Expected versus unexpected monetary policy impulses and interest rate pass-through in euro-zone retail banking markets

This paper investigates the interest rate pass-through in the euro-zone’s retail banking markets by differentiating between expected and unexpected monetary policy impulses. The paper introduces interest futures as measures of expected interest rates into pass-through studies. By allowing various specifications of the pass-through process, including asymmetric adjustment, we find a faster pass-through in loan markets when interest rate changes are correctly anticipated. In contrast, deposit markets are found to be more rigid. Overall, our results suggest that a well-communicated monetary policy is important for a speedier and a more homogenous pass-through but may also be complemented by competition policies.     

Interest rate deregulation: Monetary policy efficacy and rate rigidity

This paper examines the effects of interest rate regulation, and subsequent deregulation, on the efficacy of monetary policy and rigidity of retail bank deposit rates in Hong Kong. Using an error-correction model, we find that interest rate deregulation increases the efficacy of monetary policy by improving the correlation between retail bank deposit rates and market interest rates and increasing the degree of long-term pass-through for retail bank deposit rates. Our study also shows that the adjustments in retail bank deposit rates are asymmetric and rigid upwards during the regulated period, but tend to be rigid downwards during the deregulated period. The spreads between retail bank deposit rates and market rates have also tightened sharply after the removal of interest rate controls.     

Can interest rates really control house prices? Effectiveness and implications for macroprudential policy

This paper investigates how changes in the central bank policy and retail mortgage rates affected real housing prices in New Zealand during the period 1999–2009. We find that real interest rates are significantly and positively related to real housing prices, indicating that increases in the policy rate may not be effective in depressing real housing prices. By testing interest rates, we also find some evidence of housing price bubbles. Our findings suggest that the central bank could have limited housing price bubbles if it had started to intervene in the housing market prior to 2003. Our results set international exemplars for using policy rates or macroprudential tools to cool the housing market, where the extent of policy rate adjustments is limited by internal or external economic factors.     

Interest rate pass-through in India

The success of the interest rate channel depends upon the size and speed with which retail interest rates respond to changes in policy or money market interest rates. This study estimates the dynamic elasticities of the pass-through of the official monetary policy rate to the money market and retail interest rates in India and examines whether the speed and magnitudes of the pass-through have changed following introduction of the Liquidity Adjustment Facility in 2000. The results show that the speed of adjustment is highest for call rates and lowest for 364-day Treasury Bill yield. The pass-through elasticities with respect to call rate show marginal improvement in the case of deposit and lending rates and worsening in the case of Treasury Bills.     

Interest Rate Pass-Through in China: An Analysis of Chinese Commercial Banks

This study investigates the interest rate transmission in China. We analyze the extent to which the benchmark and wholesale interest rates are transmitted to the retail interest rates and focus particularly on the change in the interest rate pass-through after the interest rate liberalization. Using data of 16 listed banks from 2007Q1 to 2017Q3, we find that the pass-through is not yet complete. Even though interest rates have been liberalized on the policy level, the sensitivity of the retail interest rates to the wholesale rates has not increased enough as expected and may be explained by the market power of Chinese commercial banks.     

The interest rate pass-through in the euro area during the sovereign debt crisis

We investigate the pass-through of monetary policy to bank lending rates in the euro area during the sovereign debt crisis, in comparison to the pre-crisis period. We make the following contributions. First, we use a factor-augmented vector autoregression, which allows us to assess the responses of a large number of country-specific interest rates and spreads. Second, we analyze the effects of monetary policy on the components of the interest rate pass-through, which reflect banks' funding risk (including sovereign risk) and markups charged by banks over funding costs. Third, we not only consider conventional but also unconventional monetary policy. We find that while the transmission of conventional monetary policy to bank lending rates has not changed with the crisis, the composition of the pass-through has changed. Specifically, expansionary conventional monetary policy lowered sovereign risk in peripheral countries and longer-term bank funding risk in peripheral and core countries during the crisis, but has been unable to lower banks' markups. This was not, or not as much, the case prior to the crisis. Unconventional monetary policy helped decreasing lending rates, mainly due to large shocks rather than a strong propagation.     

The Response of Bank Retail Rates to Money Market Rates in the BRIC Economies: An Application of the Disaggregated GETS Model

The purpose of this paper is to examine the interest rate transmission mechanism for the emerging BRIC economies (Brazil, Russia, India, and China). We analyze the way interbank rates are transmitted to the bank retail rates, and we test the symmetry hypothesis. A disaggregated general-to-specific model is applied for estimating interest rate pass-through and examining whether retail rates respond symmetrically or asymmetrically to upward/downward interbank rate changes. Overall, our empirics show evidence of sluggish and incomplete pass-through from market rates to bank loan and deposit rates. We show that banks' speed of upward and downward adjustment behavior is symmetric in both loan and deposit markets.     

Interest rate pass-through,monetary policy rules and macroeconomic stability

In this paper we analyze equilibrium determinacy in a sticky price model in which the pass-through from policy rates to retail interest rates is sluggish and potentially incomplete. In addition, we empirically characterize and compare the interest rate pass-through process in the euro area and the U.S. We find that if the pass-through is incomplete in the long run, the standard Taylor principle is insufficient to guarantee equilibrium determinacy. Our empirical analysis indicates that this result might be particularly relevant for bank-based financial systems as for instance that in the euro area.     

Monetary policy and covered interest parity in the post GFC period: Evidence from the Australian dollar and the NZ dollar

After the global financial crisis (GFC), most major currencies had higher interest rates than the US dollar on forward contract because of increased demand for the US dollar as international liquidity. However, unlike the other major currencies, the Australian dollar and the NZ dollar had lower interest rates than the US dollar on forward contract in the post GFC period. The purpose of this paper is to explore why this happened through estimating the covered interest parity (CIP) condition. In the analysis, we focus on a unique feature of Australia and New Zealand where short-term interest rates remained significantly positive even after the GFC. The paper first constructs a theoretical model where increased liquidity risk causes deviations from the CIP condition. It then tests this theoretical implication by using daily data of six major currencies. We find that both money market risk measures and policy rates had significant effects on the CIP deviations. The result implies that unique monetary policy feature in Australia and New Zealand made deviations from the CIP condition distinct on the forward contract.     

The interest rate pass-through in the Euro area during the global financial crisis

This paper uses panel vector autoregressive (VAR) models for euro area member countries to explore the widening of retail bank interest rate spreads that emerged in the course of the global financial crisis. We find that the interest rate pass-through was generally complete on impact before the outbreak of the financial crisis, but became significantly distorted in the period thereafter, which hampered the effectiveness of monetary policy. Empirical evidence suggests that the decrease in the interest rate pass-through can be related to a change in the structural parameters characterizing the economies and a substantial increase in the average size of structural shocks. DSGE model simulations show that an increase in the frictions that banks are subject to can explain the decrease in the retail bank interest rate pass-through.     

Brazilian retail banking and the 2008 financial crisis: Were the government-controlled banks that important?

We revisit the interest rate pass-through effect using weekly retail banking data from May 2006 to March 2010. Our choice of data avoids caveats of previous studies concerning excessive data aggregation and the estimation of how fast changes in benchmark interest rates impact those charged on short-term loans in Brazil. Our analysis focuses on four large retail banks – two of them privately owned and run, two of them government-controlled – before and after September 2008. They account for 60% of the total credit supplied by retail banks. Results indicate that government control over two of the largest banks, supposedly an asset for crisis management, may have had higher welfare costs than assumed. We find no evidence of asymmetry in adjustments of retail rates charged by private and government-controlled banks.     

The Structural Relation Between Mortgage and Market Interest Rates

This paper analyzes the dynamic relationship between primary and secondary mortgage markets and the short-term and long-term market interest rates. Using a series of monthly data on fixed rate mortgage rates and GNMA rates, we explore the dependence and speed of adjustment in these primary and secondary mortgage rates to each other as well as to the long and short-term government rates. The results indicate that residential mortgage rates in general, appear to follow the long-term rate and are not very sensitive to movements in the short-term interest rate.     

PREPAYMENT RISK AND THE DURATION OF DEFAULT-FREE MORTGAGE-BACKED SECURITIES

The conventional duration measure for mortgage-backed pass-through securities assumes that the prepayment rate is invariant to changes in market interest rates. In this paper, the conventional duration is modified to take into account the interest-rate sensitivity of mortgage prepayments. Including interest rate sensitivity is shown to reduce substantially the duration of a mortgage-backed pass-through security when the current mortgage rate is less than the contract rate.     

Infrequent Housing Adjustment,Limited Participation,and Monetary Policy

This paper asks why monetary contractions have strong effects on the housing market. The paper presents a model with staggered housing adjustment in which monetary policy has real effects in the absence of any rigidity in producer pricing or wages. Limited participation in financial markets leads to a rise in the real mortgage rate following an increase in the nominal short rate. Since households must take on a mortgage to consume housing, the rise in the real interest rate reduces the share of residential investment in output.     

No Job,No Money,No Refi: Frictions to Refinancing in a Recession

We study how employment documentation requirements and out-of-pocket closing costs constrain mortgage refinancing. These frictions, which bind most severely during recessions, may significantly inhibit monetary policy pass-through. To study their effects on refinancing, we exploit a Federal Housing Administration policy change that excluded unemployed borrowers from refinancing and increased others' out-of-pocket costs substantially. These changes dramatically reduced refinancing rates, particularly among the likely unemployed and those facing new out-of-pocket costs. Our results imply that unemployed and liquidity-constrained borrowers have a high latent demand for refinancing. Cyclical variation in these factors may therefore affect both the aggregate and distributional consequences of monetary policy.     

The dynamic relationship between the federal funds rate and the Treasury bill rate: An empirical investigation

This article examines the dynamic relationship between two key US money market interest rates––the federal funds rate (FF) and the 3-month Treasury bill rate. Using daily data over the period from 1974 to 1999, we find a long-run relationship between these two rates that is remarkably stable across monetary policy regimes of interest rate and monetary aggregate targeting. Employing a nonlinear asymmetric vector equilibrium correction model, which is novel in this context, we find that most of the adjustment toward the long-run equilibrium occurs through the FF. In turn, there is strong evidence for the existence of significant asymmetries and nonlinearities in interest rate dynamics that have implications for the conventional view of interest rate behavior.     

Multiperiod Loans,Occasionally Binding Constraints,and Monetary Policy: A Quantitative Evaluation

We introduce multiperiod mortgage loans, fixed interest rate, a lower bound constraint on newly granted loans, and a possibly slack collateral constraint, in an otherwise standard Dynamic Stochastic General Equilibrium (DSGE) model with housing. Our nonlinear estimation shows that all those features are important to understand the evolution of mortgage debt during the recent U.S. housing market boom and bust. The transmission of monetary policy becomes dependent on the housing cycle, with weaker effects when house prices are high or start falling sharply. Higher average loan duration makes monetary policy less effective, eventually leading to asymmetric responses to positive and negative monetary shocks.     

How Do Anticipated Changes to Short‐Term Market Rates Influence Banks' Retail Interest Rates? Evidence from the Four Major Euro Area Economies

In this paper, we argue that banks anticipate short‐term market rates when setting interest rates on loans and deposits. In order to include anticipated rates in an empirical model, we use two methods to forecast market rates—a level, slope, curvature model, and a principal components model—before including them in a model of retail rate adjustment for four retail rates in four major euro area economies. Using both aggregate data and data from individual French banks, we find a significant role for forecasts of market rates in determining retail rates; alternative specifications with futures information yield comparable results.     

Exchange rate pass-through in emerging countries: Do the inflation environment,monetary policy regime and central bank behavior matter?

In this paper, we estimate the exchange rate pass-through (ERPT) to import and consumer prices for a sample of 14 emerging countries over the 1994Q1-2015Q3 period. To this end, we augment the traditional bivariate relationship between the nominal effective exchange rate and inflation by accounting for monetary stability proxied by the inflation environment, monetary policy regime and central bank behavior. We show that both the level and volatility of inflation, as well as adopting an inflation target or the transparency of monetary policy decisions clearly reduce ERPT to consumer prices. However, uncertainty about domestic monetary policy seems less relevant in explaining the pass-through to the price of imports.     

Competition,transmission and bank pricing policies: Evidence from Belgian loan and deposit markets

This paper addresses the pass-through from market interest rates to retail bank interest rates. The paper advocates a heterogeneous approach and applies it to the Belgian banking market. A substantial proportion of the heterogeneity in bank pricing policies can be explained by the bank lending channel and the relative market power hypothesis. The results also suggest that the long-term pass-through is typically less than one-for-one, rejecting the completeness hypothesis. While there is no convincing evidence for asymmetry in retail rates, large deviations from equilibrium mark-ups are faster reduced than small deviations. Overall, conditions for corporate loans are more competitive compared to consumer loans. Demand and savings deposits have, by far, the most rigid prices.