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This note reviews the legal issues and concerns that are likely to play an important role in the ongoing deliberations of the Federal Constitutional Court of Germany concerning the legality of ECB government bond purchases such as those conducted in the context of its earlier Securities Market Programme or potential future Outright Monetary Transactions.
This paper summarizes key elements of the German Federal Constitutional Court’s decision on the European Central Bank’s Public Sector Asset Purchase Programme. It briefly explains how it is possible for the German Court to disagree with the ruling of the Court of Justice of the European Union. Finally, it makes suggestions concerning a practical way forward for the Governing Council of the ECB in light of these developments.
This paper empirically investigates how organizational hierarchy affects the allocation of credit within a bank. Using an exogenous variation in organizational design, induced by a reorganization plan implemented in roughly 2,000 bank branches in India during 1999-2006, and employing a difference-in-differences research strategy, we find that increased hierarchization of a branch decreases its ability to produce "soft" information on loans, leads to increased standardization of loans and rationing of "soft information" loans. Furthermore, this loss of information brings about a reduction in performance on loans: delinquency rates and returns on similar loans are worse in more hierarchical branches. We also document how hierarchical structures perform better in environments that are characterized by a high degree of corruption, thus highlighting the benefits of hierarchical decision making in restraining rent seeking activities. Finally, we document a channel - managerial interference - through which hierarchy affects loan outcomes.
In the euro area, monetary policy is conducted by a single central bank for 20 member countries. However, countries are heterogeneous in their economic development, including their inflation rates. This paper combines a New Keynesian model and a neural network to assess whether the European Central Bank (ECB) conducted monetary policy between 2002 and 2022 according to the weighted average of the inflation rates within the European Monetary Union (EMU) or reacted more strongly to the inflation rate developments of certain EMU countries.
The New Keynesian model first generates data which is used to train and evaluate several machine learning algorithms. They authors find that a neural network performs best out-of-sample. They use this algorithm to generally classify historical EMU data, and to determine the exact weight on the inflation rate of EMU members in each quarter of the past two decades. Their findings suggest disproportional emphasis of the ECB on the inflation rates of EMU members that exhibited high inflation rate volatility for the vast majority of the time frame considered (80%), with a median inflation weight of 67% on these countries. They show that these results stem from a tendency of the ECB to react more strongly to countries whose inflation rates exhibit greater deviations from their long-term trend.
The recent sovereign debt crisis in the Eurozone was characterized by a monetary policy, which has been constrained by the zero lower bound (ZLB) on nominal interest rates, and several countries, which faced high risk spreads on their sovereign bonds. How is the government spending multiplier affected by such an economic environment?While prominent results in the academic literature point to high government spending multipliers at the ZLB, higher public indebtedness is often associated with small government spending multipliers. I develop a DSGE model with leverage constrained banks that captures both features of this economic environment, the ZLB and fiscal stress. In this model, I analyze the effects of government spending shocks. I find that not only are multipliers large at the ZLB, the presence of fiscal stress can even increase their size. For longer durations of the ZLB,multipliers in this model can be considerably larger than one.
JEL Classification: E32, E 44, E62
I have assessed changes in the monetary policy stance in the euro area since its inception by applying a Bayesian time-varying parameter framework in conjunction with the Hamiltonian Monte Carlo algorithm. I find that the estimated policy response has varied considerably over time. Most of the results suggest that the response weakened after the onset of the financial crisis and while quantitative measures were still in place, although there are also indications that the weakening of the response to the expected inflation gap may have been less pronounced. I also find that the policy response has become more forceful over the course of the recent sharp rise in inflation. Furthermore, it is essential to model the stochastic volatility relating to deviations from the policy rule as it materially influences the results.
The Federal Reserve has been publishing federal funds rate prescriptions from Taylor rules in its Monetary Policy Report since 2017. The signals from the rules aligned with Fed action on many occasions, but in some cases the Fed opted for a different route. This paper reviews the implications of the rules during the coronavirus pandemic and the subsequent inflation surge and derives projections for the future.
In 2020, the Fed took the negative prescribed rates, which were far below the effective lower bound on the nominal interest rate, as support for extensive and long-lasting quantitative easing. Yet, the calculations overstate the extent of the constraint, because they neglect the supply side effects of the pandemic.
The paper proposes a simple model-based adjustment to the resource gap used by the rules for 2020. In 2021, the rules clearly signaled the need for tightening because of the rise of inflation, yet the Fed waited until spring 2022 to raise the federal funds rate. With the decline of inflation over the course of 2023, the rules’ prescriptions have also come down. They fall below the actual federal funds rate target range in 2024. Several caveats concerning the projections of the interest rate prescriptions are discussed.
In this paper we investigate the comparative properties of empirically-estimated monetary models of the U.S. economy using a new database of models designed for such investigations. We focus on three representative models due to Christiano, Eichenbaum, Evans (2005), Smets and Wouters (2007) and Taylor (1993a). Although these models differ in terms of structure, estimation method, sample period, and data vintage, we find surprisingly similar economic impacts of unanticipated changes in the federal funds rate. However, optimized monetary policy rules differ across models and lack robustness. Model averaging offers an effective strategy for improving the robustness of policy rules.
Recently there has been an explosion of research on whether the equilibrium real interest rate has declined, an issue with significant implications for monetary policy. A common finding is that the rate has declined. In this paper we provide evidence that contradicts this finding. We show that the perceived decline may well be due to shifts in regulatory policy and monetary policy that have been omitted from the research. In developing the monetary policy implications, it is promising that much of the research approaches the policy problem through the framework of monetary policy rules, as uncertainty in the equilibrium real rate is not a reason to abandon rules in favor of discretion. But the results are still inconclusive and too uncertain to incorporate into policy rules in the ways that have been suggested.
During the 1970s, industrial countries, including the US and continental Europa, experienced a combination of slow productivity growth and high unemplyoment. Subsequent research has shown that the standard model of unemployment actually gives counterfactual predictions. Motivated by the observation that the 1970s were also characterized by high and rising inflation, Tesfaselassie and Wolters examine the effect of growth on unemployment in the presence of nominal price rigidity.
The authors demonstrate that the effect of growth on unemployment may be positive or negative. Faster growth leads to lower unemployment if the rate of inflation is high enough. There is a threshold level of inflation below which faster growth leads to higher unemployment and above which faster growth leads to lower unemployment. The threshold level in turn depends on labor market characteristics, such as hiring efficiency, the job destruction rate, workers' relative bargaining power and the opportunity cost of work.
The withdrawal of foreign capital from emerging countries at the height of the recent financial crisis and its quick return sparked a debate about the impact of capital flow surges on asset markets. This paper addresses the response of property prices to an inflow of foreign capital. For that purpose we estimate a panel VAR on a set of Asian emerging market economies, for which the waves of inflows were particularly pronounced, and identify capital inflow shocks based on sign restrictions. Our results suggest that capital inflow shocks have a significant effect on the appreciation of house prices and equity prices. Capital inflow shocks account for - roughly - twice the portion of overall house price changes they explain in OECD countries. We also address crosscountry differences in the house price responses to shocks, which are most likely due to differences in the monetary policy response to capital inflows.
We examine both the degree and the structural stability of inflation persis tence at different quantiles of the conditional inflation distribution. Previous research focused exclusively on persistence at the conditional mean of the inflation rate. Economic theory, however, provides various reasons -for example downward wage rigidities or menu costs- to expect higher inflation persistence at the upper than at the lower tail of the conditional inflation distribution.
Based on post-war US data we indeed find slower mean reversion in response to positive than to negative shocks. We find robust evidence for a structural break in persistence at all quantiles of the inflation process in the early 1980s. Inflation persistence has decreased and become more homogeneous across quantiles. Persistence at the conditional mean became more informative about the degree of persistence across the entire conditional inflation distribution. While prior to the 1980s inflation was not mean reverting in response to large positive shocks, our evidence strongly suggests that since the end of the Volcker disinflation the unit root can be rejected at every quantile including the upper tail of the conditional inflation distribution.
This paper outlines relatively easy to implement reforms for the supervision of transnational banking-groups in the E.U. that should not be primarily based on legal form but on the actual risk structures of the pertinent financial institutions. The proposal also aims at paying close attention to the economics of public administration and international relations in allocating competences among national and supranational supervisory bodies. Before detailing the own proposition, this paper looks into the relationship between sovereign debt and banking crises that drive regulatory reactions to the financial turmoil in the Euro area. These initiatives inter alia affirm effective prudential supervision as a pivotal element of crisis prevention. In order to arrive at a more informed idea, which determinants apart from a perceived appetite for regulatory arbitrage drive banks’ organizational choices, this paper scrutinizes the merits of either a branch or subsidiary structure for the cross-border business of financial institutions. In doing so, it also considers the policy-makers perspective. The analysis shows that no one size fits all organizational structure is available and concludes that banks’ choices should generally not be second-guessed, particularly because they are subject to (some) market discipline. The analysis proceeds with describing and evaluating how competences in prudential supervision are currently allocated among national and supranational supervisory authorities. In order to assess the findings the appraisal adopts insights form the economics of public administration and international relations. It argues that the supervisory architecture has to be more aligned with bureaucrats’ incentives and that inefficient requirements to cooperate and share information should be reduced. Contrary to a widespread perception, shifting responsibility to a supranational authority cannot solve all the problems identified. Resting on these foundations, the last part of this paper finally sketches an alternative solution that dwells on far-reaching mutual recognition of national supervisory regimes and allocates competences in line with supervisors’ incentives and the risk inherent in crossborder banking groups.
This paper looks into the specific influence that the European banking union will have on (future) bank client relationships. It shows that the intended regulatory influence on market conditions in principle serves as a powerful governance tool to achieve financial stability objectives.
From this vantage, it analyzes macro-prudential instruments with a particular view to mortgage lending markets – the latter have been critical in the emergence of many modern financial crises. In gauging the impact of the new European supervisory framework, it finds that the ECB will lack influence on key macro-prudential tools to push through more rigid supervisory policies vis-à-vis forbearing national authorities.
Furthermore, this paper points out that the current design of the European bail-in tool supplies resolution authorities with undue discretion. This feature which also afflicts the SRM imperils the key policy objective to re-instill market discipline on banks’ debt financing operations. The latter is also called into question because the nested regulatory technique that aims at preventing bail-outs unintendedly opens additional maneuvering space for political decision makers.
This paper analyzes the bail-in tool under the Bank Recovery and Resolution Directive (BRRD) and predicts that it will not reach its policy objective. To make this argument, this paper first describes the policy rationale that calls for mandatory private sector involvement (PSI). From this analysis, the key features for an effective bail-in tool can be derived.
These insights serve as the background to make the case that the European resolution framework is likely ineffective in establishing adequate market discipline through risk-reflecting prices for bank capital. The main reason for this lies in the avoidable embeddedness of the BRRD’s bail-in tool in the much broader resolution process, which entails ample discretion of the authorities also in forcing private sector involvement. Moreover, the idea that nearly all positions on the liability side of a bank’s balance sheet should be subjected to bail-in is misguided. Instead, a concentration of PSI in instruments that fall under the minimum requirements for own funds and eligible liabilities (MREL) is preferable.
Finally, this paper synthesized the prior analysis by putting forward an alternative regulatory approach that seeks to disentangle private sector involvement as a precondition for effective bank-resolution as much as possible form the resolution process as such.
The bail-in tool as implemented in the European bank resolution framework suffers from severe shortcomings. To some extent, the regulatory framework can remedy the impediments to the desirable incentive effect of private sector involvement (PSI) that emanate from a lack of predictability of outcomes, if it compels banks to issue a sufficiently sized minimum of high-quality, easy to bail-in (subordinated) liabilities. Yet, even the limited improvements any prescription of bail-in capital can offer for PSI’s operational effectiveness seem compromised in important respects.
The main problem, echoing the general concerns voiced against the European bail-in regime, is that the specifications for minimum requirements for own funds and eligible liabilities (MREL) are also highly detailed and discretionary and thus alleviate the predicament of investors in bail-in debt, at best, only insufficiently. Quite importantly, given the character of typical MREL instruments as non-runnable long-term debt, even if investors are able to gauge the relevant risk of PSI in a bank’s failure correctly at the time of purchase, subsequent adjustment of MREL-prescriptions by competent or resolution authorities potentially change the risk profile of the pertinent instruments. Therefore, original pricing decisions may prove inadequate and so may market discipline that follows from them.
The pending European legislation aims at an implementation of the already complex specifications of the Financial Stability Board (FSB) for Total Loss Absorbing Capacity (TLAC) by very detailed and case specific amendments to both the regulatory capital and the resolution regime with an exorbitant emphasis on proportionality and technical fine-tuning. What gets lost in this approach, however, is the key policy objective of enhanced market discipline through predictable PSI: it is hardly conceivable that the pricing of MREL-instruments reflects an accurate risk-assessment of investors because of the many discretionary choices a multitude of agencies are supposed to make and revisit in the administration of the new regime. To prove this conclusion, this chapter looks in more detail at the regulatory objectives of the BRRD’s prescriptions for MREL and their implementation in the prospectively amended European supervisory and resolution framework.
This paper analyzes the evolving architecture for the prudential supervision of banks in the euro area. It is primarily concerned with the likely effectiveness of the SSM as a regime that intends to bolster financial stability in the steady state. By using insights from the political economy of bureaucracy it finds that the SSM is overly focused on sharp tools to discipline captured national supervisors and thus underincentives their top-level personnel to voluntarily contribute to rigid supervision. The success of the SSM in this regard will hinge on establishing a common supervisory culture that provides positive incentives for national supervisors. In this regard, the internal decision making structure of the ECB in supervisory matters provides some integrative elements. Yet, the complex procedures also impede swift decision making and do not solve the problem adequately. Ultimately, a careful design and animation of the ECB-defined supervisory framework and the development of inter-agency career opportunities will be critical.
The ECB will become a de facto standard setter that competes with the EBA. A likely standoff in the EBA’s Board of Supervisors will lead to a growing gap in regulatory integration between SSM-participants and other EU Member States.
Joining the SSM as a non-euro area Member State is unattractive because the current legal framework grants no voting rights in the ECB’s ultimate decision making body. It also does not supply a credible commitment opportunity for Member States who seek to bond to high quality supervision.
How special are they? - Targeting systemic risk by regulating shadow banking : (October 5, 2014)
(2014)
This essay argues that at least some of the financial stability concerns associated with shadow banking can be addressed by an approach to financial regulation that imports its functional foundations more vigorously into the interpretation and implementation of existing rules. It shows that the general policy goals of prudential banking regulation remain constant over time despite dramatic transformations in the financial and technological landscape. Moreover, these overarching policy goals also legitimize intervention in the shadow banking sector. On these grounds, this essay encourages a more normative construction of available rules that potentially limits both the scope for regulatory arbitrage and the need for ever more rapid updates and a constant increase in the complexity of the regulatory framework. By tying the regulatory treatment of financial innovation closely to existing prudential rules and their underlying policy rationales, the proposed approach potentially ends the socially wasteful race between hare and tortoise that signifies the relation between regulators and a highly dynamic industry. In doing so it does not generally hamper market participants’ efficient discoveries where disintermediation proves socially beneficial. Instead, it only weeds-out rent-seeking circumventions of existing rules and standards.
Das Banken- und Versicherungsaufsichtsrecht benennt an mehreren Stellen ausdrücklich gruppenbezogene Pflichten des übergeordneten Unternehmens. Deren Realisierbarkeit hängt von gesellschafts-, insbesondere konzernrechtlichen Schranken ab, die für die Einflussnahme auf nachgeordnete Gruppenunternehmen bestehen. Der vorliegende Beitrag betrachtet das Zusammenspiel von Aufsichts- und Gesellschaftsrecht unter besonderer Berücksichtigung der regelungstragenden Ziele des ersteren. Die Gruppenverantwortung ist in dieser Sicht ein Institut, das zur Verwirklichung eines klar umrissenen, öffentlichen Interesses an der Befolgung bestimmter Normen das übergeordnete Unternehmen als interne Kontrollinstanz in die Pflicht nimmt und mit gruppendimensionalen Handlungspflichten belegt. Zur Gewährleistung der Effektivität dieses Instituts ist ein sektoral begrenzter Vorrang der aufsichtsrechtlichen Vorgaben anzuerkennen. Dieser ist durch die angemessene Berücksichtigung des mit dem Aufsichtsrecht verfolgten, öffentlichen Interesses als normativer Determinante der Leitungstätigkeit aller gruppenangehörigen Institute zu verwirklichen.