Policy Rate Changes Research Articles

Swiss National Bank Communication and Investors' Uncertainty

This paper analyzes the effects of Swiss National Bank communication on stock investors' uncertainty. Monetary policy news is identified via changes in short- and medium-term futures prices as well as by applying methods from computational linguistics and dictionary approaches to SNB policy statements. Surprises in policy rate changes and regarding the future path of the policy rate exhibit an asymmetric effect on stock investors' uncertainty. Moreover, by taking into account varying topics the SNB addresses in its statements, I show that investors' uncertainty decreases due to an optimistic tone in communications about economic growth. Increased uncertainty expressed in SNB statements translate into increasing stock investors' uncertainty. The results explain how news contained in monetary policy statements reduce noise in financial markets and therefore contribute to financial stability.

The effects of monetary policy shocks on inequality

This paper provides new evidence of the effect of conventional monetary policy shocks on income inequality. We construct a measure of unanticipated changes in policy rates—changes in short-term interest rates that are orthogonal to unexpected changes in growth and inflation news—for a panel of 32 advanced and emerging market countries over the period 1990–2013. Our main finding is that contractionary monetary policy shocks increase income inequality, on average. The effect is asymmetric—tightening of policy raises inequality more than easing lowers it—and depends on the state of the business cycle. We find some evidence that the effect increases with the share of labor income and is mitigated by redistribution policies. Finally, while an unexpected increase in policy rates increases inequality, changes in policy rates driven by an increase in growth and inflation are associated with lower inequality.

Factors Impacting Bank Net Interest Margin and the Role of Monetary Policy: Evidence from Turkey

<p><em>In this study, we investigate factors affecting net interest margin (NIM) of commercial banks in Turkey. Especially, our results highlight the relation between unconventional monetary policy shocks and bank margins. To this end, first, we conduct an identification analysis about which parameters of asymmetric interest corridor framework are important in explaining variations in NIM. Using industry-level data, we show that there exists a pass through from BIST interbank overnight repo/reverse repo market rate and weighted average cost of funding (WACF) to bank loan and deposit rates. As a result of reduced-form Vector Autoregression (VAR) analysis we find the existence of a transmission mechanism from BIST rate and WACF to commercial loan rate, consumer loan rate and deposit rate. Same pass through to loan and deposit rates is also shown in individual bank level with the Panel Vector Autoregression (Panel VAR) analysis in the case of 16 commercial banks in Turkey during the period 2011Q1-2016Q1. After the identification analysis, we examine the relationship between NIM and policy rates through System Generalized Method of Moments (GMM) techniques by controlling bank specific, industry related and macroeconomic factors. We find that a change in the monetary policy rate has significant and positive impact on NIM. Among bank-specific factors, equity ratio and operating expenses are found to be significantly affecting NIM during the sample period. Our empirical findings also stress the significance of lag values of NIM. Estimations conducted with standardized variables indicate that economic significance of lag values and bank specific variables are larger than that of policy.</em></p>

Have money and credit data releases helped markets to predict the interest rate decisions of the European Central Bank?

AbstractThis paper examines whether money and credit data releases by the European Central Bank (ECB) have provided markets with additional clues about the future course of its monetary policy. It conducts a novel econometric approach, as suggested by El‐Shagi and Jung (Eur J Polit Econ 39:222–234, 2015), based on a combination of an Ordered Probit model explaining future policy rate changes (sample 2000–2014) and the Vuong test for model selection. Overall, our empirical results support the view that information contained in money and credit aggregates is used by markets when assessing forthcoming interest changes of the ECB.

Central Bank Balance Sheet Policies and Spillovers to Emerging Markets

We develop a theoretical model that shows that in the near future, the monetary policies of some key central banks in advanced economies (AEs) will have two dimensions — changes in short-term policy rates and balance sheet adjustments. This will affect emerging market economies (EMs), especially those with a pegged exchange rate, as these EMs primarily use a single monetary policy tool, i.e., the short-term policy rate. We show that changes in policy rates and balance sheet adjustments in AEs may differ in their respective financial spillovers to pegged EMs. Thus, it will be difficult for EMs to mitigate different types of spillovers with a single monetary policy tool. In that context, we use the model to show how EMs might use additional tools — capital controls and/or macro-prudential policy — to complement their monetary policy and financial stability toolkit. We also discuss how balance sheet adjustments that affect long-term interest rates may percolate to influence short-term interest rates via financial plumbing.

Examining the Asymmetric Impact of Monetary Policy in India

Though an accumulating body of work has analysed monetary policy transmission in India, there are few studies examining the asymmetric aspect of the transmission. Against this backdrop, segregating the interest rate setting process captured by a Taylor rule type into unanticipated and anticipated components, this article analyses the asymmetric effects of monetary policy on aggregate demand and its components, and inflation in India using quarterly data from 1996–97Q1 to 2013–14Q3. It finds that unanticipated hikes and cuts in the policy rate have a symmetric impact on aggregate demand, but differentially impact the components. While the impacts on investment are negative and symmetric, they are asymmetric on private consumption, with only an unanticipated cut in policy rate having a significant negative impact. Government consumption is unaffected by monetary policy shocks. The impact of unanticipated interest rate changes on inflation is negative and symmetric. Anticipated policy rate changes also have a negative impact on aggregate demand and its components, except for government consumption, but between certain levels, such changes are ineffective, indicating a neutral impact. Anticipated policy rate changes have a negative impact on inflation at all levels. JEL Classification: C32, C51, E31, E52

Central Bank Balance Sheet Policies and Spillovers to Emerging Markets

We develop a theoretical model that shows that in the near future, the monetary policies of some key central banks in advanced economies (AEs) will have two dimensions—changes in short-term policy rates and balance sheet adjustments. This will affect emerging market economies (EMs), especially those with a pegged exchange rate, as these EMs primarily use a single monetary policy tool, i.e., the short-term policy rate. We show that changes in policy rates and balance sheet adjustments in AEs may differ in their respective financial spillovers to pegged EMs. Thus, it will be difficult for EMs to mitigate different types of spillovers with a single monetary policy tool. In that context, we use the model to show how EMs might use additional tools—capital controls and/or macro-prudential policy—to complement their monetary policy and financial stability toolkit. We also discuss how balance sheet adjustments that affect long-term interest rates may percolate to influence short-term interest rates via financial plumbing.

Bank lending channel in a dual banking system: Why are Islamic banks so responsive?

AbstractWe examine the interest rate sensitivity of both deposits and credits at Islamic and conventional banks in Turkey. We find that the bank lending channel is especially operative for Islamic banks. Impulse responses for conventional and Islamic banks reveal that Islamic bank depositors’ sensitivity to policy rate changes is substantially larger than that of conventional bank depositors. Next to heavily dependence on deposit funding, we consider that inertia in Islamic bank deposit rates impedes these banks to keep those depositors who consider the opportunity cost of monetary policy rates is unbearable. On the lending side, we obtain similar results, implying that tight monetary policy leads to a larger contraction in Islamic bank credits. This finding is a reflection of the favourable attitude of Islamic banks towards small and medium‐sized enterprise (SME) financing. When similar relationships are analysed for currency and inflation shocks, we again find larger responses for Islamic banks showing the cyclical nature of SME credits.

Interest rate pass-through in the Dominican Republic

A well-functioning monetary transmission mechanism is critical for monetary policy. As the Dominican Republic recently adopted an inflation targeting regime, it is even more relevant to guarantee that changes in the monetary policy rates are quickly and fully reflected in retail rates, to eventually influence aggregate demand and inflation. This paper estimates the interest rate pass-through of the monetary policy rate to retail rates and explores asymmetries in the adjustment. We find evidence of complete pass-through to retail rates, confirming the effectiveness of the monetary policy transmission mechanism. However, our results also suggest a faster pass-through to lending rates than to deposit rates and asymmetric adjustments of short-term rates, as deposit rates respond faster to policy rate cuts and lending rates respond faster to policy rate hikes. Measures to enhance competition in the financial system could help to achieve a symmetric adjustment of retail rates.

A century and three‐quarters of Bank Rate and long‐term interest rates in the United Kingdom

AbstractOver the years from 1844 to 2013, the United Kingdom had several distinct monetary policy regimes. This paper examines the relationship between the Bank of England policy rate and UK long‐term rates in each regime. Our starting point is R. G. Hawtrey's A century of Bank Rate, which focused mainly on the classical Gold Standard. We also examine the Interwar years, post‐Second World War years of policy by discretion and the recent regime of inflation targeting. We find that policy regimes that firmly anchor inflationary expectations result in long‐run interest rates becoming less responsive to changes in monetary policy rates. This suggests a conflict between a regime that anchors inflationary expectations and one that allows a central bank to have significant effects on long‐term rates via a short‐term policy rate.

Central Bank Balance Sheet Policies and Spillovers to Emerging Markets

We develop a theoretical model that shows that in the near future, the monetary policies of some key central banks in advanced economies (AEs) will have two dimensions—changes in short-term policy rates and balance sheet adjustments. This will affect emerging market economies (EMs), especially those with a pegged exchange rate, as these EMs primarily use a single monetary policy tool, i.e., the short-term policy rate. We show that changes in policy rates and balance sheet adjustments in AEs may differ in their respective financial spillovers to pegged EMs. Thus, it will be difficult for EMs to mitigate different types of spillovers with a single monetary policy tool. In that context, we use the model to show how EMs might use additional tools—capital controls and/or macro-prudential policy—to complement their monetary policy and financial stability toolkit. We also discuss how balance sheet adjustments that affect long-term interest rates may percolate to influence short-term interest rates via financial plumbing.

Lower Bound Beliefs and Long-Term Interest Rates

We study the transmission of changes in the believed location of the lower bound to longterm interest rates since the introduction of negative interest rate policies. The expectations hypothesis of the term structure combined with a lower bound on policy rates suggests that the transmission of policy rate changes to long-term interest rates is reduced when policy rates approach this lower bound. We show that if market participants revise downward the believed location of the lower bound, this may reduce long-term yields and increase transmission. A cross-country event study suggests that such effects have been empirically relevant during the recent negative interest rate episode.

Bank Net Worth and Frustrated Monetary Policy

Abstract I present a model in which bank net worth determines both loan market competition and monetary transmission to firm borrowing rates. In the model, banks are local monopolists for borrowers near them. When they are flush with equity, banks expand their lending, compete for customers at the edges of their markets, and pass through changes in the monetary policy rate to their loan rates. When they lose substantial equity, banks consolidate, retreat from rivalry, and frustrate monetary transmission. The model explains why interest rate pass-through weakens after financial crises. Its predictions are consistent with several facts about bank-to-firm lending.

Securitization and financial markets: the implications for interest rate pass-through

PurposeThe transmission of monetary policy rates to lending rates is viewed as a crucial path of monetary policy. As an integral part of the financial system and the recent financial crisis, securitized assets have the potential to affect the interest rate pass-through process and monetary policy effectiveness. This paper aims to investigate the influence of securitization on the transmission of policy rate changes to lending rates and how rate transmission has changed since the recent financial crisis. Emphasis is placed on differences among the mortgage, consumer credit and business loan securitization markets and between agency and private-label securitization transactions.Design/methodology/approachThe empirical framework is an error-correction model augmented to directly measure the influence of securitization. Monetary policy effectiveness is measured by the size and speed of transmitted policy rate changes to lending rates. An efficiency measure of relative adjustment accounts for differences in the size of long-run responses across loan markets and changes in efficiency from securitization within loan markets.FindingsThe size and speed of interest rate pass-through tend to increase with securitization. Liquidity, capital relief and funding from securitization help to make lending rates more responsive. Increases in pass-through with securitization are less in the consumer credit and business loan markets after the recent financial crisis relative to before the crisis. In contrast, mortgage markets tend to have larger pass-through after the financial crisis. Differences in rate transmission after the recent financial crisis point to the role on nonbanks in consumer credit and business loans and asset purchase programs of the Federal Reserve in mortgage markets. Securitization tends to make the adjustment process more efficient, and gains in efficiency from securitization are larger after the financial crisis.Originality/valueA key contribution of the study differentiates securitization across markets and types to determine the effects on the interest rate pass-through process. The results show that increases in the efficiency of the adjustment process from securitization tend to be greater in mortgage markets and for all private-label securitized assets. These findings have implications for proposed government-sponsored entity (GSE) reform to reduce the role of GSEs in the housing market, promote private-label mortgage credit and strengthen securitization deals.

Monetary Policy Announcements, Communication, and Stock Market Liquidity

Using the high‐quality intraday transaction data from 2001–2012, we investigate changes in stock market liquidity in response to the monetary policy announcements of the Bank of Korea (BOK). We find that liquidity impairment associated with informed trading occurs prior to the announcements but it disappears subsequent to the global financial crisis. In addition, liquidity impairment appears to become more severe with insufficient experts' predictability and accuracy rather than with policy rate change itself and unscheduled announcements. Finally, the Federal Open Market Committee (FOMC) announcements, changes in the Volatility Index (VIX), and trading by foreign investors play a limited role in explaining stock market liquidity changes. Overall, results indicate that central bank communication plays a significant role in reducing liquidity impairment by enhancing the predictability of policy actions, and therefore, mitigating information asymmetry.

Re-examining the ECB\u2019s two-pillar monetary policy strategy: Are there any deviations during and the pre-financial crisis periods?

This paper addresses the extent to which the ECB rate setting responded to inflation and monetary growth in the run up to, and during, the financial crisis of the late 2000s. The analysis covers the period between 1999:01 and 2013:12, split into pre-crisis and financial crisis periods using a structural break test. In addition, a number of specifications are examined, including those in which only positive or negative policy rate changes are used as the dependent variable. An ordered probit model is used as it is deemed more appropriate for modelling discrete economic behaviour, such as policy rate changes, than continuous time series methods. The results from the pre-crisis period show that, although the monetary aggregate was significant in models that incorporate all the policy changes, but when considering just positive policy rate changes, the coefficient for monetary growth is not only small, but also statistically insignificant. Hence, this casts doubt on the extent to which monetary growth influenced the ECB policy rate decisions prior to the financial crisis. The monetary growth coefficients for the crisis period are also found to be insignificant. However, unlike during the pre-crisis period, the coefficient for inflation is found to be both positive and statistically significant, thus confirming qualitative perceptions that the ECB prioritised its price-stability mandate over concerns that the Euro Area sovereign debt crisis.

Risk Premium Shifts and Monetary Policy: A Coordination Approach

We explore a global game model of the impact of monetary policy shocks. Risk-neutral asset managers interact with risk-averse households in a market with a risky bond and a floating rate money market fund. Asset managers are averse to coming last in the ranking of short-term performance. This friction injects a coordination element in asset managers’ portfolio choice that leads to large jumps in risk premiums in response to small future anticipated changes in central bank policy rates. The size of the asset management sector is the key parameter determining the extent of market disruption to monetary policy shocks.

The Effects of Monetary Policy Shocks on Inequality

This paper provides new evidence of the effect of monetary policy shocks on income inequality. Using a measure of unanticipated changes in policy rates for a panel of 32 advanced and emerging market countries over the period 1990-2013, the paper finds that contractionary (expansionary) monetary actions increase (reduce) income inequality. The effect, however, varies over time, depending on the type of the shocks (tightening versus expansionary monetary policy) and the state of the business cycle, and across countries depending on the share of labor income and redistribution policies. In particular, we find that the effect is larger for positive monetary policy shocks, especially during expansions. Looking across countries, we find that the effect is larger in countries with higher labor share of income and smaller redistribution policies. Finally, while an unexpected increase in policy rates increases inequality, changes in policy rates driven by an increase in growth are associated with lower inequality.

Have Monetary Data Releases Helped Markets to Predict the Interest Rate Decisions of the European Central Bank?

This paper examines whether monetary data releases by the European Central Bank (ECB) have provided markets with additional clues about the future course of its monetary policy. It conducts a novel econometric approach based on a combination of an Ordered Probit model explaining future policy rate changes (sample 2000 to 2014) and the Vuong test for model selection. Overall, our results suggest that information contained in press releases on monetary developments for the euro area has helped markets in forming their expectations on the next monetary policy decision. JEL Classification: C34, D78, E52, E58

A tractable interest rate model with explicit monetary policy rates

This paper proposes a novel interest rate model that presents simple analytical pricing formulas for interest rate-based derivatives, including swaps, futures, swaptions, caps and floors. Exploring the regime-switching feature of Markov chains, the proposed model focuses on discrete changes in the central bank policy rates – the main driver of short-term rate fluctuations. An empirical analysis shows that the proposed model generally outperforms other standard short-term rate models in fitting cross-sections of options prices. Moreover, the explicit nature of policy rates, to some extent, enables the model to infer risk-neutral probabilities of the central-bank rate decisions.