Bangladesh Bank); rather, it (Bangladesh Bank) pursues monetary-base targeting to keep inflation low and stable after considering economic growth. The consequent diminishing credibility of monetary policy has kept inflation volatile and persistent, which has adversely affected economic growth.     

The non-linear impact of monetary policy on international reserves: macroeconomic variables nexus

This paper employs panel smooth transition regression models to investigate the nonlinear effects of two monetary policy proxies (i.e., real exchange rate return and real interest rate differential) on the international reserves—macroeconomic variables nexus. The panel data set includes the fourteen G-20 countries during the period 1991–2012. Empirical results show that the marginal effects of the macroeconomic variables (savings, terms of trade, public debt, capital account liberalization, economic growth, and trade openness) on international reserves are non-linear and vary with time, the proxies and countries, not linear and constant derived from traditional linear model. Currency devaluation policy (against the US dollar) can non-linearly enlarge the positive contribution of trade openness and public debt on international reserves, and non-linearly reduce the negative impact of terms of trade on international reserves, as the Marshall–Lerner condition holds. Expansionary monetary policy (through the decrease in domestic interest rates) can strengthen the positive effects of public debt, trade openness, and economic growth on international reserves. The precautionary and mercantilist views of reserves holdings are partially supported.     

Productivity Shocks and Monetary Policy in a Two-Country Model

In this paper, we examine the effects of foreign productivity shocks on monetary policy in a symmetric open economy. Our two-country model incorporates the New Keynesian features of price stickiness and monopolistic competition based on the cost channel of Ravenna and Walsh (2006). In particular, in response to asymmetric productivity shocks, firms in one country achieve a more efficient level of production than those in another economy. Because the terms of trade are directly affected by changes in both economies’ output levels, international trade creates a transmission channel for inflation dynamics in which a deflationary spiral in foreign producer prices reduces domestic output. When there is a decline in economic activity, the monetary authority should react to this adverse situation by lowering the key interest rate. The impulse response function from the model shows that a productivity shock can cause a real depreciation of the exchange rate when economies are closely integrated through international trade.     

Exchange rate policies during transition from plan to market

This paper reviews the exchange rate policies adopted in the early years of transition, paying attention to the dilemmas concerning the degree of convertibility, the initial choice of exchange rate regime and the required scale of devaluation. The initial liberalization and devaluation were then followed by a period of real exchange rate appreciation, which was accompanied by improving export performance; this second phase has policy implications that are briefly discussed. Throughout, a key constraint is the inability of the central bank to target simultaneously monetary aggregates, interest rates and the exchange rate. In the presence of large capital inflows the authorities have to manage the exchange rate and domestic monetary policy in order to keep inflation acceptably low while maintaining international competitiveness.     

A real and monetary analysis of capitalism

Building on ideas of Joseph Schumpeter, this paper constructs and compares a real and a monetary model of capitalism. The paper’s thesis is that real and monetary analysis are both necessary for describing the capitalist cycle. The real model is in four parts. The first part is a simplified static Walrasian exchange. The second part uses a time dynamic to show price and productivity equilibrium over time. The third part defines surplus-value, capital, accumulation, profit and producer’s surplus. The fourth part defines economic evolution and long-term analysis. Each of the four parts has a corresponding Mathematica program and a table of sample data. The real model shows a relationship between long term average profit, GDP and capitalization. A monetary model is then constructed which empirically defines monetary and real products, the capital-market, the real economy and investment. The monetary model is first described under conditions of laissez-faire. The concepts of appreciation, overinvestment and the capitalist cycle are defined with the aid of the real model. Finally, the post laissez-faire capitalist cycle is described with an emphasis on the government policies of post 1980 capitalism. The conclusion of the paper—based on the real and monetary models—is that post 1980 capitalism changes but does not eliminate the capitalist cycle because government policies do not address over-investment, rather these policies abet over-investment.     

关税、货币政策与中国实际均衡汇率

加入WTO后 ,降低进口品关税等措施将影响人民币均衡汇率水平 ,同时开放经济下国内货币政策、财政政策等宏观经济政策调整也会改变均衡汇率水平。本文运用动态一般均衡的方法 ,探讨中国在加入世界贸易组织之后 ,关税税率调整、货币供应量增长率改变、财政政策调整等措施对实际均衡汇率的长期效应。把货币引入生产函数和消费者的效用函数 ,我们扩展了由Turnovsky提出的两商品资本积累模型 ,利用参数赋值(calibration)的方法进行了均衡状态下的比较静态分析。研究发现降低进口品关税使人民币面临贬值压力 ,而政府增加税收 ,减少对贸易品的消费则有利于人民币的保值和升值。实证研究结果表明 :国外实际利率水平下降 ,实际货币供应量增长率降低都将引起人民币均衡汇率贬值。     

Optimal monetary policy for a small open economy

This paper focuses on the design of monetary policy rules for a small open economy. The model features optimizing behavior, general equilibrium and price stickiness. The real exchange rate is shown to affect the firm's real marginal cost, aggregate supply and aggregate demand. The welfare objective depends on the openness of the economy, and the optimal policy rule differs from that which obtains in a closed economy. The inflation versus output gap stabilization trade-off is caused by the real exchange rate. The implied optimal monetary policy regime is domestic inflation target coupled with controlled floating of the real exchange rate.