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Zineddine Alla, Mr. Raphael A Espinoza, and Mr. Atish R. Ghosh
This paper analyzes the use of unconventional policy instruments in New Keynesian setups in which the ‘divine coincidence’ breaks down. The paper discusses the role of a second instrument and its coordination with conventional interest rate policy, and presents theoretical results on equilibrium determinacy, the inflation bias, the stabilization bias, and the optimal central banker’s preferences when both instruments are available. We show that the use of an unconventional instrument can help reduce the zone of equilibrium indeterminacy and the volatility of the economy. However, in some circumstances, committing not to use the second instrument may be welfare improving (a result akin to Rogoff (1985a) example of counterproductive coordination). We further show that the optimal central banker should be both aggressive against inflation, and interventionist in using the unconventional policy instrument. As long as price setting depends on expectations about the future, there are gains from establishing credibility by using any instrument that affects these expectations.
International Monetary Fund. Research Dept.

The Q&A in this issue features seven questions about policy options for emerging market countries (by Marcos Chamon, Chris Crowe, and Jun Il Kim); research summaries on “Does Trade and Financial Globalization Cause Income Inequality?” (by Chris Papageorgiou) and “The Current Account of Oil-Exporting Countries (by Irineu E. de Carvalho Filho); an article on the launch of the IMF’s new research journal, IMF Economic Review, and the contents of the upcoming IMF Staff Papers, which the new the new journal will succeed in 2010; an article on the upcoming Tenth Annual Jacques Polak Research Conference; a listing of visiting scholars at the IMF during July–September 2009; and listings of recent IMF Working Papers and Staff Position Notes.

International Monetary Fund. Research Dept.

The June 2016 issue of IMF Research Bulletin features an interview with Lars Svensson.

Lien Laureys, Mr. Roland Meeks, and Boromeus Wanengkirtyo
We reconsider the design of welfare-optimal monetary policy when financing frictions impair the supply of bank credit, and when the objectives set for monetary policy must be simple enough to be implementable and allow for effective accountability. We show that a flexible inflation targeting approach that places weight on stabilizing inflation, a measure of resource utilization, and a financial variable produces welfare benefits that are almost indistinguishable from fully-optimal Ramsey policy. The macro-financial trade-off in our estimated model of the euro area turns out to be modest, implying that the effects of financial frictions can be ameliorated at little cost in terms of inflation. A range of different financial objectives and policy preferences lead to similar conclusions.
Mai Chi Dao and Lucy Qian Liu
We study the effect of external financing constraint on job creation in emerging markets and developing countries (EMDC) at the firm level by looking at a specific transmission channel - the working capital channel. We develop a simple model to illustrate how the need for working capital financing of a firm affects the link between financial constraint and the firm's job creation. We show that the effect of relaxing financial constraint on job creation is greater the smaller the firm scale and the more labor-intensive its production structure. We use the World Bank Enterprise Surveys data to test the main predictions of the model, and find strong evidence for the working capital channel of external finance on firm employment.
Mr. Ludvig Söderling
This paper analyzes the determinants of credit cyclicality. It constructs a financial development index and studies whether it affects the amplitude of impulse responses to shocks to output, terms of trade, global liquidity, and global risk appetite. The paper uses both country-specific VARs for cross-country analyses and panel VARs to compare impulse responses between various country groupings. The study finds evidence that financial development-especially stronger creditor rights-can mitigate credit cyclicality, given that the response of credit to output or terms of trade shocks is stronger in countries with weaker financial systems.
Mr. Julian T Chow
Guyana’s residential real estate prices have been rising, particularly in the capital city Georgetown, following the discovery of oil in 2015. In line with the growing demand for housing, commercial banks’ housing loans have increased, prompting higher household debt. This paper presents two analyses which suggest that housing prices in Georgetown and banks’ lending to the housing sector appear to be in their early stages of growth. However, given the data limitations and caveats that underpin the analyses, the findings could also indicate early signals of possible risks. Further data collection would support surveillance and deeper studies. At the same time, enhancing prudential measures would help safeguard financial and macroeconomic stability. These include strengthening the monitoring of the housing market, bank lending practices and household debt, as well as fortifying the macroprudential framework, including with more effective toolkits for early intervention.
Benjamin Carton, Emilio Fernández Corugedo, and Mr. Benjamin L Hunt
This paper uses a multi-region, forward-looking, DSGE model to estimate the macroeconomic impact of a tax reform that replaces a corporate income tax (CIT) with a destination-based cash-flow tax (DBCFT). Two key channels are at play. The first channel is the shift from an income tax to a cash-flow tax. This channel induces the corporate sector to invest more, boosting long-run potential output, GDP and consumption, but crowding out consumption in the short run as households save to build up the capital stock. The second channel is the shift from a taxable base that comprises domestic and foreign revenues, to one where only domestic revenues enter. This leads to an appreciation of the currency to offset the competitiveness boost afforded by the tax and maintain domestic investment-saving equilibrium. The paper demonstrates that spillover effects from the tax reform are positive in the long run as other countries’ exports benefit from additional investment in the country undertaking the reform and other countries’ domestic demand benefits from improved terms of trade. The paper also shows that there are substantial benefits when all countries undertake the reform. Finally, the paper demonstrates that in the presence of financial frictions, corporate debt declines under the tax reform as firms are no longer able to deduct interest expenses from their profits. In this case, the tax shifting results in an increase in the corporate risk premia, a near-term decline in output, and a smaller long-run increase in GDP.