Macroeconomic volatility after trade and capital account liberalization

What are the equilibrium effects of trade and capital liberalization on consumption smoothing? This question is addressed by studying the response to productivity shocks in a baseline two country, two goods, incomplete market model, where foreign borrowing is secured by collateral. The paper shows that international financial integration, modeled by relaxing a borrowing constraint a la Kiyotaki in the domestic country, worsens consumption smoothing; international trade integration, modeled by a reduction of non linear iceberg transportation costs, improves it. As a measure of consumption smoothing, the analysis uses the ratio between the simulated standard deviation of consumption growth and the simulated standard deviation of output growth. These results are qualitatively consistent with the empirical evidence provided by Kose, Prasad and Terrones (2003).Emerging Markets,Economic Theory&Research,Free Trade,Debt Markets,Trade Policy

Can Real Exchange Rate Undervaluation Boost Exports and Growth in Developing Countries? Yes, But Not for Long

A policy of managed real undervaluation may have been an important factor behind the success of East Asia’s export-led growth model. But current discussions over the value of China’s currency demonstrate the controversy this kind of policy can generate. Although a managed real undervaluation can enhance domestic competitiveness, it is difficult to sustain—both economically and politically—in the post-crisis environment. We show that a real undervaluation works only for low-income countries, and only in the medium term.exchangte rates, undervaluation, exports, growth, developing countries, China, currency, East Asia, competitiveness, renminbi

Cost efficiency in the euro area banking sector and the negative interest rate environment

This brief shows that euro area banks' cost efficiency, measured by a cost efficiency score inferred from an input-output analysis alongside the ratio of operating expenses over total assets, has improved somewhat in recent years. However, the analysis also indicates that there is still ample scope to achieve further efficiency gains. Banks most affected by the negative interest rate policy (NIRP), i.e. those relying mostly on retail deposits as a source of funding, strategically reacted to the negative effects of NIRP on their net interest margins by improving their cost efficiency. In particular, high-deposit banks that were larger, less profitable, with riskier loan portfolios, weaker pre-NIRP lending growth and that operated in more competitive banking sectors enhanced their cost efficiency more strongly after NIRP than their peers. This helped them to offset the impacts of negative interest rates on their profitability and, thus, supported their solvency and extension of credit. On the other hand, low-deposit banks recorded a decline in their cost efficiency after the introduction of the NIRP. Therefore, going forward, these latter banks will need to invest more effort in improving their efficiency

Making a virtue out of necessity : the effect of negative interest rates on bank cost efficiency

Do negative interest rates affect banks’ cost efficiency? We exploit the unprecedented introduction of negative policy interest rates in the euro area to investigate whether banks make a virtue out of necessity in reacting to negative interest rates by adjusting their cost efficiency. We find that banks most affected by negative interest rates responded by enhancing their cost efficiency. We also show that improvements in cost efficiency are more pronounced for banks that are larger, less profitable, with lower asset quality and that operate in more competitive banking sectors. In addition, we document that enhancements in cost efficiency are statistically significant only when breaching the zero lower bound (ZLB), indicating that the pass-through of interest rates to cost efficiency is not effective when policy rates are positive. These findings hold important policy implications as they provide evidence on a beneficial second-order effect of negative interest rates on bank efficiency

Three essays in international macroeconomics

Defence Date: 17/12/2010Examination Board: Prof. Giancarlo Corsetti, EUI and University of Cambridge, Supervisor Prof. Harris Dellas, University of Bern Dr. Marcel Fratzscher, European Central Bank Prof. Helmut Luetkepohl, EUIThis thesis focuses on three macroeconomic issues in the process of cross-border integration in real and financial markets. The first chapter develops an asymmetric two-country international real business cycle model to analyze the effects of trade and capital liberalization on macroeconomic volatility in emerging markets. In this framework, agents in the emerging market are subject to a constraint a la Kiyotaki on foreign borrowing and the international trade of intermediate inputs is subject to quadratic iceberg costs. The model shows, that in emerging economies, in response to a productivity shock, capital liberalization leads to a worsening of consumption smoothing whereas trade liberalization to an improvement of consumption smoothing. These results are consistent with the empirical evidence provided by Kose, Prasad and Terrones (2003). Then, the second chapter examines the dynamics, the predictors and the costs of current account reversals across diverse de-facto exchange rate regimes in a sample of industrialized economies over the period 1970-2007. This analysis shows that the average patterns of the main macroeconomic variables during the adjustment episodes are not dissimilar across exchange rate systems. Instead, the triggers of current account reversals change across different exchange arrangements. Moreover, this study provides evidence that, against the traditional wisdom, a current account adjustment has a more negative effect on real GDP growth under a more flexible exchange rate regime than under a fixed exchange rate regime. Finally, the third chapter studies the international transmission mechanism of a tradable productivity shock in a two-country two-sector international real business cycle model. In particular, it identifies the conditions under which the predictions of the Balassa-Samuelson theorem hold in a theoretical framework where the real exchange rate is driven both by the movements of the terms of trade and by the deviations of the relative price of non-tradable goods across countries. The model shows that a productivity innovation to the domestic tradable sector always leads to an increase in the relative price of non-tradable goods while the effect on the real exchange rate largely depends on the model parameterization.-- Macroeconomic volatility after trade and capital account liberalization -- Current account adjustments in industrial countries : does the exchange rate regime matter? -- THE Balassa-Samuelson and the Penn effect : are they really the same

A stochastic forward-looking model to assess the profitability and solvency of european insurers

In this paper, we develop an analytical framework for conducting forward-looking assessments of profitability and solvency of the main euro area insurance sectors. We model the balance sheet of an insurance company encompassing both life and non-life business and we calibrate it using country level data to make it representative of the major euro area insurance markets. Then, we project this representative balance sheet forward under stochastic capital markets, stochastic mortality developments and stochastic claims. The model highlights the potential threats to insurers solvency and profitability stemming from a sustained period of low interest rates particularly in those markets which are largely exposed to reinvestment risks due to the relatively high guarantees and generous profit participation schemes. The model also proves how the resilience of insurers to adverse financial developments heavily depends on the diversification of their business mix. Finally, the model identifies potential negative spillovers between life and non-life business thorugh the redistribution of capital within groups

The disciplining effect of supervisory scrutiny in the EU-wide stress test

Since the financial crisis, stress tests have become an important supervisory and financial stability tool. Relying on confidential data available at the ECB, this column presents novel evidence that supervisory scrutiny associated with stress testing has a disciplining effect on bank risk. Banks that participated in the 2016 EU-wide stress test subsequently reduced their credit risk relative to banks that were not part of this exercise. Relying on new metrics for supervisory scrutiny, it also shows that the disciplining effect is stronger for banks subject to more intrusive supervisory scrutiny during the stress test