Inside Money, Investment, and Unconventional Monetary Policy

Transcription

1 Inside Money, Investment, and Unconventional Monetary Policy University of Basel, Department of Economics (WWZ) November 9, 2017 Workshop on Aggregate and Distributive Effects of Unconventional Monetary Policies Gerzensee

2 Content 1 Introduction 2 Environment 3 Equilibrium 4 Policy 5 Conclusion

3 Motivation After the financial crisis, many countries found themselves in a liquidity trap: Nominal interest rates equal to zero Low inflation, but not necessarily zero Open-market operations have no effect on inflation Research Question How does an economy end up in a liquidity trap and which unconventional policies should be used to escape from it?

4 Existing literature on the liquidity trap (New-)Keynesian Literature: Krugman et al. (1998), Eggertsson and Woodford (2003, 2004),Christiano et al. (2011), Eggertsson and Krugman (2012), Werning (2012), Correia et al. (2013), Guerrieri and Lorenzoni (2017), Cochrane (2017) (New-)Monetarist Literature: Williamson (2012, 2016), Rocheteau et al. (2016), Bacchetta et al. (2016)

5 Motivation Since the financial crisis, many countries experienced high base money growth rates: St. Louis Adjusted Monetary Base 4,400 4,000 3,600 3,200 Billions of Dollars 2,800 2,400 2,000 1,600 1, Source: Federal Reserve Bank of St. Louis fred.stlouisfed.org myf.red/g/ctfb Figure: Monetary base in the US.

6 Motivation But inflation stayed low: 6 Personal Consumption Expenditures: Chain-type Price Index 5 Percent Change from Year Ago Source: U.S. Bureau of Economic Analysis fred.stlouisfed.org myf.red/g/erwc Figure: Headline PCE inflation in the US.

7 Motivation In New Monetarist models, inflation is pinned down by the base money growth rate We need a model where inflation is decoupled from the base money growth rate

8 Modeling approach A model based on the framework of Lagos and Wright (2005) Illiquid capital from Lagos and Rocheteau (2008) Key innovation: Taking banks balance sheets and banks investment decisions seriously Analyze the effect of different policy measures in an endogenously arising liquidity trap

9 Preview of results A liquidity trap can occur because of: A decrease in the bonds to money ratio (US: in 2008 / 4.39 in 2014) A fall in return from capital An increase in deposits

10 Preview of results Effects of different policies in a liquidity trap: Open-market operations have no real effects Helicopter money increases inflation If negative interest rates are imposed, open-market operations have real effects

11 Content 1 Introduction 2 Environment 3 Equilibrium 4 Policy 5 Conclusion

12 The environment Time is discrete and continues forever Each period is divided into two subperiods, DM and CM Unit measure each of buyers and sellers Unit measure of banks A monetary authority A fiscal authority

13 Fiscal authority Has to finance some spending g t Can do so either by issuing one-period bonds B t or by raising lump-sum taxes τ t

14 Monetary authority Issues currency M, value of currency φ t, rate of inflation π t+1 Can issue newly created currency by: Buying government bonds lump-sum transfers to agents

15 Buyers and sellers In the CM buyers and sellers can consume and work at linear utility / disutility In the DM, buyers and sellers meet Sellers can produce a good buyers like All sellers accept currency; a share η also accepts deposits Bonds and capital can never be used to trade in the DM

16 Banks Banks are agents, live for one period In each CM, a new set of banks replaces the old ones Can t produce goods Get linear utility from consumption during their second CM

17 Banks: Deposits Agents can make nominal deposits d at banks Equilibrium interest rate on deposits is i d Banks compete for deposits, taking i d as given Banks are not anonymous and have full commitment, therefore bank deposits are tradable

18 Banks: Investment Banks can invest in capital, bonds or currency Capital is individual to each bank and has the following properties: Return f(k), earned during the following CM f (k) > 0, f (k) < 0, and f (0) =

19 The banks problem Banks choose: Deposits d t Currency share α M Bond share α B

20 The banks problem First order condition for d t : (1 α B α M )f ((1 α B α M )φ tηd t) }{{} capital + α B(1 + i B ) 1 + π t+1 } {{ } bonds Marginal return is set equal to marginal cost + α M 1 + π t+1 } {{ } currency = 1 + id 1 + π t+1 }{{} deposits

21 The banks problem First order condition for α M : f 1 ((1 α B α M )φ t ηd t ) }{{} 1 + π t+1 capital }{{} currency With equality if the constraint α M δ is non-binding For everything explained in this presentation, δ = 0 WLOG

22 The banks problem First order condition for α B : f ((1 α B α M )φ t ηd t ) 1 + ib }{{} 1 + π t+1 capital }{{} bonds With equality if the constraint α B 0 is non-binding

23 Social optimum q from u (q ) = c (q ) k from f (k ) = 1 β

24 Content 1 Introduction 2 Environment 3 Equilibrium 4 Policy 5 Conclusion

25 Bond market clearing Bonds can be held by agents and banks Bonds have no liquidity value for agents Agents hold bonds only if 1 + i B = 1+π t+1 β

26 Bond market clearing Banks hold bonds if (1 δ)i B i d If i d = 0, banks are willing to hold bonds even at i B = 0 At i B = 0, currency and bonds are perfect substitutes for banks

27 Equilibrium investment by banks fff(kk) 1 β π kk kk kk Figure: Marginal return of capital

28 Equilibrium investment by banks marginal return 1 β capital bonds π quantities currency deposits kk capital 0 kk deposits

29 Equilibrium investment by banks marginal return 1 β capital bonds π quantities currency deposits ϕ tt (BB tt bb tt MM ) bonds kk capital 0 kk kk + ϕ tt (BB tt bb tt MM ) deposits

30 Equilibrium investment by banks marginal return 1 β capital bonds π quantities currency deposits kk ϕ tt (BB tt bb tt MM ) capital bonds kk 0 kk kk + ϕ tt (BB tt bb tt MM ) kk + ϕ tt (BB tt bb tt MM ) deposits

31 Equilibrium investment by banks marginal return 1 β capital bonds π quantities currency deposits kk ϕ tt (BB tt bb tt MM ) capital bonds currency kk 0 kk kk + ϕ tt (BB tt bb tt MM ) kk + ϕ tt (BB tt bb tt MM ) deposits

32 Banks demand schedule for deposits i d deposit demand (1 δ)( 1 + π 1) β 0 d

33 Buyers supply schedule for deposits i d 1 + π 1 β deposit supply 0 d d

34 Equilibrium investment by banks marginal return 1 β capital bonds Focus on this region π quantities currency deposits kk ϕ tt (BB tt bb tt MM ) capital bonds currency kk 0 kk kk + ϕ tt (BB tt bb tt MM ) kk + ϕ tt (BB tt bb tt MM ) deposits

35 Liquidity Trap ii dd deposit demand 1 + π 1 β deposit supply (1 δ)( 1 + π 1) β 0 dd dd

36 Liquidity Trap ii dd deposit demand banks hold all bonds 1 + π 1 β deposit supply (1 δ)( 1 + π 1) β 0 dd dd

37 Liquidity Trap ii dd 1 + π 1 β deposit demand deposit supply banks hold all bonds interest rate on bonds is zero (1 δ)( 1 + π 1) β 0 dd dd

38 Liquidity Trap ii dd 1 + π 1 β (1 δ)( 1 + π 1) β deposit demand deposit supply banks hold all bonds interest rate on bonds is zero banks hold currency 0 dd dd

39 Liquidity Trap ii dd 1 + π 1 β (1 δ)( 1 + π 1) β deposit demand deposit supply banks hold all bonds interest rate on bonds is zero banks hold currency q < q 0 dd dd

40 Liquidity Trap ii dd 1 + π 1 β (1 δ)( 1 + π 1) β deposit demand deposit supply banks hold all bonds interest rate on bonds is zero banks hold currency q < q k > k 0 dd dd

41 Content 1 Introduction 2 Environment 3 Equilibrium 4 Policy 5 Conclusion

42 Policy in a liquidity trap Are open market-operations powerless? What is the effect of helicopter money? What happens if negative interest rates are implemented?

43 Policy One-time increase in M, announced one period before This policy increases inflation for one period and has real effects in LW models (see Berentsen and Waller (2011)) This increase can come through: open-market operations lump-sum transfers

44 Open-market operations To increase M by open-market operations, available bonds decrease by the same amount

45 Open-market operations in a liquidity trap In a liquidity trap, i B = 0 Banks hold all bonds Currency is a perfect substitute for bonds Open-market operations have no effect

46 Helicopter money Helicopter money is an increase in M through lump-sum transfers This policy has no effect on the quantity of bonds circulating

47 Helicopter money in a liquidity trap Helicopter money increases currency without affecting bonds The currency reaches the goods market Inflation increases for one period, hence helicopter money is non-neutral

48 How to implement helicopter money So far, helicopter money modeled as lump-sum transfer to agents Might not be legally possible for the central bank Helicopter money also works as: Purchase of goods by central bank Transfer to fiscal authority - but only if debt is not reduced!

49 Negative interest rates Negative interest rates are defined as interest paid by banks for the currency they hold Neither M t nor B t available are directly affected by this policy

50 Negative interest rates ii dd deposit demand 1 + π 1 β deposit supply δii RR + (1 δ)( 1 + π β 1) 0 ii RR dd dd Figure: Demand and supply for deposits with negative interest rates

51 Negative interest rates in a liquidity trap With negative interest rates, a liquidity trap cannot exist Banks are not willing to hold excess reserves with negative interest rates Open-market operations always effective with negative interest rates Introducing negative interest rates reduces investment in capital

52 Negative interest rates - model shortcomings Negative interest rates help because they introduce return spread between bonds and reserves In reality, bond rates negative at similar rates

53 Content 1 Introduction 2 Environment 3 Equilibrium 4 Policy 5 Conclusion

54 Conclusion A liquidity trap can exist at zero and positive inflation rates Caused by preference or production parameters, or by a scarcity of bonds Open-market operations don t affect inflation Helicopter money increases inflation temporarily With negative interest rates on reserves, open-market operations become effective again

55 References Bacchetta, P., Benhima, K., and Kalantzis, Y. (2016). Money and capital in a persistent liquidity trap. CEPR Discussion Paper No. DP Berentsen, A. and Waller, C. (2011). Prive level targeting and stabilization policy. Journal of Money, Credit and Banking, 43(2): Christiano, L., Eichenbaum, M., and Rebelo, S. (2011). When is the government spending multiplier large? Journal of Political Economy, 119(1): Cochrane, J. H. (2017). The new-keynesian liquidity trap. Journal of Monetary Economics, 92: Correia, I., Farhi, E., Nicolini, J. P., and Teles, P. (2013). Unconventional fiscal policy at the zero bound. American Economic Review, 103(4): Eggertsson, G. B. and Krugman, P. R. (2012). Debt, deleveraging, and the liquidity trap: A fisher-minsky-koo approach. The Quarterly Journal of Economics, 127(3): Eggertsson, G. B. and Woodford, M. (2003). The zero bound on interest rates and optimal monetary policy. Brookings Papers on Economic Activity, pages Eggertsson, G. B. and Woodford, M. (2004). Policy options in a liquidity trap. American Economic Review, 94(2): Guerrieri, V. and Lorenzoni, G. (2017). Credit crises, precautionary savings, and the liquidity trap. The Quarterly Journal of Economics, 132(3): Krugman, P. R., Dominguez, K. M., and Rogoff, K. (1998). It s baaack: Japan s slump and the return of the liquidity trap. Brookings Papers on Economic Activity, 1998(2): Lagos, R. and Rocheteau, G. (2008). Money and capital as competing media of exchange. Journal of Economic Theory, 142:247 Ű 258. Lagos, R. and Wright, R. (2005). A unified framework for monetary theory and policy analysis. Journal of Political Economy, 113 (3): Rocheteau, G., Wright, R., and Xiao, S. X. (2016). Open market operations. mimeo. Werning, I. (2012). Managing a liquidity trap: Monetary and fiscal policy. MIT mimeo. Williamson, S. (2012). Liquidity, monetary policy, and the financial crisis: A new monetarist approach. American Economic Review, 102 (6): Williamson, S. (2016). Scarce collateral, the term premium, and quantitative easing. Journal of Economic Theory, 164: