Monetary Policy Adjustments Research Articles

Recession in Indian Banking Sector

Banks act as important players in the financial markets. They play a vital role in the economy of a country. The Recession that began in December 2007 impacted the revenues and profitability of businesses worldwide. We are in a globalised world and no more immune to the things happening outside our country. Built on strong financial fundamentals, strict vigil on risk appetite and firm monetary guidelines, Indian banks have proved among the most resilient and sound banking institutions in the world. But there has been considerable divergence in the performance of the various banking institutions in the country as also among the public, private and foreign banks operating in India. The Indian banking system is relatively insulated from the factors leading to the turmoil in the global banking industry. Going by the performance for the calendar year 2008, Indian public sector banks have not only been able to weather the storm of global recession but have been able to moderate its impact on the Indian economy as well, compared to its peers among the foreign and private banks. The banking sector faces profitability pressures due to higher funding costs, mark-to-market requirements on investment portfolios, and asset quality pressures due to a slowing economy. But Indian banks’ global exposure is relatively small, with international assets at about 6 per cent of the total assets. The strong economic growth in the past, low defaulter ratio, absence of complex financial products, regular intervention by central bank, proactive adjustment of monetary policy and so called close banking culture has favored the banking industry in India in recent global financial turmoil.

An Assessment of External Price Competitiveness for Mozambique

This paper conducts an assessment of external price competitiveness for Mozambique. A variety of indicators suggest that Mozambique has recently lost external price competitiveness with respect to its major trading partners. Consistent with these indicators, an exchange rate assessment indicates that the metical is overvalued by 26 to 41 percent in real effective terms. If sustained, an overvaluation of this magnitude has the potential to retard economic growth and jeopardize external stability, calling for an adjustment of monetary policy to gradually restore external price competitiveness.

An Assessment of External Price Competitiveness for Mozambique

This paper conducts an assessment of external price competitiveness for Mozambique. A variety of indicators suggest that Mozambique has recently lost external price competitiveness with respect to its major trading partners. Consistent with these indicators, an exchange rate assessment indicates that the metical is overvalued by 26 to 41 percent in real effective terms. If sustained, an overvaluation of this magnitude has the potential to retard economic growth and jeopardize external stability, calling for an adjustment of monetary policy to gradually restore external price competitiveness.

Monetary Policy Surprises and the Bank Bill Term Premium

Has Australia's shift to an inflation-targeting monetary policy regime had a significant impact on investors' perception of the interest rate risks in the market' Using a GMM estimation approach, we analyse the impact of Australian monetary policy adjustments on the 180-day and 30-day bank bill term premium throughout the period of 1985 to 2005, and find that since 1990, unanticipated adjustments to monetary policy have had a significantly larger impact on the term premium. This coincides with Australia's adoption of an inflation-targeting monetary policy framework. Since its implementation, unanticipated adjustments to monetary policy have conveyed more information to financial markets regarding the interest rate risks in the economy. This new information is immediately assessed and accounted for in the term structure, consequently influencing the term premium in the direction of the unanticipated cash rate adjustment.

DO MONEY AND INTEREST RATES MATTER FOR STOCK PRICES? AN ECONOMETRIC STUDY OF SINGAPORE AND USA

This paper examines the long-term as well as short-term equilibrium relationships between the major stock indices and selected macroeconomic variables (such as money supply and interest rate) of Singapore and the United States by employing the advanced time series analysis techniques that include cointegration, Johansen multivariate cointegrated system, fractional cointegration and Granger causality. The cointegration results based on data covering the period January 1982 to December 2002 suggest that Singapore's stock prices generally display a long-run equilibrium relationship with interest rate and money supply (M1) but a similar relationship does not hold for the United States. To capture the short-run dynamics of the relationship, we replicate the same experiments with different subsets of data representing shorter time periods. It is evident that stock markets in Singapore moved in tandem with interest rate and money supply before the Asian Crisis of 1997, but this pattern was not observed after the crisis. In the United States, stock prices were strongly cointegrated with macroeconomic variables before the 1987 equity crisis but the relationships gradually weakened and totally disappeared with the emergence of Asian Crisis that also indirectly affected the United States. The results of fractional cointegration and the Johansen multivariate system are consistent with the earlier cointegration results that both Singapore and US stock markets did possess equilibrium relationships with M1 and interest rate at the early days. However, the stability of the systems was disturbed by a series of well-known financial turbulence in the past two decades and eventually weakened for Singapore and completely disappeared for the US. This may imply that monetary authority may take action to respond to the asset price turbulence in order to maintain the stability of monetary economy and thus break the existing equilibrium between stock markets and macroeconomic variables like interest rate and M1. Another possible explanation is that the market became more efficient after 1997 Asian crisis. Finally, the results of Granger causality tests uncover some systematic causal relationships, implying that stock market performance might be a good gauge for Central Bank's monetary policy adjustment.

Is Macroeconomics Dead? Monetary and Fiscal Policy in Historical Context

There was no macroeconomic policy in the classical system of economic thought. Monetary policy was determined without discretion within the Gold Standard, and budget outcomes were guided by a 'balanced budget rule'. Intellectual and policy support for the classical rules evaporated when large shocks upset the classical adjustment mechanisms and led to high and persistent unemployment. For a number of decades after Keynes's general theory, discretionary adjustment of fiscal and monetary policy to maintain balance between supply capacity of the economy and demand replaced the classical rules. This has now, in turn, been replaced by a variation on the classical theme. A 'goods and services standard', designed to keep inflation steady and low, a freely floating exchange rate, and a 'small, steady budget surplus' are the elements of the new system in Australia. This has worked well enough in the particular circumstances of the past one and a half decades, but would be vulnerable to a reversal of recent Australian good fortune in its terms of trade. Copyright 2005, Oxford University Press.

Monetary Policy Adjustments on the Final Passage Towards the Euro

This study reviews monetary policy options that are seemingly viable for adopting the euro by the new Member States of the European Union. A fully autonomous direct inflation targeting is believed to be suboptimal for convergence to the euro as it does not incorporate convergence parameters into the central bank reaction function and instrument rules. In an attempt to correct for such deficiency, this study advocates adopting a framework of relative inflation forecast targeting where a differential between the domestic and the eurozone inflation forecasts becomes the main objective of the central bank's decisions. At the same time, some attention to the exchange rate stability objective becomes necessary for facilitating the monetary convergence process. Foreign exchange market interventions, rather than interest rate adjustments, are viewed as a preferred way of achieving this objective.

Interest-Rate Smoothing: Monetary Policy Inertia or Unobserved Variables?

Abstract Interest-rate smoothing is traditionally attributed to the gradual adjustment of monetary policy to shocks. Rudebusch (2002) argues that smoothing can also arise spuriously if an autocorrelated variable is incorrectly excluded from the estimated reaction function. This paper presents a model which discriminates between these two explanations using U.S. data. We find that both seem to matter, but that policy inertia appears to be less important than suggested by the existing literature. Further, the excluded variable is likely to reflect financial market conditions.

From Hard Currency Policy to Monetary Union

In the wake of monetary integration in Europe, Austria abandoned the tested hard currency policy (HCP) for joining EMU as a member. The final target of monetary policy and real sector adjustment needs are similar in both regimes, and the HCP may therefore be viewed as a convenient, training camp, for later EMU accession. Georg Winckler devoted a number of essays on the critique, but also on the analytical foundation, of the HCP. The current paper takes up some of the strands developed by him, and reviews the implications on Austria's monetary strategy of the changeover to EMU. At EMU level it was required to newly establish credibility and accountability of the monetary authorities. Towards this end, the ECB emitted harsh signals to be committed to its primary task of maintaining price stability, and it was therefore held accountable for neglecting real sector developments as well as potential threats of deflation. This is unjustified, given the circumstances the ECB has been faced with since its inception, including the marked swings in the dollar value of the euro. The ECB could be blamed, however, for the lack of transparency with regard to its monetary strategy (which it declines to be, inflation targeting): it resorts to a rather vaguely defined final monetary target, it does not observe an intermediate target, and it is by no means clear what purpose the reference value for money growth does serve. The paper concludes that in Europe there is no immediate danger that the goal of price stability could unintentionally end up in deflation.

Monetary Policy in a Changing World: Rising Role of Expectations and the Anticipation Effect

The Federal Reserve (Fed) has maintained a general trend toward increased transparency and gradualism. This paper investigates the implications of these historical developments for the of monetary policy actions and adjustment of interest rates. In a theoretical framework, we establish the Fed's ability to manipulate overnight rates via an anticipation effect. The effect is defined as interest rate adjustments that take place prior to a policy announcement (or prior to when the complementary open market operations associated with that policy action take place) due to market's improved ability to predict future policy actions. Our empirical results document that most market rates adjust to anticipated policy actions prior to the actual announcement. Because the market responds to policy announcements instantly, the Trading Desk does not need to act immediately after the target change and can wait until the market incorporates the new information that comes with the policy announcement.

Monetary Policy in a Changing World: Rising Role of Expectations and the Anticipation Effect

The Federal Reserve (Fed) has maintained a general trend toward increased transparency and gradualism. This paper investigates the implications of these historical developments for the anticipation of monetary policy actions and adjustment of interest rates. In a theoretical framework, we establish the Fed's ability to manipulate overnight rates via an "anticipation" effect. The anticipation effect is defined as interest rate adjustments that take place prior to a policy announcement (or prior to when the complementary open market operations associated with that policy action take place) due to market's improved ability to predict future policy actions. Our empirical results document that most market rates adjust to anticipated policy actions prior to the actual announcement. Because the market responds to policy announcements instantly, the Trading Desk does not need to act immediately after the target change and can wait until the market incorporates the new information that comes with the policy announcement.

Exchange-rate policies in central Europe and monetary union

This paper examines the relationship between exchange-rate and monetary policies in transition economies (TEs) bent on entering the European Union (EU) and eventually acceding to the EUs monetary union. After detailing the present exchange-rate systems and monetary regimes in the central European TEs, currently practiced targets of monetary policy are reviewed and some proposed policy changes in response to the requirements of monetary union are discussed. Thereafter the question whether the candidates are likely to have to resort to a final currency devaluation no more than two years prior to acceding to monetary union is examined. This is followed, by way of conclusion, with some further suggestions for desirable adjustments in short-and long-term monetary policy.

Monetary Policy Targeting in Central Europe's Transition Economics: The Case for Direct Inflation Targeting

Monetary policies of Poland, Hungary and the Czech Republic have undergone a significant transformation in the 1990s. The initial currency peg and the exchange-rate-based monetary policy have been gradually replaced by more flexible exchange rates and money-based policies. Preparations for accession to the European Union and, later, to the European Monetary Union, call for further policy advancements including effective measures for lowering inflation, for reducing volatility of interest rates and market exchange rates, and for stabilizing domestic financial markets. Monetary authorities need to gain credibility for their policies, which should become more transparent, forward-looking and predictable. This paper argues that direct inflation targeting will be a desirable monetary policy approach for accomplishing these objectives. At the initial stage of monetary policy adjustments, a stricter form of inflation targeting is proposed in order to strengthen central banks policy discipline and commitment to disinflation. When price indexes reach a more sustainable level, flexible inflation targeting is advised. After the candidates join the EU and begin preparations for accession to the EMU, direct inflation targeting will have to be gradually phased-out and replaced by the euro-peg.

The Real Effects of Monetary Policy in the European Union: What Are the Differences?

The main finding of this paper is that the European Union (EU) countries fall into two broad groups according to the effects of monetary policy adjustments on economic activity. Estimates based on a vector autoregression model indicate that the full effects of a contractionary monetary shock on output in one group of EU countries (Austria, Belgium, Finland, Germany, the Netherlands, and the United Kingdom) take roughly twice as long to occur, but are almost twice as deep as in the other group (Denmark, France, Italy, Portugal, Spain, and Sweden). The paper discusses the implications of these results for the effective conduct of monetary policy in the euro area.

The Real Effects of Monetary Policy in the European Union: What are the Differences?

The main finding of this paper is that the European Union (EU) countries fall into two broad groups according to the effects of monetary policy adjustments on economic activity. Estimates based on a vector autoregression model indicate that the full effects of a contractionary monetary shock on output in one group of EU countries (Austria, Belgium, Finland, Germany, Netherlands, and United Kingdom) take roughly twice as long to occur, but are almost twice as deep as in the other group (Denmark, France, Italy, Portugal, Spain, and Sweden). The paper discusses the implications of these results for the effective conduct of monetary policy in the euro area.

The Real Effects of Monetary Policy in the European Union: What Are the Differences?

The main finding of this paper is that the European Union (EU) countries fall into two broad groups according to the effects of monetary policy adjustments on economic activity. Estimates based on a vector autoregression model indicate that the full effects of a contractionary monetary shock on output in one group of EU countries (Austria, Belgium, Finland, Germany, Netherlands, and United Kingdom) take roughly twice as long to occur, but are almost twice as deep as in the other group (Denmark, France, Italy, Portugal, Spain, and Sweden). The paper discusses the implications of these results for the effective conduct of monetary policy in the euro area.

On Offsetting Capital Flows and Monetary Autonomy of a Small Open Economy

This paper studies the interaction of international capital flows, monetary policy and interest rate adjustment in an open economy. Monetary independence is often measured by the so-called offset coefficient, defined as the induced change in foreign exchange reserves of the central bank as a response to a domestic open-market operation. However, Fratianni (1977) demonstrates that the actual value of the offset coefficient may be less useful for the assessment of the scope of monetary autonomy of a srmall open economy than the existing literature suggests.1 His discussion seems to imply that the magnitude of the effect that open-market operations have on the domestic market rate of interest is more relevant than the value of the offset coefficient for the evaluation of monetary independence.2 In this paper we re-examine the above issues. The following arguments will be put forward. First, for the evaluation of monetary independence it is useful to study the effects of domestic monetary policies both on the rate of interest and the capital account of the balance of payments.3 Second, the offset coefficient is less useful for the assessment of the scope of monetary autonomy than suggested by the standard reduced-form models, which regress the net capital flows on domestic credit.4 This is because the portfolio balance approach that is used to derive this model neglects both the flow nature of capital flows and the implications of monetary policy reaction function. In fact, as first suggested by Herring and Marston (1977), the offset coefficient may be more sensitive to the parameters of the monetary policy rule than to private capital flows. The above issues will be discussed in a modified asset market model which allows for slow adjustment of the stocks of financial assets in private portfolios and which integrates the policy rule into the model. This model emphasizes the interest rate mechanism more than the model with continuous portfolio balance since it implies interest rate overshooting in the short run relative to the long run. Moreover, different values for the offset coefficient are obtained for the short run and for the long run. It is well-known that if the authorities, faced with internal targets, try systematically to sterilize the effects of balance of payments disequilibria on the domestic money supply, this will have a very significant influence on reserve volatility through capital flows (see Argy and Kouri, 1974). This is neglected, however, in the reduced-form models of capital flows. More recently, Obstfeld (1980, 1982) has dealt with the simultaneous equation bias in single-equation econometric studies of the capital account offset to monetary policy. The structural form approach favoured by him and his results of the effects of the sterilization rule support the propositions of this paper.5 But it seems that the

Devaluation, Monetary Policy, and Border Tax Adjustments

Devaluation, Monetary Policy, and Border Tax Adjustments