Currency Runs, International Reserves Management and Optimal Monetary Policy Rules

This paper studies the design of optimal monetary policy rules for emerging economies confronted to sharp capital outflows and speculative attacks. We extend Taylor type monetary policy rules by allowing the central bank to give some weight to the level of precautionary foreign reserve balances as one of its targets. We show that a currency crisis scenario can easily occur when the weight is zero, and that it can be avoided when the weight is positive. The impacts of the central bank's monetary control on the output level, the inflation rate, the exchange rate, and the foreign reserve level are investigated as well. By applying both the Hamiltonian as well as the Hamilton-Jacobi-Bellman (HJB) equation (the latter leading to a dynamic programming formulation of the problem), we can explore safe domains of attractions in a variety of complicated model variants. Given the uncertainties the central banks faces, we also show of how central banks can enlarge safe domains of attraction.Currency Crises, Capital Outflows, Monetary Policy Rules

Overconsumption, Credit Rationing and Bailout Monetary Policy: A Minskyan Perspective

We consider a Keynes-Goodwin model of effective demand and the distributive cycle where workers purchase goods and houses with marginal propensity significantly larger than one. They therefore need credit, supplied from asset holders, and have to pay interest on their outstanding debt. In this initial situation, the steady state is attracting, while a marginal propensity closer to one makes it repelling. The stable excessive overconsumption case can easily turn from a stable boom to explosiveness and from there through induced processes of credit rationing into a devastating bust. In such a situation the Central Bank may prevent the worst by acting as creditor of last resort, purchasing loans where otherwise debt default (and bankruptcy regarding house ownership) would occur. This bail-out policy can stabilize the economy and also reduces the loss of homes of worker families.mortgage loans, booms, debt default, busts, creditor of last resort.

Does international-reserves targeting decrease the vulnerability to capital flights?

Kato M, Proano CR, Semmler W. Does international-reserves targeting decrease the vulnerability to capital flights? RESEARCH IN INTERNATIONAL BUSINESS AND FINANCE. 2018;44:64-75.Numerous episodes of financial turmoil such as the 1997-1998 East Asian currency crisis have shown that economies are more vulnerable to currency runs if their currency reserves are low and have not been targeted by central bank policies. These issues have recently become again relevant as a significant capital flight could be observed with respect to China's currency by the beginning of 2016, which however did not develop to a full fledged currency crisis due to the availability of large currency reserves by the Central Bank of China. Against this background, we study the design of optimal monetary policy rules in a theoretical framework where foreign investors react in a nonlinear manner to the evolution of the central bank's currency reserves. We show that by allowing the central bank to give some significantly positive weight to the level of precautionary foreign reserves as one of its targets, a currency crisis scenario can be avoided, while such a crisis is likely to occur when this weight is zero or sufficiently low. The effects of the central bank's monetary control on the output, the inflation rate, and the foreign reserve level corroborate the economy's vulnerability for insufficient foreign reserves targeting. By means of numerical simulations, we show that the larger the relative weight of the foreign reserves target in the central bank's loss function, the larger is the domain of attraction of the stable equilibrium where the economy is not vulnerable to capital flight shocks

Long-phased Marx-Goodwin profit- and wage-squeeze cycles in wage-led economies

Charpe M, Flaschel P, Proano CR. Long-phased Marx-Goodwin profit- and wage-squeeze cycles in wage-led economies. ECONOMIC ISSUES. 2018;23:55-66.A widely debated issue in heterodox economics is the question of whether macroeconomic activity reacts positively or negatively to increases in the wage share, i.e. whether it is wage-or profit-led. In the present paper, from an empirical perspective, we show that this question is of secondary importance for Marx's model of the distributive cycle. Our analysis starts with the traditional Goodwin (1967) model - which describes the dynamic interaction between the wage share and the employment rate - to which we add an effective demand function to cover the utilisation of the capital stock (thus a Keynes-component to the original supply-side dynamics). In this extended Goodwin model we show that the Goodwin story remains, qualitatively, akin to Marx's supply side model, although the distributive cycle will now also depend on the state of effective demand. Here we find that the question of whether the capacity utilisation of firms is driven by a profit-led or a wage-led goods-market regime is irrelevant if a mild elasticity condition in the case of a positive dependence of the capacity utilisation rate on the wage share is met. We illustrate this result from an empirical perspective

Belief-driven dynamics in a behavioral SEIRD macroeconomic model with sceptics

Proano CR, Kukacka J, Makarewicz TA. Belief-driven dynamics in a behavioral SEIRD macroeconomic model with sceptics. Journal of Economic Behavior & Organization. 2024;217:312-333.The reluctance of a non-trivial fraction of the population to adhere to social distancing measures - and even to get vaccinated - during the COVID-19 pandemic represented a challenge for imposed public health policies in many countries around the world. Against this background we study the impact of boundedly rational perceptions for the dynamics of epidemics such as the COVID-19 pandemic in a standard epidemic model extended by a stylized macroeconomic dimension similar to Atkeson et al. (2021). We illustrate through which channels misperceptions or even "scepticism" concerning the infectiousness of the disease or its mortality rate may undermine the effectiveness of lockdowns and other public health policies in the long-run

Low interest rates, bank?s search-for-yield behavior and financial portfolio management

Lojak B, Makarewicz TA, Proano CR. Low interest rates, bank?s search-for-yield behavior and financial portfolio management. The North American Journal of Economics and Finance. 2023;64: 101839.We investigate the relationship between monetary policy and banks’ risk-taking behavior. We set up a simple model in which a risk averse bank awards loans to firms and also manages a financial investment portfolio consisting of a risky and a risk-free asset. When a bank signs up credit contracts with firms, it takes into account their solvency and potential gains from outside investment strategies under risk aversion, in contrast to the standard approach of risk neutral preferences. We show that the bank’s asset/liability and risk management depend on the prevailing risk-free policy rate. However, low policy rates incentivize a bank to engage into a search-for-yield by re-allocating their asset portfolios towards more risky exposures that ultimately leads to under-capitalized positions, and to an increased financial sector vulnerability

The impact of macroeconomic activity and yield valuation on mergers and acquisitions in Europe

We examine the macroeconomic determinants of mergers and acquisitions (M&A) using panel data over 2006:Q1 - 2022:Q2 for 21 European Union (EU) countries. Across di§erent model specifications we find that bond yields and past real GDP growth are robust quantitatively and statistically significant determinants of M&A even after controlling for inflation and short-term global financial uncertainty. Additionally, we investigate the effect of the earnings before interest, taxes, depreciation and amortization multiple as an additional explanatory variable. A crucial novelty of our study is that bond yields reduce M&A activity because other investors are shifting their portfolios out of bonds and into riskier assets such as equities. We denote this as a "perverse valuation effect" making M&A more expensive. This interpretation and channel is unique to our study

Sustainable capitalism: Full-employment flexicurity growth with real wage rigidities

Asada T, Flaschel P, Greiner A, Proano CR. Sustainable capitalism: Full-employment flexicurity growth with real wage rigidities. Journal of Economic Behavior & Organization. 2011;77(3):248-264.In this paper we present a model of flexicurity capitalism that exhibits a second labor market with the government as an employer of first resort, where all workers not employed by firms in the private sector find meaningful employment. We show that the model exhibits a unique interior steady state which is asymptotically stable under real wage adjustment dynamics of the type considered in Blanchard and Katz (1999), and under a type of Okun's Law that links the level of utilization of firms to their hiring and firing decision. The introduction of a company pension fund can be shown to contribute to the viability of the analyzed economic system. However, when credit is incorporated in the model, in place of savings-driven supply side fluctuations in economic activity, investment-driven demand side business cycle fluctuations (of a probably much more volatile type) can take place. (C) 2010 Elsevier B.V. All rights reserved

Monetary Policy and Macroeconomic Stability Under Alternative Demand Regimes

In this paper we analyse the interaction of macroeconomic activity and the dynamics of real wages from a theoretical perspective. By means of a system-dynamic approach we investigate the economic viability of wage- and profit-led demand regimes by analysing not only the effect of real wages on output, but also the feedback mechanisms of macroeconomic activity on the real wages. Furthermore, in this context, we focus on the role of monetary policy as a macroeconomic stabilisation mechanism in the two mentioned demand regimes