Monetary Policy Shocks Research Articles

International spillovers of conventional versus new monetary policy

We use a calibrated open-economy New Keynesian model to compare the spillovers from conventional and new monetary policy shocks from the US to Canada. We find that shocks with similar effects on the US GDP affect Canada’s private bond yield differently. For example, a forward guidance shock increases Canada’s private bond yield by 0.15%, however a quantitative easing (QE) shock decreases it by 0.13%. Our counterfactual policy simulations for the 2008 crisis show that (1) a more aggressive QE by the Fed would have resulted in a milder recession in the US but a steeper one in Canada. (2) If the Bank of Canada had followed the Fed’s QE policies, the drop in Canada’s GDP would have been much smaller. (3) Finally, if the Fed had implemented a mild negative interest rate policy, the effects on the Canadian economy would be similar to those of the benchmark zero-rate policy.

Monetary policy and innovation in Europe: An SVAR approach

Using quarterly data, we estimate the effects of monetary policy on innovation in the Eurozone over 2000–2021. Variations in the monetary stance may affect how firms and governments allocate resources to innovative investments. The identification of the structural shocks relies on an SVAR framework with a set of exclusion restrictions. Although characterised by the predominance of ZLB periods, conventional monetary policy shocks affect private and public R&D spending in the medium term with some initial inertia. Unconventional monetary shocks affect innovative expenditure in the short to medium term, but their impacts vanish in the longer run.

Analyzing the Impact of Monetory Policy Shocks on Output, Inflation and Exchange Rate Dynamics of Pakistan

The major objective of this study is to analyse that how monetary policy of Pakistan had impact on output, inflation and exchange rate fluctuations during Global Financial Crisis 2008-2009 in Pakistan. Quarterly data was used for this purpose. Data spans from 1990Q1 to 2022Q4. Time varying parameter – vector auto regression model (TVP-VAR) of Jouchi Nakajima (2011) has been used for analysis. Through this model we selected the time horizons such as 2008, 2009 and 2015 mainly to study the impact of monetary policy on different selected variables. Our empirical finding indicates that monetary policy shock plays an important role in the economic dynamics of Pakistan. The impulse response of inflation is negative to tight monetary policy shock (εi↑→ p), this is in accordance with the standard economic theory. In case of Pakistan, after 1990 there is declining trend in volatility of output and a considerable reduction in business cycle fluctuations. Policy rate is more volatile during 1998. After 2000 there is decline in volatility of policy rate but in 2008-09 there is rise in interest rate because of Global Financial Crises in 2007 and 2008. The response of policy rate to inflation shock is in rising trend in 2007 and 2008. The inflation is increasing as a response to positive output shocks after 12th quarter this rising trend is also evident during 2008 where the impact of output on inflation is long term.

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.

Monetary policy and risk of commercial banks in Vietnam

This study investigates the bank risk-taking channel of monetary policy transmission by comprehensively analyzing multiple bank risk measurements amid monetary policy shocks in Vietnam. Using banking data for 2008–2021, a dynamic panel model is estimated to examine the risk exposure of 30 Vietnamese commercial banks. The paper employs the annual M2 money supply growth as a monetary policy variable, besides two policy interest rates established by the central bank. We find that an expansion of monetary policy benefits the quality of loan portfolios; however, reduced interest rates or an extended money supply increase insolvency risk. We also document that heightened economic growth corresponds to a reduced likelihood of credit and insolvency risks, while a surge in the inflation rate leads to an escalation in insolvency risk, manifested by a decline in the Z-score index. Overall, the findings on different risk dimensions in this paper are expected to draw a comprehensive picture of banks’ risk appetite and behavior in response to monetary changes.

The asymmetric impact of monetary policy and firm leverage on firm investment: some insights from Pakistan

PurposeThis paper aims to investigate whether negative and positive monetary policy (MP) shocks have asymmetric impacts on corporate firms’ investment decisions in Pakistan using firm-level panel data set. Moreover, the authors emphasized on symmetric effects of MP; the authors examine whether high-leverage and low-leverage firms respond differently to negative and positive unanticipated shocks in MP instruments.Design/methodology/approachIn contrast to the conventional framework of VAR, it uses an alternative methodology of Taylor rule to estimate unanticipated MP shocks. The two-step system-generalized method of movement (GMM) estimation method is applied to examine the effect of MP shocks on firm investment through leverage-based asymmetry.FindingsThe two-step system-GMM estimation results indicate that unanticipated negative changes (unfavorable shocks) in MP instruments have negative, significant effects on investment. In contrast, unanticipated positive changes (favorable shocks) have statistically insignificant impacts on firm investment. The results also reveal that firm leverage has a significant role in establishing the effect of unanticipated negative changes in MP instruments on investments. Finally, the results indicate that high-leverage firms respond more to negative changes than low-leverage firms. Yet, the results show that only low-leverage firms positively respond to unanticipated positive shocks in MP.Practical implicationsThe findings of the paper suggest that MP authorities should pay due attention to the asymmetric effects of MP shocks on firm investment while designing MP. Because firm leverage has a significant influence on the effects of MP shocks, firm managers should take into account such role of leverage while deciding capital structure of their firms.Originality/valueFirst, unlike “Keynesian asymmetry” and most of published empirical research work, the authors use both unanticipated negative and positive MP shocks simultaneously. Departing from the conventional empirical literature, the authors differentiate between unanticipated positive and negative shocks in MP using the backward-looking Taylor rule. Second, the authors contribute to the existing literature by investigating the differential effects of positive and negative unanticipated MP shocks on firms’ investment decisions. Unlike the published studies that have emphasized on the symmetric effects of MP, the authors examine whether high-leverage and low-leverage firms respond differently to negative and positive unanticipated shocks in MP instruments.

Monetary policy spillovers between the US and African Central Banks: A time- and frequency-varying connectedness study

This study investigates time and frequency connectedness between monetary policy in the US and 7 African countries to determine the extent to which US monetary policy influences policy conduct amongst African Central Banks. We use a time-varying parameter vector autoregressive (TVP-VAR) framework with frequencies to extract the spectral representation of the forecast error variance decompositions of the TVP-VAR and form 3 bands of frequency strata corresponding to long-run, medium-run and short-run. The results of the study are as follows: firstly, the static analysis shows that the US is the dominant transmitter of systemic shocks across all frequencies and the vulnerability of African countries as recipients of these shocks varies across frequency bands. Secondly, the dynamic analysis further reveals stronger short- and medium-run systemic connectedness during the periods of the Large Scale Asset Purchase programme and forward guidance policies whereas long-run connectedness is prominent during periods of US conventional monetary policy particularly in the COVID-19 era. The findings from the country-by-country dynamic spillover specifically show that countries which are more (less) responsive to US monetary policy shocks have lower (higher) inflation rates averages since the start of the pandemic. The findings suggest that African Central Banks can be benefit from higher coordination with the US Federal Reserve and we further propose that Central Banks worldwide in setting similar inflation targets.

The Effects of Shocks on the Real Economy in Romania. A Bayesian FAVAR Approach

Abstract The last five years have marked the global economy with a series of shocks, such as the COVID-19 pandemic, the war in Ukraine, supply chain bottlenecks, the surge in inflation, and the energy crisis, whose magnitude and duration were challenging to predict. Moreover, the impact of those shocks significantly affected the accuracy of macroeconomic forecasts. Thus, assessing the effects of the shocks became extremely important and conditioned by the econometric models that can capture a large amount of information. This paper proposes a Bayesian Factor-Augmented Vector Autoregressive Model (FAVAR) to assess the effects of the most prominent shocks that recently hit the real Romanian economy. We use a high-dimensional data set of quarterly indicators from 2005Q1 to 2023Q3, covering the real sector, price indexes, sentiment indicators and financial variables. Our main results suggest that tightening monetary policy shock decreases both the real economic activity and prices, while a supply shock produces a delayed negative and persistent effect on real economic activity and on the majority of the indicators introduced in the model. The results of the uncertainty shocks are characterized by wider confidence intervals and the effects are estimated to have a lower magnitude.

Efficacy of Monetary Policy Transmission During the Flexible Inflation Targeting Regime in India

This article builds a Structural Vector Autoregressive model and employs non-recursive identification restrictions to examine the effectiveness of the Monetary policy transmission mechanism in India during the Flexible Inflation Targeting regime (2016–2023). The results indicate that policy rate shocks have a significant negative impact on domestic output and prices during this regime. The findings further, reveal evidence of an exchange rate puzzle during the Flexible Inflation Targeting regime. Our results give credence to the RBI’s move towards a Flexible indicator targeting approach as all the macroeconomic variables of interest, that is, Domestic output and inflation produce plausible estimates in response to a monetary policy shock. JEL Classification: C32, E52, E5, E52, F41

What can SVAR models tell us about the impact of Monetary Policy shocks on Aggregate Demand components and Inflation in Egypt?

What can SVAR models tell us about the impact of Monetary Policy shocks on Aggregate Demand components and Inflation in Egypt?

The effect of monetary policy on inflation expectations: Evidence from a financial traders survey

While financial market participants' actions are crucial for the effectiveness of the monetary policy, the literature lacks evidence on how traders form economic expectations. Studies have argued that economic agents' inflation expectations increase as a reaction to contractive monetary policy shocks, the so-called central bank (or Fed) information effect, but have not addressed the extent to which these responses are state-dependent. This study employs individual observations of more than 100 Chilean financial traders from 2010 to 2022 to analyze how they update inflation expectations in response to monetary policy surprises, when controlling for other relevant factors. The evidence indicates that traders' reactions to policy shocks depend on the actual inflation rate, suggesting a mechanism where observed inflation reflects the central bank’s credibility and, thus, affects responses to policy actions. Results show that the size of the update depends on the disagreement amongst traders and news concerning contemporaneous inflation.

Unconventional monetary policy and policy foresight

What are the effects of unconventional monetary policy interventions on the economy? Empirical studies utilizing traditional SVAR models consistently report expansionary effects on output and prices while considering only a small number of variables. This paper is the first to present both narrative and empirical evidence indicating that these models are susceptible to policy foresight, as central banks frequently announce their unconventional policies months in advance. To address policy foresight, we estimate a Bayesian FAVAR model with an extended set of information for the Euro Area. Consistent with the existing literature, we find that an unconventional monetary policy shock boosts economic activity by increasing industrial production and reducing the unemployment rate. Notably, our estimated effects are both larger and more persistent compared to previous findings. Furthermore, the shock decreases interest rates, interest rate spreads, and government bond yields, leading to an improvement in financial conditions. In a noteworthy departure from previous research, we find significant uncertainty regarding the impacts on consumer and producer prices, highlighting the need for further research.

The monetary policy of the State Bank of Vietnam, households and income distribution: the evidence from DSGE model

PurposeThis paper aims to propose a dynamic stochastic general equilibrium (DSGE) model for the State Bank of Vietnam (SBV) to assess the response from the household sector to monetary policy shocks through the consumption function. Moreover, the transmission from monetary policy to household consumption and income distribution is experimented with through the vector autoregression (VAR) model.Design/methodology/approachIn this study, the authors used the maximum likelihood estimation to estimate the DSGE and VAR models with the sample from 1996Q1 to the end of 2021Q4 (104 observations).FindingsThe DSGE model’s results show that the response of the household sector is as expected in the theory: a monetary policy shock occurs that increases the policy interest rate by 0.29%, leading to a decrease in consumer spending of about 0.041%, the shock fades after one year. Estimates from the VAR model give similar results: a monetary policy shock narrows income inequality after about 2–3 quarters and this process tends to slow down in the long run.Research limitations/implicationsBased on the research results, the authors propose policy implications for the SBV to achieve the goal of price stability, and stabilizing the macro-economic environment in Vietnam.Originality/valueThe findings of the study have theoretical contributions and empirical scientific evidence showing the effectiveness of the implementation of the SBV’s monetary policy in the context of macro-instability, namely: flexibility, caution and coordination of different measures promptly.

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.

Cross-country differences in the effects of monetary policy shocks on output and prices and their determinants

On the basis of a sample of 19 countries and using sign-restricted VAR and second-stage regression, this research investigates whether there exist differences in the effects of monetary shocks on output and prices between countries, and, if any, which country characteristics incur such differences. The VAR analysis shows that monetary policy shocks of the same magnitude generate differences in terms of the effects on output and prices between countries. The maximal responses of industrial production indexes to a 25-basis-point shock policy rate cut range from a decrease to an over 3% increase with an average of about 1–2% increase. Those of consumer price indexes range from 0.3% to around a 2% increase, with an average of 0.9% increase. The results from regression analysis imply that various country characteristics engender disparities in the responses to monetary policy shocks. The magnitude of the output responses to monetary policy shocks is larger in countries with a monetary policy framework closer to inflation-targeting, a more flexible exchange rate regime, more rapid population aging, and a more rigid labor market, and is smaller in countries with a more independent central bank and a more developed financial market. The size of the price responses is larger in countries with higher trade openness and a more rigid labor market, and smaller in countries with a monetary policy framework closer to inflation-targeting and more rapid population aging.

Tractable bayesian estimation of smooth transition vector autoregressive models

Abstract We develop a tractable way of estimating the parameters ruling the nonlinearity in the popular Smooth Transition VAR model, and identify structural shocks using external instruments. This jointly offers an alternative to the option of identifying shocks recursively and calibrating key parameters. In an illustration, we show that monetary policy shocks generate larger effects on economic activity during economic expansions compared to economic recessions. We then document that calibrating rather than estimating the parameters ruling the nonlinearity of the model can lead to values for which the key results are lost. This suggests caution in the calibration of these parameters.

The long-run effects of monetary policy: The role of R&D investment in economic growth

This study examines the long-term economic effects of monetary policy, focusing on its impact on research and development (R&D) investment and firm productivity. Using data from Compustat, we analyze productivity’s response to monetary policy shocks, with an emphasis on the role of firm size, age, and leverage as indicators of credit constraints. We use high-frequency financial market data to identify monetary policy shocks through a local projections–instrumental variables (LP-IV) approach. Our findings reveal that smaller, younger, and less leveraged firms are more adversely affected by contractionary monetary policies, suggesting a significant impact on their R&D investments and subsequent productivity, particularly in the manufacturing sector. The findings also highlight that tight monetary policy has a persistent negative impact on firm productivity via reduced R&D investment, underscoring the need for policies like R&D subsidies to support long-term economic growth.

Missing growth and economic fluctuations: Empirical evidence from Korea

We compute missing growth due to imputation practices in Korea by applying the market share approach of Aghion et al. (2019) and investigate its contribution to the trend and the cyclicality of measurement errors in official inflation and GDP. We find that missing growth is strongly procyclical and that it correlates significantly to an oil shock and a monetary policy shock. The procyclical missing growth, together with the significant correlation with a monetary policy shock, provides additional difficulties in identifying the slope of the Phillips curve from officially measured statistics. Furthermore, missing growth complicates the policy tradeoff between inflation and output stabilization in the face of cost-push shocks, calling for a greater emphasis on inflation stabilization.

Global Spillovers from Fed Hikes and a Strong Dollar: The Risk Channel

We study the international transmission of US monetary policy shocks and a strong US dollar. We show that monetary tightening is linked to a higher risk premium, only in emerging markets, measured by deviations from uncovered interest parity. An appreciation of the US dollar, on the other hand, does not lead to higher risk premia anywhere, even though countries' currencies depreciate vis-a-vis the dollar. Our interpretation is that monetary policy shocks are a better proxy for global financial conditions than the exchange rate movements that may be capturing more fundamental shocks.

Monetary policy shock and corporate innovation: Evidence from China

This paper investigates whether and how monetary policy shock (MPS) affects corporate innovation using a large sample of 3,082 Chinese listed firms over the period 2007–2019. We provide robust evidence that firms increase their innovative activities when faced with MPS. Further analyses show that firms in competitive industries or with less market power are more inclined to increase innovation in the event of MPS, and that the influence of MPS on corporate innovation is more pronounced for firms with more growth opportunities or better financial conditions. We also find that firms tend to increase innovation to a larger extent in expansionary periods than in contractionary ones.