Monetary Policy Transmission Channels Research Articles

Monetary Policy and Personal Income Distribution: A Survey of the Empirical Literature

ABSTRACT The purpose of this paper is to conduct a survey of the recent literature that evaluates, in an empirical way, the distributional impacts of monetary policy. In the first two sessions, we discuss, respectively, the transmission channels of monetary policy to income distribution and the empirical strategies used to measure it. The majority of surveyed papers find that a contractionary monetary policy worsen the income distribution, and that an expansionist policy tends to improve it. Moreover, several papers found that the higher is the redistributive impact of fiscal policy, the lower is the impact of monetary policy on inequality. Another outcome with empirical support is the role of the labor share on total income: the higher is this share, the higher is the impact of monetary policy on inequality. The last point discussed is the asymmetric effects of contractionary and expansionary monetary policy. There is evidence that increases in interest rates have statistically significant effects on income distribution, whereas the effects of reductions in interest rates are not statistically different from zero. This empirical finding goes against the conventional view that the distributional effects of interest rate changes are temporary and likely to net out over the business cycle.

A Simple Macrofiscal Model for Policy Analysis: An Application to Morocco

The paper describes a semistructural macrofiscal approach to simulating and forecasting macroeconomic policies. The model focuses on only a few variables that are consistent with the New Keynesian framework. Thanks to its simplicity, it facilitates an initial and intuitive understanding of monetary and fiscal policy transmission channels, and their main impact on economic activity. The model is adapted to Morocco and we demonstrate its application with an illustrative scenario of policy responses to a slower-than-expected recovery from the Covid-19 pandemic, under different monetary policy and exchange rate regimes.

Comparing the Effectiveness of the Monetary Policies in Korea and Japan

This study conducts a comparative analysis of the monetary policy transmission channels and their effects in Korea and Japan using a sign restriction VAR model to determine whether a Japanese-style monetary policy can be implemented in Korea. Results indicate considerable differences between Korea and Japan in their monetary policy transmission channels. Conventional monetary policy transmission channels, such as the exchange rate channel, asset price channel, and bank lending channel, works relatively well in Japan. However, in Korea, the interest rate channel is effective but has only a short-term effect on the exchange rate, and the effects on asset prices and bank lending are hard to expect in general. Furthermore, some potential risks working through the housing market may hinder financial stability. Korea and Japan see a limited effect on production in the real sector. These results imply that Korea must be careful about implementing a similar monetary policy as Japan.

Remittances, financial development and the effectiveness of monetary policy transmission mechanism in Nigeria: a DSGE approach (1986–2018)

The study examines the effect of remittance inflows on the effectiveness of monetary policy transmission channels in Nigeria using the New-Keynesian DSGE model. The study employs quarterly data spanning from 1986:1 to 2018:4. Four different channels are considered namely interest rate, exchange rate, credit and expectation channels. Results show that remittance inflows hinder the effectiveness of monetary policy channels. This implies the bulk of remittance inflows into the country do not pass through the financial system. Rather, the inflow is through the informal channels thereby making it difficult for the monetary authority to control the amount of inflow. Furthermore, given the impact of remittance on output gap, it shows that remittance has low persistence in the economy despite the inflow. This implies the bulk of remittance inflow is spent on consumption and not investment. Considering the effect of remittance inflow on inflation, the inflow is not inflationary. The study concludes that to better sterilize the effect of remittance inflow in the country, monetary policy authority should encourage the inflow through the financial system.

Monetary policy transmission: Balance sheet channel and investment behavior of firms in Pakistan

Purpose - This study investigates the relevance of the balance sheet channel of monetary policy transmission concerning non-financial firms at the Pakistan Stock Exchange (PSX), a firm-level data.Methods - This paper estimates a family of panel data regression models and constructs a dummy variable for monetary policy tightness.Findings - The result indicates a positive relationship between cash flows and investment during periods of monetary tightness. The impact on cash flows is visibly more pronounced than that of the quantitative effect of an increase in capital cost, which gives rise to a balance sheet channel. Three financial constraints, namely size, leverage, and dividend policy, are used to segregate firms into financially constrained and unconstrained firms.Implication - The results highlight the balance sheet channel impact on smaller firms cash. The cash flows of highly leveraged firms were impacted more during the tight monetary policy periods and thereby were more prone to decline in investments. Results on constraints of dividend policy are, however, inconclusive.Originality - The paper contributes to the literature by investigating the relevance of the balance sheet channel of monetary policy transmission concerning non-financial firms using firm-level data. It also contributes to the literature by constructing a dummy variable to measure monetary policy tightness.

A comparative analysis of the monetary policy transmission channels in the U.S: a wavelet-based approach

ABSTRACT This paper evaluates competing approaches to assess the effectiveness of transmission channels for the U.S. monetary policy from 1°Q 1995 to 3°Q 2019. While evaluating the competing approaches, the paper follows wavelet coherence approach providing results in time and frequency domain. The results show how money and credit channels work quite well during low volatile periods generally, whereas they suggest that these channels are less effective during periods of financial turmoil and very low interest rate. However, investment-based channels and the bank-lending channel revisited version show some effects also during periods of instability. In more detail, investment-based channels and the bank-lending channel revisited appear to be the most effective monetary policy transmission mechanisms, while the traditional banking-lending channel seems effective only in low volatile periods. Finally, the results for consumption-based channels and international trade-based channels show the least effectiveness.

Uncertainty and monetary policy in the US: A journey into nonlinear territory

AbstractThis paper estimates a nonlinear vector autoregression (VAR) model to assess whether the real effects of monetary policy shocks depend on the level of uncertainty. Crucially, uncertainty is modeled endogenously in the VAR, thus allowing to take account of two unexplored channels of monetary policy transmission working through uncertainty direct reaction and uncertainty mean reversion. We find that monetary policy shocks are about 50–75% more powerful during tranquil times than during firm‐ and macro‐level uncertain times. Failing to account for endogenous uncertainty would bias responses and imply twice more effective monetary policy during tranquil times, mainly because of the non‐consideration of uncertainty mean reversion.

Stock market implications of Fed's balance sheet size

PurposeConsidering the relationship between the central bank balance sheet and unconventional monetary policy after the 2008 financial crisis, it is crucial to see how the unconventional monetary policy, given near-zero interest rates, affects future stock market performance. This paper analyzes the impact of the Fed's balance sheet size on stock market performance.Design/methodology/approachTo analyze the Fed's balance sheet size's long-term stock market implications, this paper uses the asset pricing framework of market return predictability such as Ordinary least squares (OLS) and Generalized method of moments (GMM) analysis.FindingsFindings in this paper suggest that the Fed's balance sheet size, deflated by asset market wealth, presents evidence of return predictability during 1926–2015 that is robust against standard controls. These results can be explained through the redistribution of risk and the wealth channels of monetary policy transmission. The changing balance sheet size of a central bank (1) affects systemic risk, yields and expectations and (2) signals the future direction of monetary policy and thus economic outlook.Research limitations/implicationsThe main implication of these findings is that policymakers should avoid a severe imbalance between a central bank's balance sheet size and assets market wealth.Originality/valueThe empirical evidence in this paper documents a century-old relation between the Fed's balance sheet size and US stock market return using the Fed's balance sheet data for the last 100 years and stock market returns from the Center for research in security prices (CRSP) database.

Bank competition and the credit channel of monetary policy: Evidence from an emerging country

Our study provides one of the first examinations in an emerging country on the credit channel of monetary policy transmission under the influence of competition. The study was conducted using a panel data of 30 joint-stock commercial banks in Vietnam in the period of 2008-2017. By applying the DGMM estimation method, we found that the existence of the influence of competition on monetary policy transmission through credit channels. The higher bank competitiveness will make monetary policy transmission via credit channels of commercial banks less effective. Large-scale commercial banks, because of a merger or equity increase, will increase their competitiveness because of increased market share, which will weaken the monetary policy transmission through credit channels. The estimation results from the two methods of competitiveness measurement-the Lerner index and the Boone index–are in a united direction but at different levels.

The impact of size, composition and duration of the central bank balance sheet on inflation expectations and market prices

We analyse the effects of announcements of changes in the Eurosystem’s balance sheet size, duration and composition on inflation expectations, the exchange rate, the 10-year euro area government bond yield and stock returns, using local projections. We explicitly take into account interaction effects between the three balance sheet dimensions. We provide evidence for the duration extraction channel of monetary policy transmission as we find that the bond yield is sensitive to the combined impact of shocks to balance sheet size and duration. The exchange rate is also affected by a joint size-duration shock. Moreover, the bond yield and exchange rate are sensitive to the joint effect of changes in size and composition. The results indicate that interactions between balance sheet dimensions matter.

The Impact of Size, Composition and Duration of the Central Bank Balance Sheet on Inflation Expectations and Market Prices

We analyse the effects of announcements of changes in the Eurosystem’s balance sheet size, duration and composition on inflation expectations, the exchange rate and the 10-year euro area government bond yield, using local projections. We explicitly take into account interaction effects between the three balance sheet dimensions. We provide evidence for the duration extraction channel of monetary policy transmission, as we find that the bond yield is sensitive to the combined impact of shocks to balance sheet size and duration. The exchange rate is also affected by a joint size-duration shock. Moreover, the bond yield and exchange rate are sensitive to the joint effect of changes in size and composition. The results indicate that interactions between balance sheet dimensions matter.

The Role of Financial Structural Factors in Retail Rate Adjustment: Evidence From Sri Lanka

This paper examines the interest rate channel of monetary policy transmission. It assesses the impact of banking structural factors on commercial bank pricing decisions and their pass-through in Sri Lanka. The empirical analysis uses aggregate monthly interest rates data from January 2008 to December 2018, a total of 132 observations. The findings suggest that the interest rate pass-through is significant overall, but incomplete. The credit quality, operational efficiency and excess liquidity play essential roles in explaining the adjustments of the bank lending and deposit rates. Non-performing loans increase the lending rate, and this result is robust to different combinations of the control variables. This suggests that banks with higher proportions of non-performing loans attempt to pass their credit losses on to customers. Further, bank inefficiency is passed on to customers in the form of lower deposit rates and excess liquidity in the banking system, both of which have a negative effect on the interest rate adjustments of both lending and deposit rates. A puzzling negative relationship is observed between the lending rate and operational inefficiency. The findings of this paper support the claim that banks in Sri Lanka take into consideration their structural factors as well as the monetary policy rates when setting the lending and deposit rates.

Does financial interconnectedness affect monetary transmission? Evidence from India

ABSTRACT We explore the credit and interest rate channel of monetary policy transmission in India in the presence of financial interconnectedness. Accordingly, we construct several high-level measures of such interconnectedness relating to credit exposure and funding dependence, between banks and shadow banks. The findings suggest that interconnectedness impacts lending and has a much more significant impact on lending rates. In addition, there is a differential impact across bank ownership and relatedly, the impact differs during periods of monetary expansion versus contraction. In addition, we find that asset risk and funding cost are the two important channels through which interconnectedness affects transmission.

Payment Risk and Bank Lending

Deposits finance bank lending and serve as means of payment for bank customers. Under uncertain payment flows, deposits are debts with random maturities. Payment outflows drain reserves, and the risk is most prominent when funding markets are under stress and banks are unable to smooth out payment shocks. We provide the first evidence on the negative impact of payment risk on bank lending, bridging the literatures on payment systems and credit supply. An interquartile increase in payment risk is associated with a decline in loan growth rate that is 10% of standard deviation. Our findings are stronger in times of funding stress and robust across banks of different sizes and loans of long and short maturities. Banks with higher payment risk raise deposit rates to expand customer base and internalize payment flows. Finally, we show that payment risk dampens the bank lending channel of monetary policy transmission.

Technology Adoption and the Bank Lending Channel of Monetary Policy Transmission

Technology Adoption and the Bank Lending Channel of Monetary Policy Transmission

Monetary Policy, Sectoral Comovement and the Credit Channel

Using a structural vector autoregression, we document that a contractionary monetary policy shock triggers a decline in durable and non-durable outputs as well as a contraction in bank equity and a rise in the excess bond premium. The latter points to an important transmission channel of monetary policy via financial markets. It has long been recognized that a standard two-sector New Keynesian model, where durable goods prices are flexible and prices of non-durables and services sticky, does not generate the empirically observed sectoral co-movement across expenditure categories in response to a monetary policy shock. We show that introducing frictions in financial markets in a two-sector New Keynesian model can resolve its disconnect with the empirical evidence: a monetary tightening generates not only co-movement, but also a rise in credit spreads and a deterioration in bank equity.

Price Discovery in China’s Corporate and Treasury Yield Curves

As financial development progresses, the maturity structure of bond yields plays a rising role not only in the financial system but also as a key transmission channel of monetary policy. China is likely to be no exception. However, specific characteristics in China’s bond markets raise two major questions. First do China’s Treasury bonds offer the benchmark term structure of yields, or is this role fulfilled by the young but fast expanding corporate bond market? In other words, where does price discovery take place in the Chinese bond market in terms of the different components of the yield curve? We identify both dynamic and long-run relationships between each of the level, slope and curvature factors of the Treasury and corporate bond markets yield curve in China. We aim at determining which market plays a leading role in the discovery of each factor of the yield curve. We obtain three main results. First, we document for the first time the presence of a long-run relationship between the corporate and Treasury bond markets in China both for the level and the slope of their yield curve. Second, such a long-run relationship appears to be stable between the slopes over the full sample 2006-2017, but shows a break for the level factor in 2012. Third, the source market for price discovery varies with the parameters of the yield curve. While the corporate bond market is the source of price discovery for the level factor, this function is fulfilled by the government bond market for the slope parameter. The finding that the Treasury bond market is not fully dominant in level bond-pricing may not come as a surprise. Although China’s corporate bond market has developed rapidly in the past fifteen years, there were few default cases during that period. It is believed investors treat the default risk of corporate bonds as similar to that of Treasury bonds, and benefit from the high corporate spread. Our results for the slope parameter imply that market-oriented reform has progressed enough for the Treasury bond market to already provide a benchmark slope for the yield curve of corporate bonds. When the reform progresses further, we would expect corporate bonds to be priced according to their risk profile which should make the Treasury market lead in price discovery also for the level of the yield curve.

Sectoral Comovement, Monetary Policy and the Credit Channel

Using a structural vector autoregression, we document that a contractionary monetary policy shock triggers a decline in durable and non-durable outputs as well as a contraction in bank equity and a rise in the excess bond premium. The latter points to an important transmission channel of monetary policy via financial markets. It has long been recognized that a standard two-sector New Keynesian model, where durable goods prices are flexible and non-durable and services sticky, does not generate the empirically observed sectoral comovement across expenditure categories in response to a monetary policy shock. We show that introducing financial frictions in a two-sector New Keynesian model can resolve its disconnect with the empirical evidence: a monetary tightening generates not only comovement, but also a rise in credit spreads and a deterioration in bank equity.

Does Wall Street Understand Fed Speak? Monetary Policy Communication and Corporate Conference Calls

We uncover a tone transmission channel of monetary policy wherein the linguistic tone of press releases by the shapes the linguistic tone of macro-related dialogues in corporate conference calls occurring days after such releases. Applying machine-learning techniques to a granular dataset of dialogues between managers and equity analysts during conference calls, we find that the tone of macro-related dialogues is reflected in both contemporaneous stock market reactions as well as subsequent equity analysts' stock recommendations. Critically, the semantic content of monetary policy releases is consistently observed in macro dialogues between managers and analysts. A large sample analysis suggests that the effect of monetary policy tone on corporate conference calls is stronger in more recent years and for major unconventional monetary policy announcements. Taken together, our results shed light on how economic agents interpret Fed Speak,'' underscoring non-transitory effects of monetary policy communication.

On-Linearity between Exchange and Prices in Brazil and Implications for an Economic Development Strategy: Perspective

Among the various monetary policy transmission channels, the exchange rate stands out as one of the most important, which has been widely documented in the Brazilian economic literature in recent decades? In fact, after the change to the floating exchange rate regime and the respective introduction of the Inflation Targeting Regime (RMI) in Brazil in mid-1999, the exchange rate showed considerable variability, reaching more than R $ 4.00, as in 2002 and 2015, for example, or even close to R$ 1.50, as occurred in the years 2007 and 2011. In response to domestic events with emphasis on changes in the basic interest rate in compliance inflation targets either due to external shocks, changing perceptions about the direction of the economy generally implied greater or lesser willingness for foreign capital to enter, especially in the short term, contributing to the volatility of this fundamental price of the Brazilian economy.