An alternative monetary policy target

For most of the period since the mid-1970s, the Federal Reserve has expressed its monetary policy intentions by announcing the target growth rates of three principal monetary aggregates: the simple-sum M1, M2 and M3. However, the sweeping changes and the deregulation in the financial industry have greatly affected the relevance of these traditional monetary aggregates. The unusual behaviour of the simple-sum monetary aggregates has forced the Federal Reserve to stop setting target range for M1. The measuring of monetary aggregates has become a controversial question. This paper constructs the new-benchmark Divisia monetary indexes which reflect ‘moneyness’ more accurately than the old Divisia indexes. I demonstrate that the historical trends of the Divisia monetary indexes are sensitive to the brenchmark rates chosen in constructing these indexes. In addition, I compare the forecasting performance of the new-benchmark Divisia monetary indexes with the simple-sum and the old Divisia monetary indexes in the estimated money demand functions. I find that the new-benchmark Divisia monetary indexes provide the best statis forecasting performance. The result indicate that the new-benchmark Divisia monetary indexes should be considered as alternative measures of money in studying the relationship between money and the economy.     

Real and nominal effects of monetary policy shocks

Abstract.  We employ the identification scheme of Kahn, Kandel and Sarig (2002) to analyse the impact of Canadian monetary policy on ex ante real interest rates and inflationary expectations. First, we decompose nominal interest rates into ex ante real rates and inflationary expectations using the methodology of Blanchard and Quah (1989) . Then we estimate a recursive VAR model with innovations in a monetary aggregate and the overnight target interest rate as alternative measures of monetary policy shocks. We find that a negative policy shock raises both nominal and ex ante real interest rates, lowers inflationary expectations and real industrial output, and appreciates the Canadian dollar.     

Analyzing the effects of US monetary policy shocks in dollarized countries

Identifying monetary policy shocks is difficult. Therefore, instead of trying to do this perfectly, this paper exploits a natural setting that reduces the consequences of shock misidentification. It does so by basing conclusions upon the responses of variables in three dollarized countries (Ecuador, El Salvador, and Panama). They import US monetary policy just as genuine US states do, but have the advantage that non-monetary US shocks are not imported perfectly. Consequently, this setting reduces the effects of any mistakenly included non-monetary US shocks, while leaving the effects of true monetary shocks unaffected. Results suggest that prices fall after monetary contractions; output does not show a clear response.     

The optimal neglect of inflation: An alternative interpretation of UK monetary policy during the “Great Moderation”

This paper argues that UK monetary policymakers did not respond to the inflation rate during most of the “Great Moderation” that ran from the early 1990s to the mid-2000s. We derive a generalisation of the New Keynesian Phillips curve in which inflation is a non-linear function of the output gap and show that the optimal response of the policy rule to inflation depends on the slope of the Phillips curve; if this is flat, manipulation of aggregate demand through monetary policy does not affect inflation and so policymakers cannot affect inflation. We estimate the monetary policy rules implied by a variety of alternative Phillips curves; our preferred model is based on a Phillips curve that is flat when output is close to equilibrium. We find that policy rates do not respond to inflation when the output gap is small, a situation that characterised most of the “Great Moderation” period.     

Asymmetric effects of monetary policy shocks on economic performance: empirical evidence from Turkey

This study investigates the asymmetric effects of monetary policy shocks on the macroeconomic variables of exchange rate, output and inflation for an emerging economy ? Turkey ? by using monthly data between 1990 and 2014. We employ the innovative nonlinear vector autoregressive model of Kilian and Vigfusson (2011), which allows us to observe the effect of different stances (tight or loose) and different sizes (small or large) of monetary policy actions. Our empirical evidence reveals that tight monetary policy, which, in this case, is captured with a positive shock to interest rate, decreases exchange rate, output and prices, as economic theory suggests. Loose monetary policy, which is captured with a negative shock to interest rate, has the opposite effect on these variables. However, the effects of loose monetary policy are weaker than the effects of tight monetary policy because loose monetary policy shocks are less effective than tight monetary policy shocks. Moreover, as the magnitude of a shock increases, the difference between the effects of tight and loose monetary policy policies also increases.     

An inventory of simple monetary policy rules in a New Keynesian macroeconomic model

We derive necessary and sufficient conditions for simple monetary policy rules that guarantee equilibrium determinacy in the New Keynesian monetary model. Our modeling framework is derived from a fully specified optimization model that is amenable to analytical characterisation. The monetary rules analyzed are variants of the basic Taylor rules ranging from simple inflation targeting (current, forward, backward) to canonical Taylor rules with and without inertial nominal interest rates. We establish that determinacy obtains for a wide range of policy parameters, especially when the monetary authority targets output and smoothes interest rates. Contrary to other results in the literature, we do not find a case for super-inertial interest rate policy.     

The effects of fiscal spending shocks on the performance of simple monetary policy rules

We examine the effects of fiscal shocks on the performance of alternative monetary policy rules in a small dynamic general equilibrium framework. We explicitly consider the interaction between fiscal and monetary policy rules which may be present in the real world. We use a simple specification for the fiscal policy rule and various specifications for the (simple) monetary policy rule. Our analysis suggests that some form of flexible inflation targeting regime would perform well in response to fiscal shocks compared to other forms of policy regimes.     

The evolution of monetary policy effectiveness under macroeconomic instability

This paper studies the evolution of the monetary policy transmission mechanisms in the US following the Great Recession. The implementation of a modified Dynamic Factor Model enables the identification of two different structural scenarios based on the information contained in a large dataset of 110 variables. Impulse Response Functions to an increase of official interest rate for this large dataset are estimated for each structural context. Three techniques are combined to deal with the dimensionality problems which emerge from an estimation procedure of this magnitude: (i) factor decomposition, (ii) an identification strategy independent of the number of variables included in the dataset and (iii) a blockwise optimization algorithm for the correct selection of the Bayesian priors. Results show the presence of a structural break in 2008 and the higher responsiveness of the economy to monetary policy after that date.     

Agricultural and monetary shocks before the great depression: A graph-theoretic causal investigation

This paper uses graph-theoretic methods to investigate the causal relationships between agriculture, money, interest rates, prices, and real GDP in 12 countries during the years 1869–1929. We find that agricultural production directly and indirectly causes real GDP in two-thirds of the cases. Monetary shocks also play an important causal role in about half the cases, but unlike agriculture, the causal links are usually indirect through other variables to real GDP. The direct causal link between money and prices is also particularly strong. Between 1869 and 1929, money causes prices in nearly all of the countries in the sample.     

The transmission mechanism of monetary policy: Microeconomic aspects of macroeconomic issues

The article analyzes the transmission mechanism of monetary policy in light of microeconomic theory. We address the influence of microeconomic factors on the transmission of monetary policy while taking into account the contributions of conventional price formation and competition theory and heterodox microeconomic theories, including work inspired by the post Keynesians. We found a multiplicity of results regarding changes in price levels and inflation derived from shifts in demand and costs. These results challenge the conventional view, which postulates a single behavior in the circuit from changes in interest rates to demand, prices, and inflation. We conclude that microeconomic and macroeconomic aspects should be integrated to properly explain monetary policy and analyze its effects and transmission mechanism.     

US monetary policy shocks and the Chinese economy: a GVAR approach

Using a global vector auto regressive (GVAR) methodology, this article examines the impact of US monetary policy shocks on China’s major macroeconomic indicators. Our analysis reveals that a positive shock to the US money supply growth rate initially increases China’s inflation rate but after some time this effect completely disappears. This shock also raises China’s short-term interest rate and the Chinese currency appreciates against the US dollar. A positive shock to the US short-term interest rate increases China’s short-term interest rate but the real output growth and inflation rates decline and the Chinese currency appreciates.     

Transmission effects of the U.S. and China monetary policy shocks on the world

This paper applies the Markov-switching model to analyse the transition probabilities and generalized method of moments (GMM) with Newey–West heteroscedasticity and autocorrelation consistent covariance estimators (HAC) to examine the continuity of monetary policies in different countries when the U.S. and China change their monetary policies. Our results indicate that the euro area’s monetary authority continues to increase/decrease their money supply to stimulate/depress the economy. In Japan, long-term economic recession motivated the Japanese government to maintain a loose money supply. The continuity of Korea’s monetary policy in expansionary states lasts up to 5.1 years. Besides, the outcomes show the implementation of U.S. quantitative easing (QE), overnight reverse repurchase agreement (RRP), and Chinese RRP policies have significant spillover effects on other nations. Particularly, the effects on the euro area are the largest. Furthermore, although the monetary policies of China and the euro area seem to move in opposite directions, they are interdependent.     

Assessing the effectiveness of monetary policy in Kenya: Evidence from a macroeconomic model

This paper examines the effectiveness of monetary policy in Kenya based on policy simulations from a structural macroeconometric model. The analysis is conducted using the policy rate, i.e. the central bank rate (CBR) and the cash reserve ratio (CRR) with respect to the interest rate and bank lending channels, respectively. The results indicate that whereas a change in the policy rate is effective in influencing short term rates, the long term lending rates respond marginally. Consequently, the transmission to the real economy and the overall impact on inflation is minimal. However, a change in CBR has a comparatively higher impact on inflation while a change in CRR has a relatively larger impact on aggregate demand. Enhancing the effectiveness of the CBR and strengthening of the interest rate channel have the potential of anchoring inflation expectations and boosting the effectiveness of monetary policy in Kenya.     

Financial systems and the cost channel transmission of monetary policy shocks

We study the role of financial systems for the cost channel transmission of monetary policy in a calibrated business cycle model. We characterize financial systems by the share of bank-dependent firms and by the degree of the pass-through from policy to bank lending rates, for which we provide empirical estimates for the euro area and the US. For plausible calibrations of the dynamics of the lending rate we find that the cost effects directly related to interest rate movements have only a limited effect on the transmission mechanism.     

The asymmetric effects of monetary shocks: the case of Turkey

This paper examines whether there is an asymmetry in the effects of positive versus negative and small versus big money supply shocks, and whether the effects of the shocks on output and prices vary over the business cycles in the case of Turkey. Negative shocks to money are found to have greater output and smaller price effects compared to the effects of positive shocks, irrespective of the initial state of the economy. It is also found that monetary shocks of different size affect output growth and inflation rates proportionately. These findings can be interpreted as evidence for the view that the short run aggragate supply curve is convex in such a country like Turkey.     

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.     

Bank lending and the stock market's response to monetary policy shocks

This paper explores whether a limited participation model modified to include features of the bank lending channel can account for the empirically observed reaction of stock market returns to monetary policy shocks. When calibrated to match characteristics of US data, the model generates responses that broadly match the empirical counterparts. The results also suggest, that the higher exposure of bank-dependent firms to liquidity shocks generates substantial heterogeneity of the responses across firms.     

An assessment of the dynamic effects of monetary policy in Macedonia

Macedonia, as a small emerging economy, is exposed to foreign risks such as: exchange rate volatility, trade distortions, and highly volatile capital flows. To ‘protect’ its economy, since 1995, the Macedonian Central Bank has applied the monetary strategy of exchange rate targeting, where the interest rate on Central Bank bills auctions is a basic monetary-policy instrument. This paper re-examined the effectiveness of the current monetary policy in Macedonia using the policy-oriented vector error correction model (VECM). We found that the Macedonian Central Bank demonstrates a low level of monetary-policy effectiveness and the existing monetary-policy strategy does not necessarily promote its ability to react countercyclically.     

Stock market response to monetary and fiscal policy shocks: Multi-country evidence

A Structural VAR model is employed to investigate the effects of monetary and fiscal policy shocks on stock market performance in Germany, UK and the US. A significant number of past studies have concentrated their attention on the relationship between monetary policy and stock market performance, yet only few on the effects of fiscal policy on stock markets. Even more we know little, if any, on the effects of fiscal and monetary policies on stock market performance when the two policies interact. This study aims to fill this void. Our results show that both fiscal and monetary policies influence the stock market, via either direct or indirect channels. More importantly, we find evidence that the interaction between the two policies is very important in explaining stock market developments. Thus, investors and analysts in their effort to understand the relationship between macroeconomic policies and stock market performance should consider fiscal and monetary policies in tandem rather than in isolation.     

The macroeconomic effects of fiscal policy

We investigate the macroeconomic effects of fiscal policy using a Bayesian Structural Vector Autoregression (B-SVAR) approach. We identify fiscal policy shocks via a partial identification scheme, but also: (i) include the feedback from government debt; (ii) look at the impact on the composition of output; (iii) assess the effects on asset markets; (iv) use quarterly data; and (v) analyse empirical evidence from the US, the UK, Germany and Italy. The results show that government spending shocks, in general, have a small effect on Gross Domestic Product (GDP); lead to important ‘crowding-out’ effects; have a varied impact on housing prices and generate a quick fall in stock prices. Government revenue shocks generate a mixed effect on housing prices and a small and positive effect on stock prices. The empirical evidence also suggests that it is important to explicitly consider the government debt dynamics in the model.