Spanish monetary policy: A structural VAR analysis

Some past studies analyzed Spanish monetary policy with the standard VAR. Their problem is that this method obliges researchers to impose a certain extreme form of the short run policy rule on their models. Hence, it does not allow researchers to study the possibility of structural changes in this rule, either. This paper overcomes these problems by using the structural VAR. I find that the rule has always been that of partial accommodation. Prior to 1984, it was quite close to money targeting. After 1984, it became closer to the interest rate targeting, with more emphasis on the exchange rate.

Adoption of financial technologies: Implications for money demand and monetary policy

In this paper we argue that inventory models are probably not usefulmodels of household money demand because the majority of households does nothold any interest bearing assets. The relevant decision for most people is notthe fraction of assets to be held in interest bearing form, but whether to holdany of such assets at all. The implications of this realization are interesting and important. We find that(a) the elasticity of money demand is very small when the interest rate is small,(b) the probability that a household holds any amount of interest bearing assetsis positively related to the level of financial assets, and (c) the cost ofadopting financial technologies is positively related to age and negatively relatedto the level of education. Unlike the traditional methods of money demand estimation, our methodology allowsfor the estimation of the interest--elasticity at low values of the nominalinterest rate. The finding that the elasticity is very small for interest ratesbelow 5 percent suggests that the welfare costs of inflation are small. At interest rates of 6 percent, the elasticity is close to 0.5. We find thatroughly one half of this elasticity can be attributed to the Baumol--Tobin orintensive margin and half of it can be attributed to the new adopters or extensivemargin. The intensive margin is less important at lower interest rates and moreimportant at higher interest rates.

Monetary policy misspecification in VAR models

We examine the effects of extracting monetary policy disturbances with semi-structural and structural VARs, using data generated bya limited participation model under partial accommodative and feedback rules. We find that, in general, misspecification is substantial: short run coefficients often have wrong signs; impulse responses and variance decompositions give misleadingrepresentations of the dynamics. Explanations for the results and suggestions for macroeconomic practice are provided.

Asymmetric effects of monetary policy in the US: Positive vs. negative or big vs. small?

This paper reconsiders the empirical evidence on the asymmetricoutput effects of monetary policy. Asymmetric effects is a common feature ofmany theoretical models, and there are many different versions of suchasymmetries. We concentrate on the distinctions between positive andnegative money-supply changes, big and small changes in money-supply, andpossible combinations of the two asymmetries. Earlier research has foundempirical evidence in favor of the former of these in US data. Using M1 asthe monetary variable we find evidence in favor of neutrality of big shocksand non-neutrality of small shocks. The results may, however, be affected bystructual instability of M1 demand. Thus, we substitute M1 with the federalfunds rate. In these data we find that only small negative shocks affectreal aggregate activity. The results are interpreted in terms of menu-costmodels.

Labor markets and monetary policy: A new-Keynesian model with unemployement

We construct a utility-based model of fluctuations, with nominal rigidities andunemployment, and draw its implications for the unemployment-inflation trade-off and for the conduct of monetary policy.We proceed in two steps. We first leave nominal rigidities aside. We show that,under a standard utility specification, productivity shocks have no effect onunemployment in the constrained efficient allocation. We then focus on theimplications of alternative real wage setting mechanisms for fluctuations in un-employment. We show the role of labor market frictions and real wage rigiditiesin determining the effects of productivity shocks on unemployment.We then introduce nominal rigidities in the form of staggered price setting byfirms. We derive the relation between inflation and unemployment and discusshow it is influenced by the presence of labor market frictions and real wagerigidities. We show the nature of the tradeoff between inflation and unemployment stabilization, and its dependence on labor market characteristics. We draw the implications for optimal monetary policy.

Structural changes in the US economy: is there a role for monetary policy?

This paper investigates the contribution of monetary policy to the changes in outputgrowth and inflation dynamics in the US. We identify a policy shock and a policy rule ina time-varying coefficients VAR using robust sign restrictions. The transmission of policyshocks has been relatively stable. The variance of the policy shock has decreased over time,but policy shocks account for a small fraction of the level and of the variations in inflationand output growth volatility and persistence. We find little evidence of a significant increasein the long run response of the interest rate to inflation. A more aggressive inflation policyin the 1970s would have produced large output growth costs.

The role of interbank markets in monetary policy: A model with rationing

This paper analyses the impact of asymmetric information in the interbankmarket and establishes its crucial role in the microfoundations of the monetarypolicy transmission mechanism. We show that interbank market imperfectionsinduce an equilibrium with rationing in the credit market. This has two majorimplications: first, it reconciles the irresponsiveness of business investment to theuser cost of capital with the large impact of monetary policy (magnitude effect)and, second, it shows that banks liquidity positions condition their reaction tomonetary policy (Kashyap and Stein liquidity effect).

Monetary policy in a systemic crisis

This paper examines the monetary policy followed during the current financial crisisfrom the perspective of the theory of the lender of last resort. It is argued that standardmonetary policy measures would have failed because the channels through whichmonetary policy is implemented depend upon the well functioning of the interbankmarket. As the crisis developed, liquidity vanished and the interbank market collapsed,central banks had to inject much more liquidity at low interest rates than predicted bystandard monetary policy models. At the same time, as the interbank market did notallow for the redistribution of liquidity among banks, central banks had to design newchannels for liquidity injection.

Optimal monetary and fiscal policy in a currency union

We lay out a tractable model for fiscal and monetary policy analysis in a currency union, and study its implications for the optimal design of such policies. Monetary policy is conducted by a common central bank, which sets the interest rate for the union as a whole. Fiscal policy is implemented at the countrylevel, through the choice of government spending. The model incorporates country-specific shocks and nominal rigidities. Under our assumptions, the optimal cooperative policy arrangement requires that inflation be stabilized at the union level by the common central bank, while fiscal policy is used by each country for stabilization purposes. By contrast, when the fiscal authorities act in a non-coordinated way, their joint actions lead to a suboptimal outcome, and make the common central bank face a trade-off between inflation and output gap stabilization at the union level.

Corporate finance and the monetary transmission mechanism

This paper analyzes the transmission mechanisms of monetarypolicy in a general equilibrium model of securities marketsand banking with asymmetric information. Banks' optimal asset/liability policy is such that in equilibrium capital adequacy constraints are always binding. Asymmetric information about banks' net worth adds a cost to outside equity capital, which limits the extent to which banks can relax their capital constraint. In this context monetarypolicy does not affect bank lending through changes in bank liquidity. Rather, it has the effect of changing theaggregate composition of financing by firms. The model also produces multiple equilibria, one of which displays all the features of a "credit crunch". Thus, monetary policy can also have large effects when it induces a shift from one equilibrium to the other.

Monetary policy shocks and transmission in Italy: A VAR analysis

This paper provides updated empirical evidence about the real and nominal effects of monetary policy in Italy, by using structural VAR analysis. We discuss different empirical approaches that have been used in order to identify monetary policy exogenous shocks. We argue that the data support the view that the Bank of Italy, at least in the recent past, has been targeting the rate on overnight interbank loans. Therefore, we interpret shocks to the overnight rate as purely exogenous monetary policy shocks and study how different macroeconomic variables react to such shocks.

Monetary policy in the Euro area: Lessons from 5 years of ECB and implications for Turkey

We examine monetary policy in the Euro area from both theoretical and empirical perspectives. We discuss what theory tells us the strategy of Central banks should be and contrasts it with the one employed by the ECB. We review accomplishments (and failures) of monetary policy in the Euro area and suggest changes that would increase the correlation between words and actions; streamline the understanding that markets have of the policy process; and anchor expectation formation more strongly. We examine the transmission of monetary policy shocks in the Euro area and in some potential member countries and try to infer the likely effects occurring when Turkey joins the EU first and the Euro area later. Much of the analysis here warns against having too high expectations of the economic gains that membership to the EU and Euro club will produce.

Monetary policy and exchange rate volatility in a small open economy

We lay out a small open economy version of the Calvo sticky price model, and show how the equilibrium dynamics can be reduced to simple representation in domestic inflation and the output gap. We use the resulting framework to analyze the macroeconomic implications of three alternative rule-based policy regimes for the small open economy: domestic inflation and CPI-based Taylor rules, and an exchange rate peg. We show that a key difference amongthese regimes lies in the relative amount of exchange rate volatility that they entail. We also discuss a special case for which domestic inflation targeting constitutes the optimal policy, and where a simple second order approximation to the utility of the representative consumer can be derived and used to evaluate the welfare losses associated with the suboptimal rules.

Should banking supervision and monetary policy tasks be given to different agencies?

This paper adds some new arguments to the thesis that the responsibility forbanking supervision should be assigned to an agency formally separated bythe Central bank. We also provide some additional evidence on the macroand microeconomic performance of OECD countries whose banking systems areclassified according to the regulatory regime in place. We find that theinflation rate is considerably higher and more volatile in countries wherethe Central bank acts as a monopolist in banking supervision. Besides,although banks seem to be more profitable when Central banks supervise them,they incur into higher costs and rely more on deposits with respect to moresophisticated liabilities as a funding source.The data are not definitively in favor of functional separation. However, we argue that the evolution of financial intermediaries, moral hazard problems and especially cost accountability seem to suggest that separation would be a better solution for industrialized countries.We also critically discuss the current arrangement of financial regulationand supervision in the EMU: our proposal is to establish an independentEuropean System of Financial Supervisors (ESFS) structured similarly to theESCB.