The macro-financial factors behind the crisis: Global liquidity glut or global savings glut?

It has been argued that the global financial crisis 2007–2009 was intrinsically related to two largely unprecedented phenomena in the global economy: (i) exceptionally benign financial market conditions as mirrored in historically low risk premia and buoyant asset price developments as well as (ii) an unprecedented widening of external imbalances. This paper explores to what extent these global trends can be understood as a reaction to three structural shocks to the macro-financial environment of the global economy: (i) monetary shocks (“excess liquidity” hypothesis), (ii) preference shocks (“savings glut” hypothesis), and (iii) investment shocks (“investment drought” hypothesis). In order to uniquely identify these shocks in an integrated framework, we estimate structural VARs for the two main regions with widening imbalances, the United States and emerging Asia, using sign restrictions that are compatible with standard New Keynesian and Real Business Cycle models. Our results show that (US) monetary policy shocks explain the largest part of the variation in imbalances and financial market prices. We find that savings shocks and investment shocks explain less of the variation. Hence, a “liquidity glut” may have been a more important driver of real and financial imbalances in the US and emerging Asia that ultimately triggered the global financial crisis.     

What Drives Oil Prices? Emerging Versus Developed Economies

We explore the role of demand from emerging and developed economies as drivers of the real price of oil. Using a FAVAR model that identifies shocks from different regions of the world, we find that demand from emerging economies (most notably from Asian countries) is more than twice as important as demand from developed countries in accounting for the fluctuations in the real oil price and in oil production. Furthermore, geographical regions respond differently to adverse oil market shocks that drive up oil prices, with Europe and North America being more negatively affected than countries in Asia and South America. Copyright © 2014 John Wiley & Sons, Ltd.     

Macroeconomic responses of emerging market economies to oil price shocks: An analysis by region and resource profile

We analyze the impact of oil price shocks on the macroeconomic fundamentals in emerging economies in three regions that have different resource endowments. The existing literature on emerging economies remains inconclusive on how regional factors and resource characteristics affect the response of macroeconomic variables to oil price shocks. We show that (1) exports in Europe and Central Asia are driven by oil more than East Asia and the Pacific and that (2) policy makers in East Asia and the Pacific should be concerned about real exchange appreciation following a positive oil shock to mitigate losses in the non-oil export market. Analysis by resource endowment further reveals that, in less-resource-intensive economies, an oil price shock causes large variations in consumption and has a negative and persistent impact on the real gross domestic product (GDP). In mineral-exporting economies, real GDP and interest rates are driven largely by oil price shocks. The response of real GDP in mineral-exporting economies is short lived. In oil-exporting economies, only real GDP has a large variation in response to oil price shocks. Our findings highlight the need for customized policy responses to oil price shocks, depending on resource endowments, as we show that a “one size fits all" policy does not exist.     

The spatial and temporal diffusion of house prices in the UK

This paper provides a method for the analysis of the spatial and temporal diffusion of shocks in a dynamic system. We use changes in real house prices within the UK economy at the level of regions to illustrate its use. Adjustment to shocks involves both a region specific and a spatial effect. Shocks to a dominant region - London - are propagated contemporaneously and spatially to other regions. They in turn impact on other regions with a delay. We allow for lagged effects to echo back to the dominant region. London in turn is influenced by international developments through its link to New York and other financial centers. It is shown that New York house prices have a direct effect on London house prices. We analyse the effect of shocks using generalised spatio-temporal impulse responses. These highlight the diffusion of shocks both over time (as with the conventional impulse responses) and over space.     

Time Variation in Macro‐Financial Linkages

We analyze the contribution of credit spread, house and stock price shocks to the US economy based on a time‐varying parameter vector autoregressive model. We find that the contribution of financial shocks to gross domestic product growth fluctuates from about 20% in normal times to more than 50% during the Great Recession. The Great Recession and the subsequent weak recovery can largely be traced back to negative housing shocks. Housing shocks have become more important for the real economy since the early 2000s, and negative housing shocks are more important than positive ones. Unexpected increases in credit spreads have not been deflationary recently. Copyright © 2016 John Wiley & Sons, Ltd.     

Leaning into the Wind: A Structural VAR Investigation of UK Monetary Policy*

This paper adapts Uhlig's [Journal of Monetary Economics (2005) forthcoming] sign restriction identification methodology to investigate the effects of UK monetary policy using a structural vector autoregression (VAR). It shows that shocks which can reasonably be described as monetary policy shocks have played only a small role in the total variation of UK monetary and macroeconomic variables. Most of the variation in UK monetary variables has been due to their systematic reaction to other macroeconomic shocks, namely non‐monetary aggregate demand, aggregate supply, and oil price shocks. We also find, without imposing any long run identifying restrictions, that aggregate supply shocks have permanent effects on output.     

Relative Wage Variation and Industry Location in the United Kingdom*

This paper shows that both relative wages and industry structure vary considerably across regions of the United Kingdom. In accordance with the neoclassical model of trade, regions abundant in a factor (i) exhibit lower relative prices of that factor than regions scarce in the factor, and (ii) tend to specialize in a mix of industries intensive in the use of the factor. We show that this specialization leads UK regions to be asymmetrically exposed to external macroeconomic or international trade shocks.     

On the feasibility of monetary union among Gulf Cooperation Council (GCC) countries: does the symmetry of shocks extend to the non-oil sector?

GCC countries’ output is heavily dichotomized into oil and non-oil. Oil shocks have similar effects on all member countries but little is known about their responses to non-oil shocks. This paper sets out to determine (1) whether aggregate demand (AD) and non-oil supply shocks (AS) are symmetrical across these countries to justify their suitability for monetary union; and (2) whether there is any commonality of shocks with the United States and the three major European countries, namely France, Germany, and Italy, which can warrant the choice of either the US dollar or the Euro as the anchor for the expected common currency of the bloc. We use bivariate structural vector autoregression models identified with long-run restrictions to extract the shocks. Our results show that (a) AD shocks are unequivocally symmetrical but non-oil AS shocks are weakly symmetrical across GCC countries thereby suggesting a monetary union is feasible, but not overwhelmingly; (b) neither AD nor AS shocks are symmetrical between GCC countries and the selected European countries; (c) GCC’s AD shocks are symmetrical with the US but non-oil AS shock are not. Furthermore, there are no significant changes in the results when we aggregate the GCC countries as a bloc. We therefore surmise that the US dollar is a more appropriate anchor for the new currency than the Euro since US monetary policy can at least help smooth demand shocks in GCC countries.     

Bank fee-based shocks and the U.S. business cycle

Efficient liquidity matching requires from banks to track external shocks (e.g., GDP growth shocks, stock market shocks and monetary policy shocks) in order to optimally allocate their assets between loans and other business lines. Profit maximizing banks have to rebalance their product-mix to take advantage of these changes. However, even though banking is cyclical, and contemporaneously reacts to shocks outside the banking sphere, there may also be some feedback effects at play, whereby bank changes, in turn, could affect economic and financial conditions. Generalizing the results of Marcucci and Quagliariello (2006, 2009), who indeed find an asymmetric impact of credit shocks on economic and financial time series in recession, we use a similar VAR framework to show that an even stronger feedback effect is prevalent for fee-based shocks. If the feedback effects of credit and fee-based shocks might have been both at play before the subprime crisis, the feedback effect of credit shocks seems to have faded away during the subprime crisis, whereas the feedback effect stemming from fee-based shocks has gained further strength.     

Bayesian counterfactual analysis of the sources of the great moderation

We use counterfactual experiments to investigate the sources of the large volatility reduction in US real GDP growth in the 1980s. Contrary to an existing literature that conducts counterfactual experiments based on classical estimation and point estimates, we consider Bayesian analysis that provides a straightforward measure of estimation uncertainty for the counterfactual quantity of interest. Using Blanchard and Quah's ( 1989 ) structural VAR model of output growth and the unemployment rate, we find strong statistical support for the idea that a counterfactual change in the size of structural shocks alone, with no corresponding change in the propagation of these shocks, would have produced the same overall volatility reduction as what actually occurred. Looking deeper, we find evidence that a counterfactual change in the size of aggregate supply shocks alone would have generated a larger volatility reduction than a counterfactual change in the size of aggregate demand shocks alone. We show that these results are consistent with a standard monetary VAR, for which counterfactual analysis also suggests the importance of shocks in generating the volatility reduction, but with the counterfactual change in monetary shocks alone generating a small reduction in volatility. Copyright © 2007 John Wiley & Sons, Ltd.     

The nonlinear effect of oil price shocks on financial stress: Evidence from China

This paper examines the nonlinear effects of different types of oil price shocks on China’s financial stress index (FSI). For this purpose, we use newly proposed framework by Ready (2018) to decompose oil prices into supply, demand and risk shocks. Then, we use a Markov regime-switching (MRS) model to investigate the nonlinear effects of these oil price shocks on China’s FSI. The empirical results show that the effects of three oil price shocks are nonlinear under different regimes. In particular, oil supply shocks mainly have a significantly positive effect on China’s FSI in the low-volatility state; demand shocks have negative effects on China’s FSI in different regimes, but this effect is larger in the low-volatility state; the effect of risk shocks on China’s FSI is the opposite, and it is positive in the high-volatility state but negative in the low-volatility state.     

The macroeconomic impact of economic uncertainty and financial shocks under low and high financial stress

External financial frictions might increase the severity of economic uncertainty shocks. We analyze the impact of aggregate uncertainty and financial condition shocks using a threshold vector autoregressive (TVAR) model with stochastic volatility during distinct US financial stress regimes. We further examine the international spillover of the US financial shock. Our results show that the peak contraction in euro area industrial production due to uncertainty shocks during a financial crisis is nearly-four times larger than the peak contraction during normal times. The US financial shocks have an influential asymmetric spillover effect on the euro area. Furthermore, the estimates reveal that the European Central Bank (ECB) is more cautious in implementing a monetary policy against uncertainty shocks while adopting hawkish monetary policies against financial shocks. In contrast, the Fed adopts a more hawkish monetary policy during heightened uncertainty, whereas it acts more steadily when financial stress rises in the economy.     

Does school ownership matter? An unbiased efficiency comparison for regions of Spain

The programme for international student assessment (PISA) 2006 Report (OECD, PISA 2006: science competencies for tomorrow’s world, Organisation for Economic Co-operation and Development, Paris in 2007) showed significant differences among Spanish students attending publicly financed schools. Publicly financed schools include entirely public schools and schools that are privately managed but publicly funded. Families with a lower socioeconomic status may self-select into public schools, so a direct efficiency comparison between the two school types could lead to flawed conclusions because of the possible school selection bias. In this paper, we suggest using a propensity score matching approach in order to correctly analyze the impact of school ownership on student performance. After tackling the self-selection problem, we use a stochastic parametric distance function framework to compare student efficiency and productivity in both school types across ten Spanish regions using PISA 2006 data. Furthermore, we propose two original measures to analyze the impact of school ownership on academic performance across regions: the average treatment effect on the treated on the production frontier and the average treatment effect on the treated assuming school inefficiency. We find that, on average, private government-dependent schools are more productive than public schools, although efficiency results across regions are highly divergent.     

Measuring and forecasting retail trade in real time using card transactional data

We build big data retail trade indicators for Spain using high-dimensional card transaction data from one of the country’s biggest banks. The resulting indicators replicate the dynamics of the Spanish retail trade indices (RTI), regional RTIs (Spain’s autonomous regions), and RTI by retailer type (distribution classes) released by the Spanish National Statistics Institute. The new indicators not only have a higher frequency (daily data) and higher geographical and sectorial breakdown but are also shown to improve nowcasting and forecasting power for the official RTI, making them key variables to monitor consumption.     

NONLINEAR BUSINESS CYCLE MODELLING

Abstract. Literature which employs nonlinearities to explain economic fluctuations, commonly called business cycles, is surveyed. Relaxation of the linearity assumption significantly increases the range of possible dynamic solution paths and introduces the possibility that business cycles are endogenously determined. The dominant post-war modelling strategy has been the Frisch (1933) (and Slutsky, 1937) inspired one of developing essentially (log) linear economic models which produce damped cycles (or monotonic damping) to propagate the energy provided by repeated random (or autocorrelated) shocks. The cycle is exogenously driven, since it would die out in the absence of shocks. Deterministic (nonstochastic) nonlinear models can produce a wide range of endogenous fluctuations, including: stable limit cycles; growth cycles; and chaotic output, which have the appearance of random fluctuations. Further, the same model can produce qualitatively different outputs according to starting and parameter values. If the possibility of shocks to parameters is admitted, then behaviour can change abruptly following shocks. Evidence on the existence of nonlinearities and chaos in macroeconomic time series is assessed and alternative approaches to modelling dynamic economic development, related to the work of Keynes, Marx, Schumpeter and Shackle, are discussed. Their ideas have not proved readily amenable to mathematical modelling, but attempts to encapsulate some of them are reviewed.     

The zero lower bound,the dual mandate,and unconventional dynamics

This paper examines monetary policy when it is constrained by the zero lower bound (ZLB) on the nominal interest rate. Our analysis uses a nonlinear New Keynesian model with technology and discount factor shocks. Specifically, we investigate why technology shocks may have unconventional effects at the ZLB, what factors affect the likelihood of hitting the ZLB, and the implications of alternative monetary policy rules. We initially focus on a New Keynesian model without capital (Model 1) and then study that model with capital (Model 2). The advantage of including capital is that it introduces another mechanism for intertemporal substitution that strengthens the expectational effects of the ZLB. Four main findings emerge: (1) In Model 1, the choice of output target in the Taylor rule may reverse the effects of technology shocks when the ZLB binds; (2) When the central bank targets steady-state output in Model 2, a positive technology shock at the ZLB leads to more pronounced unconventional dynamics than in Model 1; (3) The presence of capital changes the qualitative effects of demand shocks and alters the impact of a monetary policy rule that emphasizes output stability; and (4) In Model 1, the constrained linear solution is a decent approximation of the nonlinear solution, but meaningful differences exist between the solutions in Model 2.     

DISENTANGLING DEMAND AND SUPPLY SHOCKS IN THE CRUDE OIL MARKET: HOW TO CHECK SIGN RESTRICTIONS IN STRUCTURAL VARS

Sign restrictions have become increasingly popular for identifying shocks in structural vector autoregressive (SVAR) models. So far there are no techniques for validating the shocks identified via such restrictions. Although in an ideal setting the sign restrictions specify shocks of interest, sign restrictions may be invalidated by measurement errors, data adjustments or omitted variables. We model changes in the volatility of the shocks via a Markov switching (MS) mechanism and use this device to give the data a chance to object to sign restrictions. The approach is illustrated by considering a small model for the market of crude oil. Earlier findings that oil supply shocks explain only a very small fraction of movements in the price of oil are confirmed and it is found that the importance of aggregate demand shocks for oil price movements has declined since the mid 1980s. Copyright © 2013 John Wiley & Sons, Ltd.     

Separability and Aggregate Shocks in the Life-cycle Model of Consumption: Evidence from Spain

The purpose of this paper is to test the life-cycle permanent income hypothesis using an unbalanced panel from the Spanish family expenditure survey. Our model accounts for aggregate shocks and non-separability in the Euler equation among consumption goods, contrary to most of the literature in this area. Our results do not indicate excess sensitivity of consumption growth to income.     

Thy neighbor’s jobs: geography and labor market dynamics

This paper develops three explanations for the extent of correlation between neighboring geographic areas’ economic outcomes. Export-oriented firms in neighboring counties might independently produce similar goods, or might be linked directly through the production of intermediate inputs. In either case, counties are exposed to similar demand shocks. Finally, regions share markets for goods and services that are both produced and consumed locally. Empirical results suggest that much of the ‘risk’ associated with economic decline in neighboring regions can be attributed to industrial similarity rather than direct dependence of jobs in one area on jobs in another.     

Insuring Banks Against Liquidity Shocks: The Role of Deposit Insurance and Lending of Last Resort

Abstract.  It has long been recognized that banks' simultaneous provision of monitoring and liquidity services is advantageous but leaves them susceptible to liquidity shocks that may culminate in a system failure. Because a system failure is costly, this provides a rationale for adopting arrangements, including a lender of last resort and deposit insurance (DI), to insure banks against liquidity shocks. These arrangements have proven themselves very successful, but they have also been the source of problems. Researchers have identified some of the main sources of these problems and have suggested ways to improve the design of these arrangements, but there are still many issues that remain unaddressed. This paper reviews the literature on the two arrangements that most countries have adopted to insure banks against liquidity shocks, a lender of last resort and DI, and compares the design of these arrangements across countries. The paper ends with a brief summary of the key lessons learned about the design of these arrangements and the issues related to them that remain unaddressed.