Expansionary Monetary Policy Shocks Research Articles

Monetary policy and equity returns: The role of investor risk aversion

AbstractThis article examines the role of investor risk aversion in the transmission of monetary policy to stock returns based on U.S. data. Our results show that following an expansionary monetary policy shock, investor risk aversion falls, leading to a decrease in the equity risk premium and an increase in equity returns. Moreover, the returns of high‐beta stocks increase much more than those of low‐beta stocks. Finally, we investigate the mechanism through mutual fund flows. We find that high‐beta funds attract greater inflows in response to lower interest rates, and there is a positive relationship between fund returns and flows. Our findings have policy implications for financial stability.

HANK Comes of Age

We study the aggregate and distributional effects of monetary policy in a heterogeneous agent New Keynesian model that explicitly represents the life cycle of households. The model matches the age patterns in the level and dispersion of labor income and financial wealth in the U.S. despite the absence of preference heterogeneity and portfolio adjustment costs. Monetary policy affects the consumption of young households mainly through labor income and the consumption of old households mainly through asset returns. More than half of the aggregate consumption response to an expansionary monetary policy shock comes from those below the age of 40. The shock redistributes welfare from the wealthiest old to the poorest young and increases average welfare of most cohorts.

The effects of monetary policy across fiscal regimes

How do the effects of monetary policy depend on the fiscal policy stance? We aim to answer this question using a panel smooth transition local projection model for the euro area. We find that an expansionary monetary policy shock raises inflation and output, but only when fiscal policy is also expansionary. In a regime of contractionary fiscal policy, the responses to a monetary easing are insignificant or negative. Similarly, a monetary tightening only reduces inflation and output when accompanied by contractionary fiscal policy. These results are robust to several alternative model specifications and underline the importance of the fiscal stance for the effects of monetary policy.

The Micro-Effect of Monetary Policy on the Misallocation of Credit

The structural effects of monetary policy and these effects impact on credit allocation are crucial facets of monetary policy research. This study initially estimates China’s monetary policy based on the GDP growth target and CPI target found in the Chinese Government’s Annual Work Report. Subsequently, it quantifies the extent of credit misallocation among Chinese firms using data from listed companies from the years 2013 to 2022. Finally, we empirically investigate the repercussions of expansionary monetary policy shocks on credit misallocation, focusing on micro-firms. Empirical findings reveal that expansionary monetary policy significantly exacerbates credit misallocation, particularly in underfinanced firms. Mechanistic analysis suggests that a preference for loan size in lending behavior constitutes a major factor contributing to credit misallocation among firms.

Household Income, Portfolio Choice, and Heterogeneous Consumption Responses to Monetary Policy Shocks

AbstractThis paper quantifies the roles played by income‐level heterogeneity in the response of consumption to monetary policy shocks using U.S. household data. We show empirically that the response of consumption to expansionary monetary policy shocks is larger for high‐income households than for low‐income households. Empirical facts related to household characteristics suggest two channels: the presence of illiquid assets and heterogeneity in government transfers. Motivated by these empirical findings, we develop a model that incorporates illiquid assets and heterogeneity in government transfers to quantify the importance. Simulations based on the model indicate that the presence of illiquid assets, whose return increases in response to expansionary monetary shocks, is essential for explaining the heterogeneous consumption response.

Investigating the monetary policy risk channel based on the dynamic stochastic general equilibrium model: Empirical evidence from Iran.

Investigating the credit channel and monetary policy risk channel in Iran's economy is the aim of this article. According to empirical studies, expansionary monetary policy increases the risk of banks, and on the other hand, the risk of banks affects economic activities and price levels. In order to investigate the mechanism of the credit channel and the risk channel (as a new channel), the effect of monetary policy on real variables and price levels in Iran's economy, the Dynamic Stochastic General Equilibrium (DSGE) model has been used by entering the information of the banking system and considering moral hazard and adverse choices. The obtained results show that there is a credit channel and a monetary policy risk channel for Iran's economy, and the expansionary monetary policy shock causes output, inflation, private sector consumption, investment, net worth in the economy and lending to increase. Also, when a credit shock occurs, with the increase in banks' lending power, production, private sector consumption, investment, net worth and total lending increase and the inflation level decreases. Also, by applying the risk shock caused by the increase in inflation and the decrease in consumption and investment, the volume of lending increases and the level of production does not change much.

Effects of monetary and government spending policy on economic inequality

Using detailed micro-level income and expenditure data, we study the effects of monetary and government spending policy shocks on income and expenditure inequality in the US from 1990 to 2018. We find that expansionary monetary and government spending policy shocks systematically decrease income, disposable income and expenditure inequality. There is evidence of time variation on the effects and monetary policy and transfer payment shocks. Various impulse responses suggest that the impacts of the policy shocks increase during and after the Great Recession. The responses of income and expenditures of households at different percentiles suggest that expansionary monetary and government spending policy have a larger positive impact on households with low income and expenditures relative to those at the top of the distribution. We do not find evidence of the significant impact of Quantitative Easing policies on income inequality, however, expenditure inequality appear to increase due to the policies.

A Basic Two-Sector New Keynesian DSGE Model of the Indian Economy

Indian economy is going through underlying changes in the post-pandemic recovery process. Effects of policies, monetary or fiscal, on macroeconomy need a thorough analysis in these recessionary times. In this context, this study develops a closed-economy DSGE model to see the impact of monetary policy on the Indian economy. The model includes price rigidities, and parameters are calibrated using the data on Indian economy. The model includes two sectors – intermediate goods and final goods producers, an inflation-targeting regime following the Taylor rule. Model is simulated for a positive productivity shock and an expansionary monetary policy shock. Results show that a positive productivity shock improves overall economic activity, and an expansionary monetary policy shock increases output for the short term only.

Asymmetric effects of monetary policy and financial accelerator: Evidence from India

This paper analyzes the asymmetric effects of monetary policy shocks during low and high financial stress regimes in India. We explore the asymmetric effects through various monetary policy transmission channels, namely, interest rate, credit, asset prices, exchange rate, and expectations channels, using threshold vector autoregression (TVAR) models. Financial Stress Index (FSI) is used in the TVAR estimations as the threshold variable that endogenizes the regime-switching. We use a compressive FSI based on the dynamic conditional correlation-generalized autoregressive conditional heteroscedasticity (DCC-GARCH) method. The empirical findings indicate that a contractionary monetary policy shock through various channels has a stronger and more persistent effect on macroeconomic goal variables, output, and inflation during high financial stress than in a low financial stress regime. An expansionary monetary policy shock also shows a more significant effect on output during a high financial stress regime. Also, we found a stronger financial accelerator effect during high financial stress. This finding supports the literature that argues for the emergence of a stronger financial accelerator effect during financial stress. Finally, using nonlinear historical decompositions, we find that interest rate shocks contribute significantly to macroeconomic fluctuations in India.

The Role of Property Prices in the Conduct of Monetary Policy: Evidence from Down Under

This paper examines link between property prices and monetary policy in New Zealand and Australia. Using an identified VAR model for open economies, we address two questions, i.e., whether a loose monetary policy cause house price appreciation, and whether central banks of the two countries conduct a policy of “leaning against the wind” by responding to house price shocks. Our findings suggest that, following an expansionary monetary policy shock, house prices inflations fall immediately. Yet, we find that the impact of monetary policy shocks on housing is small to modest in both countries. Furthermore, we find that the interest rate does not respond systematically to changes in house prices in New Zealand, whereas the Reserve Bank of Australia do respond systematically to fluctuations in housing price inflation.

Asymmetric Effects of Monetary Policy in Regional Housing Markets

The responsiveness of house prices to monetary policy shocks depends on the nature of the shock—expansionary versus contractionary—and on local housing supply elasticities. These findings are established using a panel of 263 US metropolitan areas. Expansionary monetary policy shocks have a larger impact on house prices in supply-inelastic areas. Contractionary shocks are orthogonal to housing supply elasticities. In supply-elastic areas, contractionary shocks have a greater impact on house prices than expansionary shocks do. The opposite holds true in supply-inelastic areas. We attribute this to asymmetric housing supply adjustments. (JEL E32, E43, E52, R21, R31)

The Effect of Monetary Policy on Consumption Inequality: An Analysis of Transmission Channels through TANK Models

AbstractWhat transmission channels drive the effect of monetary policy on consumption inequality? This paper investigates this question with tractable Two‐Agent New Keynesian models with search‐and‐matching frictions and wage rigidities. I make a distinction between credit‐constrained households and unconstrained households and find that an expansionary monetary policy shock decreases consumption inequality between those two households through three channels: (i) the income composition channel, through fluctuations in labor and profit income; (ii) the savings redistribution channel, through fluctuations in real interest rate; and (iii) the earnings heterogeneity channel, through fluctuations in unemployment. The results are in line with the empirical evidence.

Monetary policy shock and impact asymmetry in bank lending channel: Evidence from the UK housing sector

AbstractBanks play a defining role in translating monetary policy shocks to pull or push‐effects in the housing market. The literature is ambiguous on the exact role of bank lending channel (BLC) in translating such effects into either moderation or acceleration of dynamics in the housing market. This paper argues that monetary policy shocks, of the same magnitude, can have asymmetric implications for a housing market via a state dependent BLC, particularly during expansion and recessionary phases of the business cycle. We test this hypothesis for the UK housing sector using a long quarterly data (1973Q1‐2015Q4) and employing Markov Switching Vector Auto Regression (MSVAR) models. Our results show that the magnitude of the bank lending channel is contingent upon the state of the economy, with a one standard deviation expansionary monetary policy shock producing a significant effect only in normal economic times. Further study on whether large cuts in policy rates could stimulate mortgage lending and whether there is impact asymmetry to dissimilar expansionary monetary policy shocks during financial crisis, we show that a sharp cut in policy rate indeed stimulates the BLC greater compared to smaller expansionary money policy shocks during recessions.

Asymmetric relationship between money supply and house prices in states across the U.S

ABSTRACT There is an intricate link between money supply and house prices. However, housing markets have downward price rigidity, different supply elasticities, and changing market sentiments. Thus, the response of house prices to expansionary monetary policy shocks differs from contractionary shocks. We use an asymmetric/nonlinear autoregressive distributive lag (NARDL) approach to estimate the asymmetric effects of money supply on house prices in each state in the U.S. a practice that makes our study differ from previous research. The house price growth in 38 states responds symmetrically to money supply changes in the short run. However, in 48 states, positive changes in money supply impact house prices differently from negative changes in the short run. In addition, there is a long-run relationship between money supply and house prices, but only when we account for asymmetries.

The impact of monetary policy shocks on income inequality: a tale of two countries

The easing monetary policy after the global financial crisis triggered wide concerns on the responses of income inequality. In this paper, we investigate impact of monetary policy shocks on income inequality. We propose a general equilibrium model and show that monetary policies could affect income inequality by affecting the earnings of high-income households in financial markets and business operations. Using a TVP-FAVAR model, we find contradictory distributional effects of monetary policy shocks in China and the US. Specifically, expansionary monetary policy shocks persistently increase income inequality in China but decrease income inequality in the US. Moreover, the impacts are volatile in the short-term, but stabilise after 10 periods. The investigation on the responses of top 1% and bottom 50% income share confirms the finding of contradictory distributional effects of monetary policy shocks.

Time‐varying effect of monetary policy on capital flows in Korea

AbstractThis paper examines the effect of domestic monetary policy on capital flows after controlling for the effect of conventional push factors (global factors). We conduct a time‐varying coefficient vector autoregressive (TVC‐VAR) model analysis using monthly data (January 2010–July 2019) from Korea. Our empirical results show that an expansionary monetary policy shock has a short‐run (1‐ and 3‐month) negative impact on gross inflows to the equity market, which is the main driver of gross capital inflows to Korea. This negative effect increases throughout the sample period. Monetary policy easing is also associated with a decrease in outflows of equity, representing a reversal of Korean residents’ foreign equity investment as the domestic policy rate decreases. This effect dampens the negative impact on gross capital inflows, which leads to mild responses of net capital inflows in the short run. We also find a clear relationship between the level of the policy rate and its impact on gross capital inflows. The lower the policy rate, the greater the negative impact of the expansionary monetary policy shock on gross capital inflows. This time‐varying effect reflects difficulties that many emerging market economies, including Korea, face in setting monetary policy when policy rates are low.

Sentiment Regimes and Reaction of Stock Markets to Conventional and Unconventional Monetary Policies: Evidence from OECD Countries

In this paper, we investigate how conventional and unconventional monetary policy shocks affect the stock market of eight advanced economies, namely, Canada, France, Germany, Japan, Italy, Spain, the U.K., and the U.S., conditional on the state of sentiment. In this regard, we use a panel vector auto-regression (VAR) with monthly data (on output, prices, equity prices, metrics of monetary policies, and consumer and business sentiments) over the period of January 2007 till July 2020, with the monetary policy shock identified through the use of both zero and sign restrictions. We find robust evidence that, compared to the low investor sentiment regime, the reaction of stock prices to expansionary monetary policy shocks is stronger in the state associated with relatively higher optimism, both for the overall panel and the individual countries (with some degree of heterogeneity). Our findings have important implications for academicians, investors, and policymakers.

Gender discrimination, inflation, and the business cycle

Empirical evidence suggests that women are discriminated against in the labor market. We analyze the effects of taste-based and statistical gender discrimination on business cycle and inflation dynamics by including unpaid household production, two-agent households, and discriminatory firm behavior in a tractable New Keynesian model. After a negative demand shock, we find that the economic downturn is more severe in comparison to a non-discriminatory environment, as the shock implies an increase in the inefficient utilization of female and male productivity. Furthermore, the working time allocation between women and men becomes more inefficient. Moreover, we show that discrimination implies a lower transmission of expansionary monetary policy shocks on inflation. Overall, taste-based discrimination leads to larger macroeconomic distortions, while statistical discrimination implies higher intra-household inefficiencies.

Euro area house prices and unconventional monetary policy surprises

This paper examines the reaction of house prices in a panel of euro area countries to monetary policy surprises over the period 2010–2019. Using Jordà’s (2005) local projection method, we find that real house prices rise in response to expansionary monetary policy shocks that can be related to unconventional policy measures. In the core countries including Ireland, we also find that lending for house purchases increases relative to nominal output. Thus, household debt rises.

Demographics and Monetary Policy Shocks

AbstractWe show that consumption expenditures for older households are more responsive to monetary policy shocks than for young‐ or middle‐aged households. A one‐standard‐deviation expansionary monetary policy shock induces a statistically significant and quantitatively large (1.7%) increase in aggregate consumption for old households over the ensuing 3 years. The responses for young‐ and middle‐aged households are smaller and not statistically significant. We also present evidence, suggesting that life‐cycle wealth effects play a role in driving the responses. We then build the wealth mechanism into a partial equilibrium life‐cycle model, which can qualitatively match the empirical patterns.