Transmission mechanisms of financial stress into economic activity in Turkey

Measuring, analyzing and understanding systemic risk in financial system have become very important in the light of the recent global crisis. In this study, we follow Holló, Kremer, and Lo Duca (2012) and evaluate systemic stress of financial system of Turkey with a high frequency (daily) financial stress index which consists of daily 13 financial market indicators. Dynamics of the financial stress index indicate that the index creates proper signals to the well-known financial stress events. The dynamic interaction between financial stress and real economic activity is investigated with application of structural VAR (SVAR) model. Results of the study suggest that deterioration of financial conditions impacts real economic activity significantly and adversely.     

Interest rate pass-through in the Euro area during the financial crisis: A multivariate regime-switching approach

In this paper we use a Markov-switching vector autoregressive model to analyse the interest rate pass-through between interbank and retail bank rates in the Euro area. Empirical results, based on monthly data for the period 2003–2011, show that during periods of financial distress bank lending rates to both households and non-financial corporations show a reduction of their degree of pass-through from the money market rate. Significant sectoral heterogeneities characterise the transmission mechanism of monetary policy impulses, with rates on loans to non-financial firms being more affected by changes in the interbank rate than loans to households, both in times of high volatility and in normal market conditions.     

Housing and the business cycle in South Africa

This paper examines the housing-output growth nexus in South Africa by accounting for the time variation in the causal link with a bootstrapped rolling Granger non-causality test. We use quarterly data on real gross domestic product, real house prices, real gross fixed capital formation and number of building plans passed. Our data span 1971Q2–2012Q2. Using full sample bootstrap Granger causality tests, we find a uni-directional causality from output to number of building plans passed; a uni-directional causality from real house price to output and a bi-directional causal link between residential investment and output. However, using parameter stability tests, we show that estimated VARs are unstable, thus full-sample Granger causality inference may be invalid. Hence, we use a bootstrap rolling window estimation to evaluate Granger causality between the housing variables and the growth rate. In general, we find that the causality from housing to output and, vice versa, differ across different sample periods due to structural changes. Specifically speaking, house price is found to have the strongest causal relationship with output compared to residential investment and number of building plans passed, with real house price showing predictive ability in all but one downward phase of the business cycle during this period.     

Output gap and non-linear economic convergence

We apply unit root tests in a multivariate TAR model with bootstrapping simulations to assess the influence of short-run economic conditions on long-run economic convergence and to extract economic policy implications. We use two different groups of countries whose members share important business cycle characteristics over the period 1953–2010. We show that per capita income convergence is not uniform along the business cycle and our analysis reveals that, apart from growth-led actions and structural reforms to avoid the evolution towards different national stationary states – especially within the euro zone – short-run stabilisation policies are vividly advised to guarantee long-run economic convergence.     

Expectations and the inertia of inflation: The case of Indonesia

It has long been recognised that the balance between backward-looking and forward-looking expectations has critical policy implications. This is because backward-looking expectations impart a substantial degree of inertia to the inflation rate whereas forward-looking expectations lead to rapid adjustment in response to shocks. In this paper we examine the policy implications for the Indonesian economy of the form taken by the price adjustment equation. We allow for both backward-looking and forward-looking effects of inflation expectations, proxying forward expectations with the realised rate and using a GMM estimator to allow for the resulting endogeneity. Using monthly data from 1980:1 to 2008:12, our estimates show that CPI inflation in Indonesia is significantly determined by backward-looking inflation expectations, forward-looking inflation expectations, the output gap, exchange rate depreciation, and money growth. However, the backward expectation attracts a significantly higher weight than the forward rate leading to the conclusion that inflation in Indonesia has considerable inertia. The implication of this is that a gradualist monetary policy is likely to be more effective as a means of smoothing fluctuations in inflation and real output.     

The economic costs of US stock mispricing

The USAGE model for the United States is used to quantify economic costs due to stock mispricing, made operational by shocking Tobin's q. The simulations quantify a potentially large impact even in the most favorable environment, where export demand holds up, and, the dollar is pro-cyclical. A two-year investment boom in two sectors increases consumption by a Net Present Value (NPV) amount of nearly one per cent, due to a positive investment externality onto the US terms of trade. If the investment is wasted, however, the consumption loss is nearly one-half of a per cent. A 5-year ‘capital strike’ across the whole economy subsequent to the boom - mimicking financial distress from a burst bubble - shaves around 10 per cent off consumption. Given these significant costs associated with “boom” and “bust” equity markets, we consider some, policy options that might result in greater stability in these markets.     

Pre- versus post-crisis central banking in Qatar

In the years before the global financial crisis of 2008–2010, Qatar experienced a huge build-up of liquidity surplus in the banking system, mainly driven by surging net capital inflows. This paper identifies various sources of interbank liquidity in Qatar and discusses the various implications of structural primary liquidity surplus for the money market in particular and the economy at large. The paper attempts to evaluate the Qatar Central Bank policy making and conduct during the pre- and post-crisis periods within a framework of the Austrian monetary overinvestment theories, and concludes that the central bank had forcibly committed several forced monetary policy mistakes, which resulted in a breakdown in the interest rate channel of the monetary policy transmission mechanism. This led to the inability of the central bank to control the interbank interest rate and to an accelerating inflation rate during the pre-crisis years. In contrast, a dramatic change in the central bank's monetary policy framework and a deliberate monetary policy mistake on behalf of the central bank resulted in a restoration of the interest rate channel of the monetary policy transmission mechanism, stabilization of the interbank interest rate close to the central bank's policy rate and a sharp deceleration in the inflation rate in the post-crisis period. The paper concludes by offering brief policy recommendations.     

Macro stress testing and resilience assessment of Indian banking

This study conducts policy-based macro stress testing of the Indian banking sector and also assesses its resilience towards compliance with BASEL norms with the aid of an empirical macro-financial model. It uses scenario analysis and quantitative techniques to capture the impact of macroeconomic stress on the stability of the Indian banks by evaluating financial soundness indicators (credit quality, quantity and quality of capital adequacy). The scenarios are generated through policy-based shocks vis-à-vis other external shocks. The results from the estimation of the model indicate a cointegrating relationship between credit quality and key macroeconomic variables including output growth rate, interest rate, money growth rate and exchange rate. The results of the scenario analysis reveal that the Indian banking sector remains largely sound in terms of total regulatory capital adequacy ratio as per current BASEL II and even BASEL III requirement. The results also show that expansionary monetary policy impacts credit quality and capital adequacy in a positive and significant manner via its effect on the economy’s growth rate.     

Policy regimes and the shape of the Phillips curve in Australia

We document an evolving pattern in the slope of the Phillips curve in Australia at different frequencies under different monetary policy regimes and labor market regulations. Our estimation strategy relies on the spectral analysis that includes the gain and phase spectrum but is also complemented by the time domain estimation. We document an upward sloping medium-run Phillips curve in the pre-1977 period, a downward sloping long-run Phillips curve from 1977 to 1993, and a flattened Phillips curve from 1993 onwards. Lag and lead relationship between inflation and unemployment varies across periods and frequencies. The Phillips curve at business-cycle frequencies is downward sloping in all periods. We explain our results in terms of the monetary targeting in 1976 and the inflation targeting in 1993 by the RBA, respectively, and important changes in labor relations from the mid-1980s to the mid-1990s.     

Towards more resilient economies: The role of well-functioning economic structures

Resilience is essential to better withstand adverse shocks and reduce the economic costs associated with them. We link resilience to the quality of countries’ economic structures. The paper finds robust evidence that sound labour and product markets and conditions for doing business increase the resilience towards adverse shocks and reduce the incidence of crises more generally. In the presence of a common shock, a country with weak economic structures can on average suffer up to twice the output loss in a given year compared to a more adaptable economy. From a policy perspective, this implies the need to push forward structural policies in countries with lower quality economic structures to increase resilience in case of future shocks. We also suggest how a monitoring process towards more resilient economic structures could look like.     

The cross-impact between financial markets,Covid-19 pandemic,and economic sanctions: The case of Iran

The main financial markets in the Iranian Economy include the stock exchange, foreign exchange, oil, and gold markets. The sharp fluctuations in these markets, especially those caused by the severe sanctions imposed on Iran in May 2018, and the pandemic outbreak of Covid-19 have led to more confusion and uncertainty among investors. One of the effective approaches to examine such unstable conditions is to study the co-movement(s) between markets to identify the leading variable(s). Thus, in the present study, Wavelet Coherence Analysis was applied to examine the co-movements between markets in a time period from September 2014 to June 2020, as an intense period of uncertainty in Iran. In other words, in this study, the markets were investigated in different sub-periods. Also, the Segmented Regression was performed to estimate the impact of sanctions and the Covid-19 pandemic on the co-movements of financial markets in Iran.The results showed that the oil price had a low co-movement with the other three markets, i.e. stock exchange, exchange rate, and gold markets. Thus, the oil market can be a suitable alternative for risk aversion investors. Meanwhile, the oil market could also act as a source of finance for the government during the sanctions period. That possibly explains the recent decision by the Iranian government to use the oil market to finance its budget deficit. Between the exchange rate and gold price, the gold price was identified as the leading variable. While the exchange rate and gold price did not show a significant co-movement in stable conditions, they did show a significant co-movement in unstable conditions, as in times of sanctions or during a global pandemic and thus influenced the investors’ portfolio risk. This result is important from a policy-making perspective. Based on this result, the policymakers can, especially during crises and unstable conditions, control the gold market and make it more stable by managing the foreign exchange market.     

US foreign aid and economic policy concessions*

Why do donors continue to provide foreign aid despite its failure to help poor countries over the past several decades? While some scholars argue that foreign aid is purely for humanitarian purposes, others assert that such aid serves as a tool to pressure recipient countries into accepting policy concessions. In this study, we subject these arguments to empirical testing using a dataset that integrates the amount of US aid and economic policies of recipient countries for 1995–2012. The findings suggest that aid decisions correspond to the interests of the United States, such as policy concessions in economic and business liberalization. However, an increase in US aid is not directly associated with further economic reforms in recipient countries. We conclude that US foreign aid programmes are strategic in nature and successful not in alleviating economic problems in recipient countries but, at the very least, in buying their policy compliance.     

Measuring the effects of oil price and Euro-area shocks on CEECs business cycles

Assessing the cyclical alignment of national business cycles with the Euro-area one is of great importance in order to guide policy decisions concerning the enlargement of the Euro area. To this end, in this paper we aim to measure the effects of external macroeconomic shocks on business cycles of Central and Eastern European Countries, not yet Euro-area members. Using quarterly data from 1999 to 2015 and the structural near-VAR methodology, we focus on the effects of Euro-area monetary policy and global oil price shocks on prices and output of the analyzed countries. Results show that business cycle fluctuations are mainly explained by domestic shocks in the short run, while monetary policy and oil price shocks play an increasing role in the medium run. Adding domestic fiscal shocks, the overall picture does not change significantly, since fiscal policy turns out to be a minor driver of business cycle fluctuations in CEECs. In the whole, our findings do not support an Euro-area enlargement at short horizons.     

The effects of wage flexibility on activity and employment in Spain

In this paper we estimate the macroeconomic effects of the greater wage and firms’ internal flexibility promoted by the economic policies implemented since 2012, which changed markedly Spanish labour regulations. To do so, we propose a structural VAR that allows us to break down changes in main macroeconomic variables into different structural shocks. From a policy perspective, the estimation of the structural shocks allows us to simulate a counterfactual scenario, whereby we conclude that the effects of less rigid labour market are positive and significant. Our results suggest that, if these policies were implemented at the beginning of the crisis, they could have avoided a significant part of the falls in GDP and employment.     

The real uncovered interest parity: The case of Canada and the USA

The aim of this paper is to re-assess the real uncovered interest parity (RUIP) in the light of including domestic demand shocks as possible determinants of the real exchange rate. We use annual data for two close trading partners, namely Canada and the USA. Using cointegration analysis we find evidence in favour of RUIP. In addition, empirical support is provided to show that discretionary fiscal policy actions have a spillover effect to the real exchange rate via real interest rates.     

The causal relationship among electricity consumption,economic growth and capital stock in Iran

Due to the progress in industries, electricity consumption (EC) plays a vital role in economic growth (EG) as one of the important components of production. Furthermore, the influence of capital stock (CS) and labor is significant in EG. The main purpose of this paper is to examine causality and relationship among EG, EC, and CS, to forecast these variables and to propose related policy viewpoints for Iran. The empirical findings indicate the lack of short-run causality between pairwise variables. The results of standard Granger-causality (SGC) test demonstrate a bi-directional long-run causality between EC and EG and a uni-directional long-run causality from EC to CS. To forecast variables, the vector auto regression (VAR) model is estimated using logged variables. The Ariño and Franses approach is applied to transform time series data and forecast variables. The performance of the estimated VAR model is investigated and it clarified a highly accurate estimation with mean absolute percentage errors (MAPEs) of less than 4% for all variables. The results of the impulse response function (IRF) analysis indicate the dynamic behavior of long-run causalities. Therefore, to reduce EC and avoid negative impact on EG, Iran should adopt appropriate and affordable policies to raise efficiency optimization of EC. Finally, four policies including privatization, industrialization, supervision of banking resources and allocation of credits and liberalization of electricity prices are proposed.     

Central banks’ priorities and the left/right partisanship of exchange rates

This study argues that when central banks subordinate all policy goals to achieving price stability greater central bank independence encourages left-wing governments to seek greater exchange rate stability. Such central bank policy priorities make the Left's preferred distributive policies more dependent on the effectiveness of fiscal policy, which under high capital mobility increases with exchange rate stability. In contrast, right-wing governments put greater emphasis on market adjustments and price stability. Hypotheses are tested by estimating the sensitivity of exchange rate variation to partisanship, central bank independence, and the salience of price stability, using a Prais-Winsten estimator and Instrumented Variables, run on pooled cross-section time-series data from 22 OECD countries during 1990-2004.     

Are government wages interlinked with private sector wages?

The ongoing fiscal and financial crisis with significant macroeconomic imbalances in the euro area raises the question in how far public–private wage interaction and even wage spirals contribute to fiscal and competitiveness problems. In this vain we analyse empirically whether the evolution of public sector wages is decoupled from that of the private sector. Using data for number of OECD countries, we find: (i) a strong and extremely robust positive annual contemporaneous correlation of public and private sector wages over the business cycle; (ii) evidence of co-movement of these variables over the medium and long run. From a policy perspective, the findings of this study suggest public wage restraint and private wage flexibility coupled—where needed—with institutional reform to prevent or break public–private wage spirals.     

The effectiveness of monetary policy in small open economies

This paper examines the relative effectiveness of the use of direct and indirect monetary policy instruments in Barbados, Jamaica and Trinidad and Tobago, by estimating a restricted Vector Autoregressive model with Exogenous Variables (VARX). The model captures the dynamic interaction of the key sectors in the economy and it accounts for the fact that the banking system in those countries is characterized by high levels of excess reserves. Also, the study assumes that the central bank conducts monetary policy using a Taylor-type rule, and it evaluates the effects of a reserve requirement policy. The results show that although a positive shock to the policy interest rate has a direct effect on commercial banks’ interest rates, there is a weak transmission to the real variables. Furthermore, an increase in the required reserve ratio is successful in reducing private sector credit and excess reserves, while at the same time alleviating pressures on the exchange rate. The findings therefore indicate that central banks in small open economies should consider using reserve requirements as a complement to interest rate policy, to achieve their macroeconomic objectives.     

Effect of financial development on economic growth in sub-Saharan Africa

This paper examines the overall economic growth effect when the growth in finance and real sector is disproportionate relying on panel data for 29 sub-Saharan African countries over the period 1980–2014. Results from the system generalized methods of moments (GMM) reveal that, while financial development supports economic growth, the extent to which finance helps growth depends crucially on the simultaneous growth of real and financial sectors. The elasticity of growth to changes in either size of the real or financial sector is higher under balanced sectoral growth. We also show that rapid and unbridled credit growth comes at a huge cost to economic growth with consequences stemming from financing of risky and unsustainable investments coupled with superfluous consumption fueling inflation. However, the pass-through excess finance–economic growth effect via the investment channel is stronger.