Monetary Policy Normalization Research Articles

Fiscal Union, Monetary Policy Normalization and Populism in the Eurozone

This article studies the different scenarios for the fiscal union in the Eurozone beyond 2019. It explains the different alternatives that the literature has explored to ensure fiscal transfers within Eurozone states as well as for common debt issuance. It also describes the role that monetary policy has played as a backstop for sovereign defaults and highlights the limits that inflation and an anti-euro backlash impose on public debt sustainability.

Interest Rate Risk and Monetary Policy Normalisation in the Euro Area

In the current low interest rate environment in the euro area there is potential for a sudden increase in interest rates and heightened interest rate risk (IRR). By using a sample of 81 euro area banks during the period 2014Q4-2018Q1 and a confidential supervisory measure of IRR, this paper identifies which bank-specific characteristics can amplify or weaken the impact of a 200 basis points positive shock in interest rates. We find that banks reliant on core deposits, that hold more floating-interest rate loans and that diversify their lending, either by sector or geography, are less exposed to a positive change in interest rates. Interestingly, we discover that banks that did not exploit the exceptional financing provided by the European Central Bank (ECB) reveal greater IRR exposure. These findings advance the debate on the impact on euro area banking of a possible return to a normalised monetary policy. JEL Classification: E43, E44, E52, G21, F44

It is Only Natural: Europe's Low Interest Rates

Estimates of the natural interest rate are often useful in the analysis of monetary and other macroeconomic policies. The topic gathered much attention following the great financial crisis and the Euro Area debt crisis due to the uncertainty regarding the timing of monetary policy normalization and the future path of interest rates. Using a sample of European countries (including several members of the Euro Area), this paper provides estimates of country-specific natural interest rates and some of their drivers between 2000 and 2019. In line with the literature, our findings suggest that natural interest rates declined during this period, and despite a rebound in the last few years of it, they have not recovered to their pre-crisis levels. The paper also discusses the implications of the decline in natural interest rates for monetary conditions and debt sustainability.

Unconventional Monetary Policy, (A)Synchronicity and the Yield Curve

This paper examines international spillovers from unconventional monetary policy (UMP) between the US, the Euro area, the UK and Japan, exploiting the asynchronous timing of monetary policy normalization to shed light on the term structure implications of UMP divergence. Using high frequency futures data to identify monetary policy surprises and controlling for contemporaneous news, I find that spillovers increase during periods of unconventional monetary policy, and that these strengthen in the period of asynchronous policy normalization. Local projections suggest persistent spillovers from the Federal Reserve, whereas other spillovers fade quickly. Through the lens of a shadow rate term structure model (SRTSM), I find that these surprises elicit, domestically and internationally, revisions to both the expected path of short-term interest rates and required risk compensation, with the latter gaining importance at the effective lower bound of interest rates.

Negative Interest Rate Risk. Atavism or Normalization of Central Banks’ Monetary Policy

In the face of the global financial crisis, central banks have used unconventional monetary policy instruments. Firstly, they implemented the interest rate policy, lowering base interest rates to a very low (almost zero) level. However, in the following years they did not undertake normalizing activities. The macroeconomic environment required further initiatives. For the first time in history, central banks have adopted Negative Interest Rate Policy (NIRP). The main aim of the study is to explore the risk accompanying the negative interest rate policy, aiming at identifying channels and consequences of its impact on the economy. The study verifies the research hypothesis stating that the risk of negative interest rates, so far unrecognized in Theory of Interest Rate, is a consequence of low effectiveness of monetary policy normalization and may adopt systemic nature, by influencing – through different channels – the financial stability and growth dynamics of the modern world economy.

Assessing the spillover effects of U.S. monetary policy normalization on Nigeria sovereign bond yield

This study examines the spillover effects of U.S. monetary policy normalization on Nigeria 10-Year Treasury bond yield between 2011 and 2017, using the vector error correction model approach. Our results reveal that domestic factors, such as exchange rate and inflation, rather than the U.S. 10-Year sovereign bond yield, are the key drivers of Nigeria 10-Year bond yield. Additionally, the spillover effect from the U.S. monetary policy was amplified by oil price shocks and changes in Nigeria’s monetary policy rates. Our counterfactual analysis confirms the findings.

The US Monetary Policy Normalization: The Impact on Korean Financial Market and Capital Flows

Most previous studies have shown that push factors have had a greater impact on capital outflows in emerging economies than pull factors. Meanwhile, in May 2018, the US Federal Reserve Chairman Jerome Powell addressed the controversy over capital movements to emerging economies after the global financial crisis. Powell said the inflows of capital into emerging economies are unlikely to have been caused by the Fed's interest rate policy. Powell's speech contains implied warnings that the US monetary policy is not a triggering force of a capital outflow in emerging economies. This is why Powell’s speech is adding to the difficulty of policy responses in emerging countries. This, in turn, suggests that it is necessary to check the determinants of global capital flows. In addition, the impact of US monetary policy on Korea's financial markets and capital outflows needs to be analyzed in depth. In this paper, the discussion of push (external) vs. pull (internal) factors of capital flow is examined using panel data of 47 countries. Our empirical results show that the push and pull factors determining capital flows to advanced economies and emerging market economies are different. This study also analyzes the impact of the normalization of US monetary policy on the domestic financial market and foreign exchange market by using the TVP-VAR model. Our analysis shows that US credit spread shock, which is an indicator of uncertainty in international financial markets, has had a negative impact on domestic financial markets and capital inflows. On the other hand, the impact of the US policy rate hike after 2015 was limited.

Згортання нетрадиційної грошово-кредитної політики: обмеження і перспективи

The paper considers the monetary policy of leading world central banks that were used to overcome the global financial and economic crisis in 2008–2009. Advanced developed countries managed to overcome this crisis, primarily through monetary mechanisms. For this purpose, a non-traditional monetary policy was invented and applied for the first time. It included the following: quantitative easing with a corresponding rapid growth of central bank liabilities; de facto maintaining a plurality of their objectives, including ensuring financial stability and reducing unemployment; and expanded participation of central banks in financing governments' budget deficits. The measures taken helped to overcome the recession in developed countries and promoted the transition to a trajectory of economic growth. The current practice of monetary policy normalization, initiated in the United States, involves a gradual increase in the key interest rate and a curtailment of central bank balances. However, in many developed countries (EU), the practice of non-traditional monetary policy is still persistent and is an important factor for determining the trends of the global economy. In general, the results of this policy can be evaluated differently, but it is important for Ukraine to conclude on the relevance of monetary policy to stimulate economic development. Global volatility, increasingly determined by trade wars and other forms of protectionism in global economies, poses challenges (primarily in terms of maintaining/enhancing export and production capacity). For the economy of Ukraine, which is vulnerable to external shocks, these factors, combined with internal centres of instability, form a bunch of complicated tasks, in particular in terms of the cessation of further loss of investment potential, which should be addressed rationally by the monetary policy instruments.

Грошово-кредитна політика в умовах глобальної нестабільності: висновки для України

The paper considers the monetary policy of leading world central banks that have been used to overcome the global financial and economic crisis in 2008-2009. Advanced developed countries, which are current world’s technological leaders, managed to overcome this crisis, primarily through monetary mechanisms. For this purpose, a non-traditional monetary policy was invented and applied for the first time. It included the following: quantitative easing with a corresponding rapid growth of central bank liabilities; de facto maintaining a plurality of their objectives, including ensuring financial stability and reducing unemployment; expanded participation of central banks in financing governments’ budget deficits. The measures taken helped to overcome the recession in developed countries and the transition to a trajectory of economic growth. The current practice of monetary policy normalization, initiated in the United States, involves a gradual increase in the key interest rate and a curtailment of central bank balances. However, in many developed countries, the practice of non-traditional monetary policy is still persistent and is an important factor for determining the trends of the global economy. In general, the results of this policy can be evaluated differently, but it is important for Ukraine to conclude on the relevance of monetary policy to stimulate economic development. Global volatility, increasingly determined by trade wars and other forms of protectionism in global economies, poses challenges (primarily in terms of maintaining/enhancing export and production capacity). For the economy of Ukraine, which is vulnerable to external shocks, these factors, combined with internal centres of instability, form a complex of complicated tasks, in particular in terms of the cessation of further loss of investment potential, which should be addressed rationally by the monetary policy instruments.

Modelling Yields at the Lower Bound Through Regime Shifts

We propose a regime-switching approach to deal with the bound on nominal interest rates in dynamic term structure modelling. In the lower bound regime, the short term rate is expected to remain constant at levels close to the effective bound; in the normal regime, the short rate interacts with other economic variables in a standard way. State-dependent regime switching probabilities ensure that the likelihood of being in the bound regime increases as short rates fall closer to zero. A key advantage of this approach is to capture the gradualism of the monetary policy normalization process following a bound episode. The possibility to return to the bound regime continues exerting an influence in the early phases of normalization, pulling expected future rates downwards. We apply our model to U.S. data and show that it captures key properties of yields at the bound. In spite of its heavier parameterization, the regime-switching model displays a competitive out-of-sample forecasting performance. It can also be used to gauge the risk of a return to the bound regime in the future. As of mid-2018, it provides a more benign assessment than alternative measures.

THE IMPACT OF EXTERNAL SHOCKS ON THE RUSSIAN ECONOMY

The article is devoted to the study of the degree of sensitivity of the Russian economy to exogenous shocks from the external environment. Indicators of the dynamics of foreign markets are changes in the global market of raw materials, financial markets of developed countries, and the propensity of foreign investors to risk. The topic of our study is relevant against the background of the current key risks for the world economy and financial system: uncertainty of the global energy market prospects due to the growth of oil production in the united States; normalization of monetary policy by developed countries, which in the future can provoke capital outflow from emerging markets; the threat of global protectionism. The article describes the potential consequences of these events for the world economy and financial system. The study uses statistical data on the real and financial sectors of the Russian economy, as well as foreign markets for the period 2002–2018. The parameters of external market conditions are world trade conditions, the volatility of the global stock and currency markets, the level of business activity in the Eurozone region, and the degree of risk and uncertainty in emerging markets. The research methodology is based on Bayesian structural vector autoregressions. The graphs of the impulse response function allow us to determine the direction of the key parameters of the Russian economy (industry, inflation, exchange rate, and sovereign risk premium) in response to changes in external environment. The contribution of external shocks to the dynamics of macroeconomic indicators is determined on the basis of the decomposition of the error variance of the model endogenous variables forecast. Our analysis confirmed the significant dependence between the dynamics of the key indicators of the Russian economy and the external markets. The author concludes that the inflation targeting regime and the policy of budget rules have a positive impact on the protection of the Russian economy from global risks.

The UK Economy: Forecast Summary

The UK economy is facing an unusual level of uncertainty because of Brexit. This uncertainty primarily stems from the yet to be defined relationship between the UK and the EU but also from the economy's response to the new framework once it emerges. The UK government's White Paper, which set out its preferences for that new relationship, has failed to unite the government or Parliament, leaving open an entire spectrum of possible outcomes.Our central forecast under a ‘soft Brexit’ scenario is that the economy will grow at a pace that is consistent with its potential. This translates to annual GDP growth of 1.4 per cent this year and 1.7 per cent next year, which is broadly unchanged from our previous forecast. The risks to our GDP growth forecast are wider than before and tilted to the downside.As before, we condition our forecast on a gentle path of monetary policy normalisation with the next 25 basis point rate increase this month. On the fiscal side, we recommend that the government maintains its current level of spending (as a share of GDP) and raises the quality of public services.

How Vulnerable are EME Corporates?

This note provides an update on the health of EME corporates and examines the extent to which they are vulnerable to risks, including those that might be associated with monetary policy normalization in advanced economies.

World Economic Prospects Monthly

Overview: slowdown persists amid mounting trade risks ▀ Mounting trade tensions, along with higher oil prices, have the potential to exacerbate the ongoing global slowdown. However, we expect neither to trigger a sharp loss of economic momentum and still see only a moderate deceleration in global GDP growth. We have kept our 2018 and 2019 world GDP growth forecasts unchanged at 3.1% and 2.9% respectively, supported by US fiscal stimulus and healthy Chinese domestic demand. ▀ The US decision to impose steel and aluminium tariffs on the EU, Canada and Mexico will, on its own, have only marginal direct economic effects, but it raises the risk of a series of tit‐for‐tat action that could prove far more damaging. The worrisome outcome of the recent G7 meeting further adds to concerns that trade relations between advanced economies will get worse before they get better. Our baseline remains that a major escalation will be avoided. But the uncertainty created could well lead to weaker investment in the short term and limit the degree to which both the US and the eurozone bounce back after their disappointing starts to the year. ▀ Solid global oil demand, supply cuts in Iran and Venezuela and pipeline constraints in the US will support a firmer oil price environment in the near term. Higher energy prices will erode household discretionary incomes and weigh on consumer spending, though stronger energy sector investment is likely to provide some offset. ▀ Eurozone economic activity is slowing this year, putting downward pressure on the euro. We still the expect the euro to appreciate against the dollar over the next 18 months in response to rising US twin deficits and a narrowing in the growth differential between the US and the eurozone. In addition, we do not think recent growth readings and currency moves will affect the ECB's plan for monetary policy normalization. ▀ Risks clouding the outlook for emerging markets (EMs) have increased, with rising oil prices and tighter financial conditions coinciding with growing trade risks and less synchronised global activity. That said, we expect a weaker dollar in the medium term to alleviate pressures, which should keep EM growth supported this year.

The UK Economy: Forecast Summary

We have revised lower our GDP forecast for 2018 to just under 1.5 per cent mainly due to weak performance in the first quarter. But the slowdown is likely to be temporary.The Commentary in this Review builds a case for higher government spending. We have, as a result, allowed for higher total managed expenditure resulting in a somewhat slower fiscal adjustment than presently planned.Following the exchange rate depreciation of June 2016, annual consumer price inflation peaked at 3.1 per cent in November 2017 and is forecast to ease back to the target rate of 2 per cent over the next eight quarters.Because of the dip in economic performance we expect the timing of our next increase in Bank Rate to be delayed to August but reiterate that the MPC should remain on a gentle path of monetary policy normalisation.

World Economic Prospects Monthly

Overview: A gentle growth slowdown from Q1's peak ▀ Recent activity indicators have provided further evidence that the synchronised global acceleration in growth started to falter in early 2018. But while we have lowered our world GDP growth forecasts for 2018 and 2019 to 3.1% and 2.9% respectively (both 0.1pp lower than last month), the pace looks set to remain strong by post‐global financial crisis standards. ▀ On balance, the news over the past month has been negative. Although the global composite PMI rose in April, this only partially reversed the previous month's sharp fall, leaving it well below its recent peak. In addition, the weakness of the services indices implies that the slowdown may be more than just a reaction to the threat of protectionism. Trade indicators have also softened a touch, and there are tentative signs that China's growth momentum has started to ease. But our growth forecasts for the US and the Eurozone remain unchanged at 2.8% and 2.2% respectively. ▀ While consumer sentiment indices have been more resilient than the business survey indicators, a key risk is that higher oil prices following the US decision to reimpose its sanctions on Iran lead to weaker real income growth and hence a slowdown in consumer spending. For now, we have made only modest upward revisions to our CPI forecasts – this reflects our view that the oil price will fall back to $72pb by year end rather than rise further. In addition, we have made some modest downward revisions to our core inflation forecasts. However, tighter oil supply means that we judge the tail risk of a sharp rise in the oil price has risen. ▀ Compared with a month ago, we now see a slightly faster deceleration in GDP growth over the next year or so. But the underlying message is still that the expansion is losing momentum only gently – growth should remain at healthy levels by post‐crisis standards. The higher oil price is unlikely to prompt an inflation surge, implying only measured monetary policy normalisation in the major economies and little risk of a stagflation‐style scenario emerging.

, 2018. : (EDB Macroreview, February 2018. EDB Economies: Positive Trends in Mutual Trade)

Russian Abstract: Рост мировой экономики в 2017 г. поддерживался увеличением деловой активности как в развитых, так и в ключевых развивающихся экономиках. В условиях ослабления рисков дефляции, а также улучшения ситуации с важным макроэкономическим параметром – безработицей наметилась тенденция нормализации денежно-кредитной политики, проводимой Федеральной резервной системой (ФРС США). Европейский центральный банк также движется в направлении снижения объемов программы количественного смягчения. Таким образом, поддерживающий эффект монетарной политики постепенно исчерпывается, но в системе сохраняется довольно много фискальных стимулов, способствующих ускорению экономического роста. Подъем инвестиций и восстановление мировой торговли стран с развитой экономикой стали третьей составляющей, обеспечившей более высокий, чем ожидалось, рост в 2017 г. Позитивная динамика экономического роста в мире стала причиной восстановления благоприятной конъюнктуры на мировых товарно-сырьевых рынках. Так, рост средней цены на нефть марки Brent в 2017 г. по сравнению с 2016 г. составил 23,5%. Цены на драгоценные металлы выросли в среднем за год на 0,4%, на недрагоценные – в среднем на 24,4%. Монетарная политика в основных экономиках мира перестанет быть главным фактором поддержки роста, однако в России и иных странах ЕАБР в настоящих условиях имеется шанс простимулировать экономику за счет достижения беспрецедентно низкой инфляции и возможности дальнейшего снижения ключевой ставки. Смягчение денежно-кредитной политики в большинстве стран региона будет поддерживать инвестиционную активность. При сохранении благоприятного внешнего фона можно предположить развитие положительных тенденций, в том числе восстановление притока зарубежных инвестиций, рост взаимной торговли стран ЕАБР. Увеличение денежных переводов трудовых мигрантов простимулирует внутренний спрос в экономиках региона, платежный баланс которых во многом зависит от этих трансфертов. English Abstract: World economic growth in 2017 was driven by an increase in business activity in both developed and key developing economies. In the context of falling deflation risk, as well as an improvement in unemployment – an important macroeconomic parameter – there has been a trend towards normalization of the US Federal Reserve System's monetary policy. The European Central Bank is also moving in the direction of reducing its quantitative easing program. Thus, monetary policy's supporting effect is gradually ending, but the system retains a lot of fiscal incentives to help accelerate economic growth. The rise in investment and the recovery of world trade in developed economies was the third component driving higher than expected growth in 2017. The world's positive economic growth trend drove a return to favorable conditions on world commodity markets. The average price for Brent crude in 2017 grew by 23.5% YoY. Prices for precious metals rose by 0.4% on average for the year, and non-precious metals grew by an average of 24.4%. Monetary policy in the main global economies will cease to be the main factor in supporting growth, but in Russia and other EDB countries, given current conditions, there is a chance to stimulate economic growth due to unprecedented low inflation and the possibility of a further lowering of the key rate. A softening of monetary policy in most of the region's countries will support investment activity. If a favorable external environment is maintained, positive trends can be expected to develop, including the restoration of foreign investment and growth of mutual trade between EDB countries. The increase in labor migrants' remittances will stimulate domestic demand in the region's economies, whose balance of payments largely depends on these transfers.

EDB Macroreview, February 2018. EDB Economies: Positive Trends in Mutual Trade

World economic growth in 2017 was driven by an increase in business activity in both developed and key developing economies. In the context of falling deflation risk, as well as an improvement in unemployment – an important macroeconomic parameter – there has been a trend towards normalization of the US Federal Reserve System's monetary policy. The European Central Bank is also moving in the direction of reducing its quantitative easing program. Thus, monetary policy's supporting effect is gradually ending, but the system retains a lot of fiscal incentives to help accelerate economic growth. The rise in investment and the recovery of world trade in developed economies was the third component driving higher than expected growth in 2017. The world's positive economic growth trend drove a return to favorable conditions on world commodity markets. The average price for Brent crude in 2017 grew by 23.5% YoY. Prices for precious metals rose by 0.4% on average for the year, and non-precious metals grew by an average of 24.4%. Monetary policy in the main global economies will cease to be the main factor in supporting growth, but in Russia and other EDB countries, given current conditions, there is a chance to stimulate economic growth due to unprecedented low inflation and the possibility of a further lowering of the key rate. A softening of monetary policy in most of the region's countries will support investment activity. If a favorable external environment is maintained, positive trends can be expected to develop, including the restoration of foreign investment and growth of mutual trade between EDB countries. The increase in labor migrants' remittances will stimulate domestic demand in the region's economies, whose balance of payments largely depends on these transfers.

Four reasons why 2018 will be the best post‐crisis year

▀ We head into 2018 in a fairly optimistic mood. The current upswing is more broadly based than any other since the global financial crisis, and – unusually by recent standards – we have entered the new year without any major crisis looming. We see world GDP growth accelerating from 3.0% last year to 3.2% in 2018, which would be the best year for the global economy since the post‐global financial crisis rebound. ▀ There are four key reasons why 2018 is going to be a good one globally: (i) strong trade growth; (ii) muted inflation keeping monetary policy accommodative; (iii) emerging markets staying robust; (iv) resilience to political uncertainty. ▀ The near‐term risk of an abrupt slowdown in China looks limited, while the Eurozone economy continues to stage robust growth which is underpinned by strong fundamentals. A potential fiscal loosening, a weaker dollar and business investment revival bode well for the US. The outlook is bright for economies that are heavily integrated into global manufacturing supply chains or reliant on commodity exports. ▀ Granted, soaring debt is a cause for concern, particularly in some emerging markets, along with high asset price valuations. They warrant close monitoring and are plausible triggers for the next global slowdown. Nonetheless, while such risks could linger or indeed escalate further before correcting, we don't see them as 2018 issues. ▀ The most obvious trigger for any such correction would be a widespread and more aggressive monetary policy normalisation. However, in our view, inflation pressures look set to build only slowly. Add the fact that high debt will make the economy more sensitive to interest rate moves, we expect central banks to normalise with caution and see policymakers doing less tightening that the consensus expectation.

World Economic Prospects Monthly

Economic OutlookVolume 41, Issue S12 p. 1-29 Article World Economic Prospects Monthly First published: 19 December 2017 https://doi.org/10.1111/1468-0319.12317AboutPDF ToolsRequest permissionExport citationAdd to favoritesTrack citation ShareShare Give accessShare full text accessShare full-text accessPlease review our Terms and Conditions of Use and check box below to share full-text version of article.I have read and accept the Wiley Online Library Terms and Conditions of UseShareable LinkUse the link below to share a full-text version of this article with your friends and colleagues. Learn more.Copy URL Share a linkShare onFacebookTwitterLinkedInRedditWechat Abstract Overview: all set for an even better year in 2018 ▀ The global economy shows no sign of losing any momentum in Q4 this year and is heading into next year in a healthy state. We have nudged up our 2018 GDP growth forecast from 3.1% to 3.2% – after 2.9% in 2017 – which would be the strongest performance since the post-global financial crisis rebound. ▀ November's global composite PMI was broadly unchanged at a very high level for the fourth month running. A small drop in the services sub-index was offset by a rise in the manufacturing index to a new cyclical peak, which bodes well for global trade prospects around the turn of the year. ▀ The Eurozone continues to perform well and, despite this year's euro strength, the manufacturing PMI rose to its second-highest reading on record in November. This manufacturing strength appears to be filtering through to stronger investment. We now see GDP growth in the Eurozone at an above-consensus 2.2% next year, only a touch slower than our forecast of 2.4% for 2017. Meanwhile, in response to an expected larger fiscal boost, we have raised our US GDP growth forecast to 2.7% in 2018, 0.4pp higher than this year. And given the more hawkish changes at the Fed, as well as stronger growth and inflation, we now see three rate hikes in 2018, one more than assumed a month ago. ▀ Given our positive outlook for the advanced economies and a fairly favourable outlook for commodity prices, we expect both manufacturers and commodity producers in emerging markets to fare well next year. Despite GDP growth in China slowing to 6.4%, we expect growth in emerging markets as a whole to rise from 4.4% this year to 4.7% in 2018, with growth in India seen accelerating sharply to 7.4%. ▀ High asset price valuations and high levels of debt, particularly in some emerging markets, are concerns and warrant monitoring. And these risks could linger or indeed escalate further before correcting. A trigger for a correction could be more aggressive monetary policy normalisation. But we expect central banks to normalise with caution and see policymakers doing less tightening than the consensus expectation. Volume41, IssueS12December 2017Pages 1-29 RelatedInformation