asymmetric monetary policy in the euro area a new role for the ecb
TRANSCRIPT
Asymmetric monetary policy in the Euro Area
A new role for the ECB
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Agenda1. Introduction2. Definition of asymmetric monetary policy3. Why asymmetric4. Focus on the Euro Area5. Objective of the model6. Structure of the model7. The outcome8. The model9. Limitations10.Evidences
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Definition
• Use of conventional monetary tools differently across financial institutions of the Member States of a Monetary Union
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Why Asymmetric?
Theory: A monetary union is sustainable over the long-term if business cycles converge over time.
Implication: Either shocks must be symmetric in nature and have the same impact across
Member States or the currency area must be endowed with a “flexible” economic structure allowing for shocks to spread similarly across
countries (Optimal Currency Area-OCA)
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Focus on the Euro Area
The Euro Area is not an optimal currency area
1. Prices and wage flexibility2. Labor and capital mobility
Especially…3. Constrained national fiscal policies
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Objective of the model1. Show how idiosyincratic shocks lead to
diverging inflation and output gaps across Member States via the impact on the market for reserves
2. Analyze the results achieved by uniform vs. asymmetric monetary policy.
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Structure of the model Two countries: Greece and Germany Two representative banks Idyosincratic shocks provoke:• Lower amount/value of collateral• Higher interbank interest rate Impact on the reserve market• Main refinancing operations• Overnight Interbank market• Marginal Lending Facility Monetary Tools:• Collateral requirements when borrowing at the ECB• Interest rate on the Marginal Lending Facility
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Collateral shock- The outcome1. MROsGreek (German) banks obtain fewer (more) reserves than required
2. Interbank marketShortage filled in the interbank market and MLF (costly)
3. ResultGreek banks are worse off and German banks better off
4. Uniform Monetary PolicyIncrease money supply and lower minimum interest rate leads to
higher inflation in Germany
5. Asymmetric monetary policyAccept less valuable collateral by Greek banks offsets the initial fall in
the value of collateral
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Interbank rate shock-The outcome1. MROsGerman(Greek) banks obtain fewer (more) reserves than required
2. Interbank marketGerman banks are NOT worse off
3. ResultGreek banks are still worse off
4. Uniform Monetary Policy Lower imlf for both banks leads to a lower interbank rate for
German banks
5. Asymmetric monetary policyLower imlf for greek banks only lowes their interbank interest rate
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The model• Formula:
• Linear function instead of step function• Constant marginal cost of collateral (B)
(Ewerhart, Cassola, Valla 2006)
• Focus on two banks: Greek and German• First, equal collateral and interbank rate• Then, the shock modifies the collateral and/or the interbank
rate of one of the two banks (idyosincratic shocks)
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Inverse bid schedule
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Inverse bid schedule-modification
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Overnight interbank market
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Supply and demand schedule-Modification
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Collateral shock for Greek banks
Inverse bid schedules Collateral for german banks constant
Bgree falls
Assume supply of reserves remains constantThe stop out rate fallsEXTRA reserves for German banksSHORTAGE of reserves for Greek banks
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Collateral shock for Greek banks
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Collateral shock for Greek banks
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Collateral shock for Greek banks
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Collateral shock for Greek banksUniform monetary policy
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Collateral shock for Greek banksUniform monetary policy
• Extra reserves are likely to increase the amount of loans German banks can make, leading to a stronger economic activity in Germany, eventually putting upward pressure to prices.
• Instead, if extra reserves are hoarded, then German
banks position would worsen.
• As the mandate of the ECB is primarily to guarantee overall price stability, the change in inflation rates for countries that have not suffered the shock (Germany) limits the scope of intervention.
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Collateral shock for Greek banksAsymmetric monetary policy
• If the ECB allowed different financial institutions to post different assets as collateral in the auction, then the shock suffered by Greek banks would be limited.
• By allowing Greek banks to have a wider pool of assets to use in the tender procedures, the MC of posting collateral will be diminished. This corresponds to an outward pivot of the inverse bid schedule for Greek banks, as opposed to the inward pivot caused by the initial shock.
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Collateral shock for Greek banksAsymmetric monetary policy
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Model Limitations
• Moral hazardDiscretionary Monetary policyAccept only assets whose fall in price does not depend on the risk
undertaken by the banks
• Greek banks-makes sense?Multinational banks branches also borrow in the MROs
Benchmark (% of lending in Greece as a portion of total loans) to avoid arbitrage
• Longer term refinancing operationsThe model is still valid: both auction and interbank market
• Static• Close economy
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Interbank interest rate shock
• Inverse bid schedule Interbank rate for German banks
constant
for greek banks increases
Assume supply of reserves remains constantThe stop out rate risesEXTRA reserves for Greek banksSHORTAGE of reserves for German banks
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Interbank interest rate shock
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Interbank interest rate shock
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Interbank interest rate shockUniform monetary policy
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Interbank interest rate shockAsymmetric monetary policy
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Optimal currency areas and the Euro Area
Were business cycles synchronized? NO. In fact, Maastricht convergence criteria.
Are they now ? “Revenge of the optimum currency area” – recent article by Paul Krugman“The EMU has not affected historical characteristics of member countries’
business cycles and their cross-correlations”-ECB Working Paper 1010 , (2009 )
Instead, “One significant feature of Euro Area inflation differentials is their
persistence” - Jean-Claude Trichet (2006)
What went missing? OCA criteria.
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Empirical exercise
• Taylor rule approachDivergence between ECB targeted interest rate (the Eonia) and
the optimal interest rate (the rate each NCB would have target in absence of a monetary union).
DataIMF
Annual Natural real interest rate calculated via the taylor rule
Different response coefficients attempted
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Optimal interest rate vs Eonia
If the Euro Area is an optimal MU, the two rates equal each other.
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Divergence Table
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Eonia
Austria
BelgiumCypru
s
Finland
France
Germany
Greece
Ireland
Italy
Malta
Netherlands
Portugal
Slovak Republic
SloveniaSpain
-8
-6
-4
-2
0
2
4
6 Average divergence 2009-2011D
ista
nce
of th
e op
timal
rate
s fr
om th
e eo
nia
=0.6
7
Alessandro Cordova - Asymmetric Monetary Policy
342001 2002 2003 2004 2005 2006 2007 2008 2009 2010 20110
0.5
1
1.5
2
2.5
3
3.5
4
4.5Two Europes
Abs
olut
e di
stan
ce fr
om th
e eo
nia
2001
-201
1
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ECB min. b
id rate
Austria
Belgium
Finland
France
Germany
Greece
Ireland
Italy
Netherlands
Portugal
Spain
-2
-1
0
1
2
3
4
5
2001-2011 distance in average terms with ECB minimum bid rate
2001
-201
1 di
stan
ce in
ave
rage
term
s
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362001 2002 2003 2004 2005 2006 2007 2008 2009 2010 20110
5
10
15
20
25
30
35
40
Evolution of divergenceAb
solu
te d
ista
nce
of o
ptim
al ra
tes
from
the
eoni
a
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Results
• All these evidences aim at showing the limit of a non-optimal MU: no single country is able to achieve its optimal response to current economic conditions.
• The cost may become very high when shocks are isolated and national fiscal policies are constrained by political inertia or high costs of borrowings.
• This is where asymmetric monetary policy comes in.