International Finance Discussion Papers (IFDP)
Staff working papers in the International Finance and Discussion Papers (IFDP) series are primarily materials produced by staff in the Division of International Finance. These topics are focused on, though by no means limited to, international macroeconomics, international trade, global finance, financial institutions, and markets, as well as international capital flows
Abstract: This paper analyzes the spillovers of higher U.S. interest rates on economic activity in a large panel of 50 advanced and emerging economies. We allow the response of GDP in each country to vary according to its exchange rate regime, trade openness, and a vulnerability index that includes current account, foreign reserves, inflation, and external debt. We document large heterogeneity in the response of advanced and emerging economies to U.S. interest rate surprises. In response to a U.S. monetary tightening, GDP in foreign economies drops about as much as it does in the United States, with a larger decline in emerging economies than in advanced economies. In advanced economies, trade openness with the United States and the exchange rate regime account for a large portion of the contraction in activity. In emerging economies, the responses do not depend on the exchange rate regime or trade openness, but are larger when vulnerability is high.
Keywords: U.S. Monetary Policy; Foreign Spillovers; Local Projection; Macroeconomic Transmission; Panel Data.
Abstract: In this paper we estimate the magnitude of spillovers between bond markets in the U.S. and Germany following monetary policy communications by the FOMC and the ECB. The identification of policy-related co-movements following FOMC announcements, in particular, can be difficult because many foreign bond markets, including those in Germany, are closed at the time of the announcement. To address this issue we use intraday futures market data to estimate spillovers during a narrow and overlapping event window. We find that about half of the reaction in German domestic yields spills over to U.S. yields following ECB announcements, which is nearly identical to the spillover from U.S. yields to German Bund yields following FOMC announcements. This result contrasts with the conventional wisdom that FOMC announcements spill over to other countries but that there is not much effect in the other direction. We also find that spillover estimates are slightly higher in the post-crisis period, but that there is little difference in the spillover impact
of conventional versus unconventional monetary policy. Our results based on futures prices differ noticeably from those using daily prices, which suggests that spillover estimates based on cash market data can be misleading.
Keywords: Monetary policy, quantitative easing, interest rate differentials
Abstract: Services, which are less traded than goods, rose from 50 percent of world expenditure in 1970 to 80 percent in 2015. Such structural change restrained "openness"--the ratio of world trade to world GDP--over this period. We quantify this with a general equilibrium trade model featuring non-homothetic preferences and input-output linkages. Openness would have been 70 percent in 2015, 23 percentage points higher than the data, if expenditure patterns were unchanged from 1970. Structural change is critical for estimating the dynamics of trade barriers and welfare gains from trade. Ongoing structural change implies declining openness, even absent rising protectionism.
Keywords: Globalization, Structural Change, International Trade
Abstract: The risk-taking effects of low interest rates, now prevailing in many advanced countries, "search-for-yield," can be hard to analyze due to both a paucity of data and challenges in identification. Unique, security-level data on portfolio investment into the United States allow us to overcome both problems. Analyzing holdings of investors from 36 countries in close to 15,000 unique U.S. corporate bonds between 2003 and 2016, we show that declining home-country interest rates lead investors to shift their portfolios toward riskier U.S. corporate bonds, consistent with "search-for-yield". We estimate even stronger effects when home interest rates reach a low level, suggesting that risk-taking further accelerates.
Keywords: low interest rates, risk-taking, search for yield, portfolio choice, corporate debt, United States
Abstract: Using U.S. data from 1926 to 2015, I show that financial skewness--a measure comparing cross-sectional upside and downside risks of the distribution of stock market returns of financial firms--is a powerful predictor of business cycle fluctuations. I then show that shocks to financial skewness are important drivers of business cycles, identifying these shocks using both vector autoregressions and a dynamic stochastic general equilibrium model. Financial skewness appears to reflect the exposure of financial firms to the economic performance of their borrowers.
Keywords: Cross-Sectional Skewness, Business Cycle Fluctuations, Financial Channel
Abstract: We present a monthly indicator of geopolitical risk based on a tally of newspaper articles covering geopolitical tensions, and examine its evolution and effects since 1985. The geopolitical risk (GPR) index spikes around the Gulf War, after 9/11, during the 2003 Iraq invasion, during the 2014 Russia-Ukraine crisis, and after the Paris terrorist attacks. High geopolitical risk leads to a decline in real activity, lower stock returns, and movements in capital flows away from emerging economies and towards advanced economies. When we decompose the index into threats and acts components, the adverse effects of geopolitical risk are mostly driven by the threat of adverse geopolitical events. Extending our index back to 1900, geopolitical risk rose dramatically during the World War I and World War II, was elevated in the early 1980s, and has drifted upward since the beginning of the 21st century.
Keywords: Geopolitical Risk; Economic Uncertainty; War; Terrorism; Business Cycles
Abstract: We use the Bayesian method introduced by Gallant and McCulloch (2009) to estimate consumption-based asset pricing models featuring smooth ambiguity preferences. We rely on semi-nonparametric estimation of a flexible auxiliary model in our structural estimation. Based on the market and aggregate consumption data, our estimation provides statistical support for asset pricing models with smooth ambiguity. Statistical model comparison shows that models with ambiguity, learning and time-varying volatility are preferred to the long-run risk model. We analyze asset pricing implications of the estimated models.
Keywords: Ambiguity, Bayesian estimation, equity premium, Markov-switching, long-run risk
Abstract: Using supplier-level trade data, we estimate the effect on consumer welfare from changes in U.S. imports both in the aggregate and for different household income groups from 1998 to 2014. To do this, we use consumer preferences which feature non-homotheticity both within sectors and across sectors. After structurally estimating the parameters of the model, using the universe of U.S. goods imports, we construct import price indexes in which a variety is defined as a foreign establishment producing an HS10 product that is exported to the United States. We find that lower income households experienced the most import price inflation, while higher income households experienced the least import price inflation during our time period. Thus, we do not find evidence that the consumption channel has mitigated the distributional effects of trade that have occurred through the nominal income channel in the United States over the past two decades.
Keywords: import price index, non-homotheticity, real income inequality, product variety, markups