Business cycles: a role for imperfect competition in the banking system

This paper studies the cyclical pattern of ex post markups in the banking system using balance-sheet data for a large set of countries. Markups are strongly countercyclical even after controlling for financial development, banking concentration, operational costs, inflation, and simultaneity or reverse causation. The countercyclical pattern is explained by the procyclical entry of foreign banks, which occurs mostly at the wholesale level and signals the intention to spread to the retail level. My hypothesis is that wholesale entry triggers incumbents' limit-pricing strategies, which are aimed at deterring entry into retail niches and which, in turn, dampen bank markups. In the second part of the paper, I develop a general equilibrium model that accounts for these features of the data. I find that this monopolistic behavior in the intermediary financial sector increases the volatility of real variables and amplifies the business cycle. I interpret this bank-supply channel as an extension of the credit channel pioneered by Bernanke and Blinder (1988).

Business cycles and monetary regimes in emerging economies: a role for a monopolistic banking sector

Starting from a variant of the New Keynesian model for a small open economy, I extend the standard credit channel framework to show that the presence of imperfect competition in the banking system propagates external shocks and amplifies the business cycle. This novel modeling of the banking system captures various well-documented facts in developing economies. I show that strategic limit pricing, aimed at protecting retail niches from potential competitors, generates countercyclical bank markups. Markup increments, as a consequence of sudden capital outflows, end up increasing borrowing costs for firms as well as damaging the financial position of firms’ balance sheets. The recognition of monopoly power in banking allows the model to account for the relatively high investment volatility registered in emerging countries, even in the presence of debt that is fully denominated in local currency and flexible exchange rates.

Microentrepreneurship and the business cycle: is self-employment a desired outcome?

Should a central bank accommodate energy price shocks? Should the central bank use core inflation or headline inflation with the volatile energy component in its Taylor rule? To answer these questions, we build a dynamic stochastic general equilibrium model with energy use, durable goods, and nominal rigidities to study the effects of an energy price shock and its impact on the macroeconomy when the central bank follows a Taylor rule. We then study how the economy performs under alternative parameterizations of the rule with different weights on headline and core inflation after an increase in the energy price. Our simulation results indicate that a central bank using core inflation in its Taylor rule does better than one using headline inflation because the output drop is less severe. In general, we show that the lower the weight on energy price inflation in the Taylor rule, the impact of an energy price increase on gross domestic product and inflation is also lower.

Remittances, exchange rate regimes, and the Dutch disease: a panel data analysis

Using disaggregated sectorial data, this study shows that rising levels of remittances have spending effects that lead to real exchange rate appreciation and resource movement effects that favor the nontradable sector at the expense of tradable goods production. These characteristics are two aspects of the phenomenon known as Dutch disease. The results further indicate that these effects operate more strongly under fixed nominal exchange rate regimes.Emigrant remittances ; Foreign exchange rates

Financial development, remittances, and real exchange rate appreciation

For developing countries, remittances are an important and expanding source of capital, equivalent to two-thirds of overall foreign direct investment and nearly 2 percent of gross domestic product. ; This article examines the relationship between remittance inflows, financial sector development, and the real exchange rate. The authors test whether financial sector development can prevent appreciation of the real exchange rate. In particular, they show that well-developed financial sectors can more effectively channel remittances into investment opportunities. ; Using panel data for 109 developing and transition countries for 1990–2003, the authors find that remittances by themselves tend to put upward pressure on the real exchange rate. But this effect is weaker in countries with deeper and more sophisticated financial markets, which seem to retain trade competitiveness.Emigrant remittances ; Foreign exchange rates

Business cycles : a role for imperfect competition in the banking system

Thesis advisor: Fabio GhironiThesis advisor: Peter N. IrelandThesis advisor: Fabio SchiarrtarelliMy doctoral dissertation studies the effects of countercyclical bank markups on macroeconomic performance. The countercyclical pattern of bank markups constitutes a bank-supply channel that extends the credit channel to reinforce the same vicious circle: Credit is more expensive during recessions, so that firms and households postpone investment and work decisions, thereby deepening the recmsion. In the first chapter, I construct a bank balancesheet data set across I24 countries for 1991-2000. I show that ex-post bank markups are strongly countercyclical, even after controlling for financial development, bank concentration, operational costs, inflation, and reverse causation. The countercyclical pattern is explained by the highly procyclical entry of foreign banks that occurs mostly at the wholesale level, and signals the intention to spread to the retail level. My hypothesis is that wholesale entry triggers incumbents'limit-pricing strategies aimed at deterring entry in retail niches that in turn reduce bank markups. In the second chapter, I develop a DSGE setup in which the modeling of the banking system captures several of the features of the data. I find that market power in the fina.ncial system increases the volatility of all real variables, amplifies the business cycle, and reduces welfare. In the third chapter, I use a riariant of the New Keynesia,n model for a SOE and add the bank-supply ctrannel to the standard balancesheet channel, which links the condition of the borrower balance sheets to the default risk and the external finance premium. I show that bank markup increments, as a consequence of sudden capital outflows, end up increasing borrowing costs for firms, as well as damaging the financial position of firms. The bank-supply channel helps to explain the relatively large investment volatility typically exrperienced in emerging economies. These conclusions are robust to different monetary regimes. Results hold even with floating exchange rates, slow passthrough, and liabilities fully denominated in local currency.Thesis (PhD) — Boston College, 2006.Submitted to: Boston College. Graduate School of Arts and Sciences.Discipline: Economics

Estimating general equilibrium models: an application with labour market frictions

This handbook shows how to set up, approximate, and estimate a standard real business cycle model enriched with labour market frictions. The structural equations of the model are derived by maximizing the agents’ objective function subject to the structure of the economy. Given the complexity of the resulting equations, we show how to approximate the model around its long-run equilibrium. We then use the approximated equations to take the model to the data and estimate it using Bayesian techniques. To perform the analysis we use a simple real business cycle model for two reasons. First, due to its simplicity, we can primarily focus on the modelling and estimation techniques; second, this simple framework constitutes the backbone model on which central banks build microfounded models to support the policy analysis. A series of forthcoming Handbooks will document how to enrich this simple framework. To motivate the exercise we start from recent empirical evidence suggesting that a positive technology shock leads to a decline in labour inputs. The standard real business model fails to account for this empirical regularity. The question we analyze in this handbook is whether the presence of labour market frictions addresses this problem, without otherwise altering the functioning of the standard model. To this end, we develop and estimate a real business cycle model using Bayesian techniques that allows, but does not require, labour market frictions to generate a negative response of employment to a technology shock. The results of the estimation support the hypothesis that labour market frictions are the factor responsible for the negative response of employment. Given the pedagogical nature of this handbook, we provide documentation of the MATLAB codes used to implement the modelling and estimation techniques described. To make the programming simple, we used Dynare version 3. We thank Michel Juillard for making his routines publicly available.Estimating;general; equilibrium; models;application;labour; market; frictions

Investment-specific technology shocks and international business cycles: an empirical assessment

In this paper, we first introduce investment-specific technology (IST) shocks into an otherwise standard international real business cycle model and show that a thoughtful calibration of them along the lines of Raffo (2009) successfully addresses several of the existing puzzles in the literature. In particular, we obtain a negative correlation of relative consumption and the terms of trade (Backus-Smith puzzle), as well as a more volatile real exchange rate, and cross-country output correlations that are higher than consumption correlations (price and quantity puzzles). Then we use data from the Organisation for Economic Co-operation and Development for the relative price of investment to build and estimate these IST processes across the United States and a "rest of the world" aggregate, showing that they are cointegrated and well represented by a vector error–correction model. Finally, we demonstrate that, when we fit such estimated IST processes into the model, the shocks are actually powerless to explain any of the existing puzzles.