A nonnormative theory of inflation and central bank independence

A Nonnormative Theory of Inflation and Central Bank Independence. — The authors study monetary policy under different central bank constitutions when the labor-market insiders set the minimal wage so that the outsiders are involuntarily unemployed. If the insiders are in the majority, the representative insider will be the median voter. The authors show that an independent central bank, if controlled by the median voter, does not produce a systematic inflation bias, albeit equilibrium employment is too low from a social welfare point of view. A dependent central bank, in contrast, is forced by the government to collect seigniorage and to take the government’s re-election prospects into account. The predictions of their theory are consistent with the evidence that central bank independence decreases average inflation and inflation variability, but does not affect employment variability.     

Disinflation costs, accelerating inflation gains, and central bank independence

Disinflation Costs, Accelerating Inflation Gains, and Central Bank Independence. - This paper considers the impact of central bank independence on both the costs of disinflation and the gains of accelerating inflation. For this purpose, sacrifice ratios for disinflation episodes and benefice ratios for accelerating inflation episodes are constructed by using a new method. The ratios are calculated for 19 industrial countries over the period 1960–1992. The results indicate that central bank independence only matters during disinflation episodes: Sacrifice ratio and output loss are higher, the more independent the central bank is; whereas during accelerating inflation episodes, central bank independence has no influence on either the benefice ratio or the output gain.     

Myopia,Discretion, and Commitment in a Two‐Period AS/AD Model

A large body of pedagogical literature has recently emerged to place the New Keynesian framework for analyzing business cycle fluctuations and the conduct of monetary policy into undergraduate economics curricula. This article develops the graphical apparatus for the analysis of optimal monetary policy in the context of a two‐period model under alternative assumptions about the formation of inflationary expectations. It demonstrates that differences in assumptions about the formation of inflationary expectations translate into quite different conclusions regarding the optimal conduct of monetary policy.     

The exchange rate and monetary conditions in the Euro area

The Exchange Rate and Monetary Conditions in the Euro Area. — Using information from a variety of sources, this paper suggests that the exchange rate will play an important role in the transmission of the impact of monetary policy on the real economy and inflation in the euro area. As a first approximation it would be reasonable to assume that an increase in the real 90-day interest rate of 100 basis points would have the same effect on demand two years later as a 3.5 percent fall in the real euro exchange rate. This implies that the euro area will tend to behave like a large open economy rather than a closed economy and hence that it would be helpful in informing monetary policy to construct a Monetary Conditions Index (MCI).     

Canadian Interest Rate Setting: The Information Content of Canadian and U.S. Central Bank Communication

We explain Canadian target rate decisions using macroeconomic variables as well as Bank of Canada and Federal Reserve communication indicators. Econometrically, we employ an ordered probit model of a Taylor rule to explain and predict 60 target rate decisions between 1998 and 2006. We find that communications, especially speeches and testimony by Canadian Governing Council members, provide a significant and robust explanation of Canadian target rate decisions. However, prior to the introduction of fixed announcement dates, Canadian communications contained more information on upcoming policy moves. Finally, communications by the U.S. Federal Reserve Bank—which are much more frequent—outperform our Canadian communication indicators in explaining Canadian interest rate decisions.     

Monetary policy rules for a developing country: Evidence from Pakistan

This paper estimates forward-looking monetary policy rules to examine the interest rate setting behavior of the State Bank of Pakistan. Considering the external constraints on monetary policy, core inflation and a country-specific measure of the output gap, we demonstrate that the State Bank of Pakistan reacts to changes in inflation, the output gap and the federal funds rate.     

The Asian crisis,private sector saving,and policy implications

The Asian financial crisis has several critical implications for the saving behavior in the crisis-hit economies as well as in other Asian economies, which are summarized as follows: increase in economic uncertainty; increase in poverty; decrease in public confidence in financial institutions; financial liberalization; and reduction in corporate leverage ratio. Putting these together, the postcrisis saving rates in the crisis economies are likely to decrease without government interventions. Although the uncertainity factor may contribute to an increase in short-term saving, an abated level in household income and corporate output and slow GDP growth will lead to a contraction in saving rates. Increased poverty, diminished public confidence in banking institutions, and the increased variability of business sales will further contribute to a reduction in saving rates of the household and corporate sectors. Keeping this in mind, the postcrisis saving policy should consider stronger macroeconomic stabilization policies to reduce the underlying economic uncertainty to encourage long-term savings/investments; improving the public confidence in financial institutions through financial restructuring and a proper deposit insurance scheme in place; channeling informal sector saving into the formal financial institutions; and promoting propoor saving policies.     

U.S. Monetary Policy since the 1950s and the Changing Content of FOMC Minutes

Content analysis is used to analyze 60 years of Federal Open Market Committee (FOMC) minutes. Since there is no unique algorithm to quantify content, two different algorithms are applied. Wordscores compares content relative to a chosen benchmark, while DICTION is an alternative algorithm that is specifically designed to capture various elements that capture the sentiment or tone conveyed in a text. The resulting indicators are then incorporated into a VAR. The content of FOMC minutes is found to be significantly related to the state of the economy, notably real GDP growth, and changes in the fed funds rate. However, the relationship between content and macroeconomic conditions changes after 1993 when minutes are made public with a lag. Both content indicators also suggest substantive changes in the content of FOMC minutes since the 1950s in terms of the FOMC's dovishness or hawkishness.     

Product market competition, unemployment and income disparities

Product Market Competition, Unemployment and Income Disparities. — We discuss how promoting competition in product markets affects unemployment and wage differentials. We examine a general equilibrium model with real wage rigidities in labor markets and market power in product markets. We illustrate how more intense competition reduces unemployment. A decrease of markups would induce an increase of real wages if real wages were flexible. This enables the employment of more low-skilled people above a real reservation wage. More intensive competition, however, widens wage and income differences between low-skilled and high-skilled workers. Differences of income distributions across countries could also be caused by differences in the intensity of product market competition.     

Monetary policy, central bank objectives, and social welfare with strategic wage setting

The paper examines the implications of strategic wage-settingbehaviour by an inflation-averse monopoly union for the appropriatespecification of central bank objectives. Our principal findingsare as follows. First, the optimal setting of the parametersof the central bank's objective function differ in a significantway according to the relative timing of monetary policy andwage determination. Second, the ability of the central bankto precommit to a particular setting of monetary policy doesnot confer any welfare benefits. Third, we find little supportin this context for the notion that placing monetary policyin the hands of a conservative central bank will improve socialwelfare.     

Fiscal and monetary policy in a monetary union: Credible inflation targets or monetized debt?

Fiscal and Monetary Policy in a Monetary Union: Credible Inflation Targets or Monetized Debt? —The paper examines the interrelationship between fiscal and monetary policy in a two-country monetary union. The worst scenario occurs when an independent central bank sets the nominal interest rate and responds to rising government debt/GDP ratios by monetization. The result is high inflation, high debt/GDP ratios and a large public sector. Government debt and inflation are contained if the governments bear sole responsibility for solvency, but the public sector remains excessively large. The best scenario occurs if the central bank removes the incentive for the governments to engineer surprise inflation by credible inflation targeting.     

A general equilibrium evaluation of trade and industrial policy changes in Austria and Hungary

A General Equilibrium Evaluation of Trade and Industrial Policy Changes in Austria and Hungary. — Two linked static CGE models — based on 1990 data — are used to study effects of trade liberalization, problems of migration and changes in industrial policy in Austria and Hungary. The huge differences in factor endowment (Hungary is relatively labour abundant, Austria is relatively capital abundant) gives Hungary a strong competitive position in the production and export of lowwage products. Austria should have comparative advantages in products with high capital content when trading with Hungary. Although trade liberalization helps to improve welfare, much stronger effects follow from factor migration and capital accumulation through the transformation process in Hungary.     

Financial repression, money growth, and seignorage: The Polish experience

Financial Repression, Money Growth and Seignorage: The Polish Experience. — A small analytical framework is developed to analyze the relation between reserve requirements, base money growth and seignorage revenues. From the analysis, the authors can derive of steady-state seignorage revenues as a function of the rate of money growth and the intensity of financial repression. The framework is applied to the case of Poland that has undertaken a rapid transition to a market economy and implemented a substantial financial sector reform. The process of financial sector reform in Poland is discussed and estimates of the currency demand and deposit demand functions are undertaken to derive the seignorage Laffer curve.     

Inflation and Inflation Expectations in South Africa: an Attempt at Explanation

This paper examines the relationship between inflation and inflation expectations in South Africa. We use inflation expectations derived from the quarterly surveys conducted by the Bureau of Economic Research from 2001Q1 to 2011Q4 . Using these data, we estimate the model assuming that private sector expectations are a linear function of the inflation target and lagged inflation. The results indicate that economic agents' expectations largely depend on lagged inflation. This suggests that the South African Reserve Bank (SARB) has not been successful in anchoring expectations of the private sector since the adoption of the inflation targeting (IT) regime in 2000. We also find evidence indicating that the SARB's implicit inflation target lies above the upper bound of the official IT band. Finally, it appears that the SARB has been more concerned about output stabilisation than inflation stabilisation.     

The Stock Market,Monetary Policy,and Economic Development

In this article, we examine the impact of financial market development on the level of economic development. In particular, we explore this issue in a setting where individuals face idiosyncratic risk. Incomplete information also provides a transaction role for money so that monetary policy can be studied. While an active banking sector promotes risk sharing, we incorporate a market for equity by allowing individuals to trade capital across generations. In this manner, each asset and financial market in our model fulfills a distinct economic function. Consistent with recent empirical work, we find that the impact of access to a stock market may be indeterminate—the economy may respond with significant gains in capital accumulation and risk sharing, or there may be relatively little impact. We also show that the effects of monetary policy vary across the level of financial development. In economies with small stock markets, increasing the amount of liquidity will cause capital accumulation to decline. By comparison, in advanced economies, capital accumulation improves.     

What influences aggregate inflation expectations of households in India?

We analyse the factors influencing Indian households’ inflation expectations and draw out implications for inflation targeting. The literature finds news on inflation affecting expectations. Using quarterly data from India over 2008–2019, we find: (i) in estimated epidemiological models of learning in expectation formation, the response coefficient on inflation news in the shape of central bank forecasts exceeds coefficients estimated for advanced economies, implying official views having a relatively greater weight on expectations; (ii) error variance decompositions of expectations to shocks in variables including commodity and core inflations, demand and policy variables in a series of SVARs, also show policy communications affecting expectations in the short-term. Food inflation has a significant short-run effect on expectations, but demand determined core inflation dominates over the long run; (iii) impulse responses show a rise in the policy rate raising expectations. The above results show communications as more effective than policy rates in influencing inflation expectations.     

Economic Globalization and Inflation in China: A Multivariate Approach

This paper evaluates whether globalization has increased the role of global factors in driving inflation in China. Unlike other published studies on the relationship between globalization and inflation, which mostly use Phillips curve models, this paper uses multivariate dynamic models to examine the dynamic interactions between globalization and inflation in China. Empirical results with quarterly data spanning from 1995 to 2012 show that the global output gap significantly affects the dynamics of inflation in China. In particular, the global output gap is superior to the domestic output gap in predicting domestic inflation. Impulse response and variance decomposition analyses reinforce this finding. Our results indicate that the central bank of China should take developments in global output into account in its monetary policy‐making process.     

SOUTH AFRICAN MARKET VOLATILITY,ASYMMETRY AND RETAIL INTEREST RATES PASS‐THROUGH

The purpose of this paper is to examine the interest rate transmission mechanism for South Africa as an emerging economy in a pre‐repo and repo system. It explains how the money market rate is transmitted to the retail interest rates both in the long run and short run, and tests the symmetric and asymmetric interest rate pass‐through using the error‐correction model (ECM) and the adjusted ECM‐exponential generalised autoregressive conditional heteroscedasticity (ECM‐EGARCH) (1,1)‐M methodology. This permitted the examination of the impact of interest rate volatility, along with the leverage effect. An incomplete pass‐through is found in the short run. From the entire sample period, a symmetric adjustment is found in the deposit rate, which had upward rigidity adjustment, while an asymmetric adjustment is found in the lending rate, with a downward rigidity adjustment. All the adjustments supported the collusive pricing arrangements. According to the conditional variance estimation of the ECM‐EGARCH (1,1), negative volatility impact and leverage effect are present and influential only in the symmetric deposit interest rate adjustment process in South Africa.     

Interest rate rules and global determinacy: An alternative to the Taylor principle

A well‐known determinacy condition on interest rate rules is the “Taylor principle,” which states that nominal interest rates should respond more than 100 percent to inflation. Unfortunately, notably because interest rates must be positive, the Taylor principle cannot be satisfied for all interest rates, and as a consequence global determinacy may not prevail even though there exists a locally determinate equilibrium. We propose here a simple alternative to the Taylor principle, which takes the form of a new condition on interest rate rules that ensures global determinacy. An important feature of the policy package is that it does not rely at all on any of the fiscal policies associated with the “fiscal theory of the price level,” which has so far been the main alternative for determinacy.