Optimal central bank design: benchmarks for the ECB

The paper discusses key elements of optimal central bank design and applies its findings to the Eurosystem. A particular focus is on the size of monetary policy committees, the degree of centralization, and the representation of relative economic size in the voting rights of regional (or sectoral) interests. Broad benchmarks for the optimal design of monetary policy committees are derived, combining relevant theoretical arguments with available empirical evidence. A new indicator compares the mismatch of relative regional economic size and voting rights in the monetary policy committees of the US Fed, the pre-1999 German Bundesbank, and the ECB over time. Based on these benchmarks, there seems to be room to improve the organization of the ECB Governing Board and current plans for reform. --Central bank design,federal central banks,ECB, Eurosystem,ECB reform

Does global liquidity matter for monetary policy in the Euro area?

Global excess liquidity roaming the world’s financial markets (or its sudden absence) is sometimes believed to limit sovereign monetary policy even in large economies such as the euro area. However, there is still discussion about what constitutes global excess liquidity and how exactly it shapes the policy environment. Our approach adjusts liquidity for longerterm interest rate and output effects and focuses on U.S. and Japanese liquidity as relevant proxies for global developments from a euro area perspective. We find that both excess liquidity in Japan and, in particular, the U.S. tend to lead developments in euro area liquidity. U.S. excess liquidity also enters consistently positive as a determinant of euro area inflation and is shown to be Granger-causal for euro area inflation in an out-of-sample forecasting exercise. In part, this result seems to be related to a weakening of the euro area interest rate channel during times of excessive U.S. liquidity. In contrast, the influence of Japanese and euro area excess liquidity on euro area inflation is more limited. --Global excess liquidity,euro area,inflation,monetary policy,interest rate channel,forecasting accuracy.

Gotcha! A Profile of Smuggling in International Trade

This paper explores official trade data to identify patterns of smuggling in international trade. Our main measure of interest is the difference in matched partner trade statistics, i.e., the extent to which the recorded export value in the source country deviates from the reportedimport value in the destination country. Analyzing 4-digit product level data for the world’s five largest importers for the period from 2002-2006, we find that the reporting gaps are highly correlated with the level of corruption in both partner countries. This finding supports the hypothesis that trade gaps partly represent smuggling activities.corruption, illicit, illegal, trade, statistics, tariffs

The Employment Effects of Labor and Product Markets Deregulation and their Implications for Structural Reform

This study explores the effects of labor and product market deregulation on employment growth. Our empirical results, based on an OECD country panel from 1990-2004, suggest that lower levels of product and labor market regulation foster employment growth, including through sizable interaction effects. Based on these findings, the paper develops a theoretical framework for evaluating deregulation strategies in the presence of reform costs. Optimal deregulation takes various forms depending on the deregulation costs and the strength of reform interactions. Compared to the first best, decentralized decision-making based on a partial market-by-market perspective can lead to excessive or insufficient regulation, depending on the design of the decision process. Securing the first best requires not only coordinating deregulation activities across sectors but also overcoming the partial perspective of decision makers.product market regulation, labor market regulation, employment growth, policy coordination, sequencing

How should large and small countries be represented in a currency union?

The likely extension of the euro area has triggered a debate on the organization of the ECB, in particular on the apparent mismatch between relative economic size and voting rights in the Council. We present a simple model of optimal representation in a federal central bank addressing this question. Optimal voting weights reflect two opposing forces: the wish to insulate common monetary policy from changing preferences at the national level, and the attempt to avoid an overly active or passive reaction to idiosyncratic national economic shocks. A perfect match between economic size and voting rights is rarely optimal, and neither is the one country, one vote principle. Empirically, there are indications that the pattern of over- and under-representation of member countries in the ECB Council might be extreme by the standards of the US Fed and German Bundesbank and not always optimal. --Central Bank,Federal Central Bank,currency union,optimal representation,voting,ECB

Factor Price Equalization? The Cointegration Approach Revisited

Factor price equality across countries is an important implication of the Heckscher-Ohlin-Samuelson model of international trade. Although an influential theoretical result, the model has received surprisingly little empirical support. Burgman and Geppert (1993) argue that this might be due to the neglect of the non- stationarity property of the time series under consideration. Using a cointegration approach, they find strong evidence pointing towards a long-run relationship between factor prices in six major industrialized countries. The present paper shows, however, that there is only limited evidence of cointegration once the finite sample bias is taken into account. Moreover, there is only weak evidence of a significant cointegrating relationship when real (rather than nominal) labor cost data are used. There is some indication of long-run co-movements of real factor prices when using the statistically more powerful bivariate tests rather than a multivariate framework.

The employment effects of labor and product markets deregulations and their implications for structural reform

This study explores the effects of market deregulation on employment growth. Empirical analysis of an OECD country panel (1990-2004) suggests that lower levels of product and labor market regulation foster employment growth, including through sizable interaction effects. A theoretical framework is developed for evaluating deregulation strategies in the presence of reform costs. Optimal deregulation takes various forms depending on the deregulation costs and the strength of reform interactions. Compared to the first best, decentralized decision-making can lead to excessive or insufficient deregulation. Securing the first best requires coordinating deregulation activities across sectors and overcoming the partial perspective of decision makers. --Product market regulation,labor market regulation,employment growth,policy coordination,sequencing

What determines fiscal policy? Evidence from German states

This paper explores the factors behind the time path of real spending and revenue in the West German states from 1975 to 2004. The empirical approach stresses robustness and takes into account a large set of economic and political variables. Our results suggest that common economic factors and, to a smaller degree, state-specific economic developments are important determinants of state fiscal performance. In comparison, the influence of political factors is limited both in statistical and quantitative terms. Finally, there is evidence that addressing governance problems and ensuring flexibility in terms of fiscal strategy are important ingredients for any policy aimed at improving fiscal outcomes at the state level. --German Länder,fiscal policy,public spending,public debt,extreme bounds analysis,governance.

One country, one vote? Labor market structure and voting rights in the ECB

The pending enlargement of the European Monetary Union (EMU) has brought to the fore the discussion of the voting right distribution in the European Central Bank (ECB) council. We show that, in a model where labor unions internalize the inflationary consequences of wage setting, deviating from a voting scheme based purely on economic size can be beneficial. Preliminary evidence on unemployment and voting rights in the ECB council seems broadly in line with this idea. We also point to possible policy implications for EMU enlargement and ECB restructuring. --monetary policy,wage setting,European Monetary Union,European Central Bank,euro area,ECB reform,EMU enlargement,accession countries

How Should Large and Small Countries Be Represented in a Currency Union?

The likely extension of the euro area has triggered a debate on the organization of the ECB, in particular on the apparent mismatch between relative economic size and voting rights in the Council. We present a simple model of optimal representation in a federal central bank addressing this question. Optimal voting weights reflect two opposing forces: the wish to insulate common monetary policy from changing preferences at the national level, and the attempt to avoid an overly active or passive reaction to idiosyncratic national economic shocks. A perfect match between economic size and voting rights is rarely optimal, and neither is the “one country, one vote principle”. Empirically, there are indications that the pattern of over- and under-representation of member countries in the ECB Council might be extreme by the standards of the US Fed and German Bundesbank and not always optimal.Central Bank, Federal Central Bank, Currency Union, optimal representation, voting, ECB