Macroprudential Policy under Incomplete Information

In this paper, we use a DSGE model to study the passive and time-varying implementation of macroprudential policy when policy-makers have noisy and lagged data. The model features an economy with two agents; households and entrepreneurs. Entrepreneurs are the borrowers in this economy and need capital as collateral to obtain loans. The macroprudential regulator uses the collateral requirement as the policy instrument. In this setup , we compare policy performances of permanently increasing the collateral requirement (passive policy) versus a time-varying (active) policy which responds to credit developments. Results show that with perfect and timely information, an active approach is welfare superior, since it is more e¤ective in providing …nancial stability with no long-run output cost. If the policy-maker is not able to observe the economic conditions perfectly or observe with a lag, a cautious (less aggressive) policy or even a passive approach may be preferred. However, the latter comes at the expense of increasing inequality and a long-run output cost, which could outweigh their macroeconomic and …nancial stability bene…ts

Capital Flows and Financial Stability

The resumption of capital flows to emerging market economies since mid 2009 has posed two sets of interrelated challenges for policymakers: (i) to prevent capital flows from exacerbating overheating pressures and consequent inflation, and (ii) to minimize the risk that prolonged periods of easy financing conditions will undermine financial stability. While conventional monetary policy maintains its role in counteracting the former, there are doubts that it is sufficient to guard against the risks of financial instability. In this context, there have been increased calls for the development of macroprudential measures, with an explicit focus on systemwide financial risks. Against this background, this paper analyses the interplay between monetary policy and macroprudential regulations in an open economy DSGE model with nominal and real frictions. The key result is that macroprudential measures can usefully complement monetary policy. Even under the "optimal policy," which calls for a rather aggressive monetary policy reaction to inflation, introducing macroprudential measures is found to be welfare improving. Broad macroprudential measures are shown to be more effective than those that discriminate against foreign liabilities (prudential capital controls). However, these measures are not a substitute for an appropriate moneraty policy reaction. Moreover, macroprudential measures are less useful in helping economic stability under a technology shock.Capital controls;Capital inflows;Emerging markets;Capital flows;Monetary policy;Capital goods;Corporate sector;Economic models;Financial stability;inflation, foreign currency, capital inflow, domestic borrowing, macroeconomic stability, capital stock, price elasticity, nominal interest rate, capital mobility, price level, consumer price index, inflation targeting framework, inflation targeting, aggregate demand, capital depreciation, relative price, credit expansion

Inflation Dynamics in Asia

The perception that Asia''s inflation dynamics is driven by idiosyncratic supply shocks implies, as a corollary, that there is little scope for a policy reaction to a build-up of inflationary pressures. However, Asia''s fast growth and integration over the last two decades suggest that the drivers of inflation may have changed, and that domestic demand pressures may now play a larger role than in the past. This paper presents a quantitative analysis of inflation dynamics in Asia using a Global VAR (GVAR) model, which explicitly incorporates the role of regional and global spillovers in driving Asia''s inflation. Our results suggest that over the past two decades the main drivers of inflation in Asia have been monetary and supply shocks, but also that, in recent years, the contribution of these shocks has fallen, whereas demand-side pressures have started to emerge as an important contributor to inflation in Asia.Asia;Commodity prices;Economic models;Spillovers;inflation, monetary policy, inflation dynamics, money supply, monetary shocks, price inflation, increase in inflation, inflationary pressures, changes in prices, monetary objectives, monetary fund, aggregate demand, effective exchange rates, inflationary shock, monetary frameworks, monetary authority, inflationary impact, terms of trade, price level, rising inflation, nominal interest rates, hong kong monetary authority, monetary conditions, inflation process

The effectiveness of monetary policy transmission under capital inflows: Evidence from Asia

The effectiveness of the monetary policy transmission mechanism in open economies could be impaired if interest rates are driven primarily by global factors, especially during periods of large capital inflows. The main objective of this paper is to assess whether this is true for emerging Asia's economies. Using a dynamic factor model and a structural vector autoregression model, we show that long-term interest rates in Asia are indeed predominantly driven by global factors. However, monetary policy transmission mechanism remains effective in the region, as it operates predominantly through short-term interest rates. Nevertheless, the monetary transmission mechanism, though effective, is somewhat weaker in Asia during the periods of surges in capital inflows

On the Optimal Adherence to Money Targets in a New-Keynesian Framework

Many low-income countries continue to describe their monetary policy framework in terms of targets on monetary aggregates. This contrasts with most modern discussions of monetary policy, and with most practice. We extend the new-Keynesian model to provide a role for “M†in the conduct of monetary policy, and examine the conditions under which some adherence to money targets is optimal. In the spirit of Poole (1970), this role is based on the incompleteness of information available to the central bank, a pervasive issues in these countries. Ex-ante announcements/forecasts for money growth are consistent with a Taylor rule for the relevant short-term interest rate. Ex-post, the policy maker must choose his relative adherence to interest rate and money growth targets. Drawing on the method in Svensson and Woodford (2004), we show that the optimal adherence to ex-ante targets is equivalent to a signal extraction problem where the central bank uses the money market information to update its estimate of the state of the economy. We estimate the model, using Bayesian methods, for Tanzania, Uganda (both de jure money targeters), and Ghana (a de jure inflation targeter), and compare the de facto adherence to targets with the optimal use of money market information in each country.Central bank policy;Economic models;Low-income developing countries;Monetary aggregates;monetary policy, inflation, central bank, money demand, money growth, money market, monetary economics, monetary aggregate, real interest rate, money balances, real money, inflation targeting, optimal monetary policy, nominal interest rate, aggregate demand, money supply, monetary transmission, monetary transmission mechanism, price level, monetary fund, monetary authorities, monetary policy framework, inflationary pressures, monetary policy instruments, rational expectations, high inflation, nominal interest rates, low inflation, quantity theory, monetary policy rule, neutrality of money, monetary policy transmission mechanism, demand for money, monetary policy reaction function, macroeconomic stability, monetary policy strategy, monetary policy rules, lower inflation, real output, monetary union, monetary targeting, monetary theory, real interest rates, increase in interest rates, inflation targeting regime

On the Sources of Oil Price Fluctuations

Analyzing macroeconomic impacts of oil price changes requires first to investigate different sources of these changes and their distinct effects. Kilian (2009) analyzes the effects of an oil supply shock, an aggregate demand shock, and a precautionary oil demand shock. The paper''s aim is to model macroeconomic consequences of these shocks within a new Keynesian DSGE framework. It models a small open economy and the rest of the world together to discover both accompanying effects of oil price changes and their international transmission mechanisms. Our results indicate that different sources of oil price fluctuations bring remarkably diverse outcomes for both economies.Oil prices;Oil production;Demand;Supply;External shocks;Price increases;Fiscal policy;Monetary policy;Inflation targeting;Productivity;Economic models;oil supply, oil demand, oil market, aggregate demand, market equilibrium, open economy, oil price fluctuations, higher oil prices, oil price changes, oil shock, elasticity of substitution, import demand, output growth, oil reserves, closed economy, world economy, oil shocks, political economy, world output, domestic goods, open economies, imported goods, oil-producing countries, nominal interest rate, trade channels, domestic prices, global shocks, crude oil, production level, import prices, crude oil market, imperfect competition, domestic economy, global markets, economic studies, opec countries, terms of trade, closed economies, world oil prices, economic perspectives

A Quantitative Assessment of Financial Conditions in Asia

We propose a new Financial Condition Index (FCI) for Asian economies based on two different methodologies: a VAR model and a Dynamic Factor Model. The paper shows that this index has predictive power in forecasting GDP growth and may be thus used as a leading indicator. Based on the FCI, financial conditions in Asia tightened substantially earlier in the global crisis, reflecting losses in the stock markets and tighter credit conditions. In early 2010, financial conditions in Asia recovered rapidly and reached precrisis levels, thanks to accommodative monetary policies and a rapid rebound in regional equity markets.Asia;Economic growth;Economic conditions;Financial sector;Forecasting models;Global Financial Crisis 2008-2009;Gross domestic product;exchange rate, stock market, effective exchange rate, nominal effective exchange rate, bond, stock price index, equity markets, stock price, government bond, bond yield, government bond yield, stock prices, exchange rates, deposit rate, stock market indices, treasury bond, rediscount, nominal effective exchange rate index, discount rate, foreign exchange rate, real exchange rate, financial markets, bonds, real exchange rates, treasury bond yields, benchmark government bond, international financial statistics, foreign exchange, rediscount rate, exchange rate depreciation, equity market, stock markets, bond yields, asset markets, exchange rate index