Credit Constraints and Macroeconomic Instability in a Small Open Economy

This paper presents a dynamic model for a small open economy with imperfect financial market. It provides a framework to analyze the role of credit constraints and debt denomination in the generation and amplification of macroeconomic instability in an open economy context. As in Bernanke and Gertler (1989), the imperfection in the financial market results from the existence of a costly state of verification (CSV) problem. Entrepreneurs whose net worth is not enough to finance their desired physical investment have to pay a premium above the risk-free interest rate to obtain external funds. Other key ingredients of the model are that a foreign good is used as an input in the production of the capital good, and that the debt is denominated in terms of the foreign good. Real exchange rate depreciations generate an increase in the cost of producing capital and a reduction in the net worth of entrepreneurs due to the debt denomination. Therefore, recessionary effects can be deepenedExchange rates, credit constraints, open economy.

The Impact of Uncertainty Shocks in Emerging Economies

A recent strand of research proposes that sudden jumps in uncertainty generate rapid drops and recoveries in real macroeconomic variables that drive the business cycle. Using an empirical model, we find substantial heterogeneity in the reactions to these shocks across countries. In comparison to the U.S. and other developed countries, emerging economies suffer much more severe falls in investment and private consumption following an exogenous uncertainty shock, take significantly longer to recover, and do not experience a subsequent overshoot in activity. We provide evidence that the dynamics of investment and consumption are correlated with the depth of financial markets. Once we control for the potential role of credit constraints, we find that investment and consumption dynamics in emerging economies are similar to those in developed economies. In this context, monetary and fiscal policy actions that alleviate the impact of credit constraints facing firms and households may reduce the impact of uncertainty shocks in these economies.

Non-Ricardian Aspects of Fiscal Policy in Chile

This paper examines non-Ricardian effects of government spending shocks in the Chilean economy. We first provide evidence on those effects based on vector autoregressions. We then show that such evidence can be accounted for by a model that features: (i) a sizeable share of non-Ricardian households (i.e. households which do not make use of financial markets and just consume their current labor income); (ii) nominal price and wage rigidities; (iii) an inflation targeting scheme, and (iv) a structural balance fiscal rule that represents the particular Chilean fiscal rule. The model is estimated employing Bayesian techniques. Finally, we use model simulations to demonstrate the countercyclical effects of the Chilean fiscal rule as compared with a zero-deficit rule.

Commodity Currencies and the Real Exchange Rate

This paper examines whether the real exchange rates of commodity-exporting countries and the real prices of their commodity exports move together over time. Using IMF data on the world prices of 44 commodities and national commodity export shares, we construct new monthly indices of national commodity export prices for 58 commodity-exporting countries over 1980-2002. Evidence of a longrun relationship between national real exchange rate and real commodity prices is found for about onethird of the commodity-exporting countries. The long-run real exchange rate of these ‘commodity currencies’ is not constant (as would be implied by purchasing power parity-based models) but is time-varying, being dependent on movements in the real price of commodity exports.

Pricing Policies and Inflation Inertia

The paper proposes a monetary model with nominal rigidities that differs from the conventional New Keynesian model in that firms set pricing policies instead of price levels. In response to permanent or highly persistent monetary policy shocks this model generates the empirically observed slow (inertial) and prolonged (persistent) reaction of the inflation rate, and also the recession which typically accompanies moderate disinflations. The reason is that firms respond to such shocks mostly through achange in the long-run or inflation updating component of their pricing policies. With staggered pricing policies this takes time to be reflected in aggregate inflation.

Must Original Sin Cause Macroeconomic Damnation?

Original sin, coupled with other financial imperfections, causes macroeconomic penance of two kinds: adverse shocks have larger and more persistent effects and monetary policy becomes less effective as a shock absorber. But macroeconomic damnation is not inevitable: in some cases, suitable changes in money and exchange rates can still partially stabilize output, investment and consumption.

Heterodox Central Banking

This paper discusses theoretical and practical aspects of the various unconventional central bank policies during the 2008-2009 crisis. In terms of theory, we first discuss the role of credibility in the attainment of inflationary goals once the nominal interest rate is at a lower bound, paying particular attention to the role of the central bank’s balance sheet. Additionally, we present a model which has at its core a financial imperfection that highlights the role of bank’s capital as well as the relevance of alternative credit policies that can be used to deal with financial distress. On the other hand, we review evidence regarding the recent experience. We discuss the timing and type of observed unconventional policies. We then explore alternative measures to assess the stance of monetary policy in a situation when the policy rate has reached its lower bound. Finally, we present some descriptive evidence on the effect of the applied policies on the shape of the yield curve and the lending-deposit spread.

Policy Responses to External Shocks: The Experiences of Australia, Brazil and Chile

Open economies, particularly emerging markets and commodity-intensive economies, deal with large external shocks. Interestingly enough, policy reactions and policy set-ups may dampen or amplify the consequences of these shocks, affecting the magnitude of the shock. This paper revisits the recent experience of policy frameworks and reactions in three countries: Australia, Brazil and Chile. In particular, we analyse and evaluate alternative policy set-ups and policy reactions to the Asian crisis in the period 1997-98, and to the lower world growth and higher risk aversion in 2001-2002.