What new data does macro need? A flow-of-funds perspective

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1 What new data does macro need? A flow-of-funds perspective Bernhard Winkler* European Central Bank ESRC-Oxford Martin School International Macro Symposium Oxford University, 1-2 October 212 * Views expressed should not be attributed to the ECB

2 When the crisis i came, the serious limitations i i of existing i economic and financial models immediately became apparent. [ ] Macro models failed to predict the crisis and seemed incapable of explaining what was happening to the economy in a convincing manner. As a policy-maker during the crisis, I found the available models of limited help. In fact, I would go further: in the face of the crisis, we felt abandoned by conventional tools. Jean-Claude Trichet, 18 November 21 2

3 Overview I. New data & new (old) thinking II. Crisis => flow-of-funds themes: sectoral (im-)balances leverage cycles interconnectedness & real-financial loops financial structure and intermediation III. Flow-of-funds f agenda at the ECB 3

4 I. New-old thinking Financial i imbalances & credit cycles (BIS) Financial intermediation chains, securitisation and leverage targeting broker-dealers (H.S. Shin) Role of credit liberalisation and HH balance sheets for consumption (J. Muellbauer) Liquidity trap (Keynes), portfolio balance (Tobin), debt deflation (Fisher), preferred habitat (Modigliani) Role of money&credit for inflation and asset prices (Friedman, Brunner & Meltzer) => off the radar screen in standard (neo-wicksellian & representative agent) DSGE macro and state-of-the art inflation targeting 4

5 I. New-old data Economic history and history of economic thought h Deductive vs inductive economic reasoning Need to fill data gaps on new trees in the jungle. but also need a map to make macro-sense of the forest (& know what you don t know) Role for flow-of-funds of funds matrix & sectoral accounts as integrated framework: real and financial transactions flows and balance sheets sector articulation 5

6 I. FoF map of financial intermediation Assets of the nonfinancial sector Deposits Monetary Analysis Liabilities of ICPF Stocks/ Bonds Mutual fund shares Deposits ICPF Mutual fund shares MFI ICPF Liability Deposits ICPF Liability OFI Mutual fund shares/ Loans Stocks/ Bonds Stocks/ Bonds Stocks/ Bonds Stocks/ Bonds Financial Markets Loans Loans Stocks/ Bonds Loans Liabilities of the nonfinancial sector 6

7 I. ECB filling G2 data gaps The ECB has put in place statistics on non-bank financial intermediaries (shadow banking): Quarterly euro area integrated sector accounts Balance sheet information of Money Market Funds (MMFs), Investment Funds (IFs) and Financial Vehicle Corporations (FVCs) Balance sheet data on Insurance Corporations and Pension Funds (ICPFs) These statistics are in the process of being further enhanced by 214 inter alia to implement ESA21 Harmonised and complete statistics on insurance corporations will follow under a new ECB Regulation 7

8 II. Sectoral balances in the Euro Area Euro Area Surplus vs. Deficit countries (% of GDP, four-quarter moving sum) (% of GDP, four-quarter moving sum) 6 households financial corporations euro area non-financial corporations government 6 6 government of external deficit group government of external surplus group private sector of external deficit group private sector of external surplus group euro area Surplus group Deficit group Sources: Eurostat, ECB. Latest observation: 211Q4. Surplus countries (current account): Belgium, Germany, Luxembourg, the Netherlands, Austria and Finland -6 8

9 II. Sector decomposition of debt ratios A. Euro area (% of GDP) B. US (% of GDP) NFCs Households Governmnet Financial institutions (rhs) NFCs Households Governmnet Financial institutions (rhs) Last observation: 212Q1 Source: ECB, Eurostat, Fed.

10 II. Leverage cycle: a cross sector view Leverage and change in notional leverage. Contributions by sector (% of assets; year-on-year changes in the euro area notional leverage ratio, year-on-year changes in contributions to the ratio by sector; percentages) NFCs Financial Institutions Government Households Total change Leverage ratio Leverage= Debt / Assets How to increase A D D L = D A 1 = A D D + 1 (decrease leverage)?: Δ( A D) S A. Increase net assets (thus savings): A.1 Some agents have to accommodate the increasing savings: government? Rest of the world? A.2 Capital formation B. Liquidation of debt: D, A B.1 Asset price decreases, self-defeating leverage loop (Adrian, Shin, 21), disorderly deleveraging B.2 Consolidation/nonconsolidated Source: ECB, Eurostat. Latest observation: 212Q1 Notes: The leverage ratio is calculated as notional debt liabilities divided by total notional assets. The contributions by sector are calculated as the ratios of each sector debt to total assets of the euro area. 1

11 IV. Uses of Flow of Funds a) FoF matrix as extension of money demand b) FoFF and real-financial i l transmission i c) FoF projections and cross-checking d) FoF and macro-financial risk analysis Cross-sectoralsectoral gross balance sheet exposures (Castren-Kavonius 29) HH ROW OFI NFC MFI GOVT INS 11

12 Useful references October 211 ECB Monthly Bulletin article on flowof-funds perspective on the financial crisis February 212 MB Box 3 &April212 ECB Financial Integration Report: Feature E on sectoral balances ECB Working Paper No. 142 (211) by Riccardo Bonci on transmission of monetary policy via FoF Chapter 7 on cross-checkingchecking and the flow-of-funds, of funds, in Papademos and Stark (eds.): Enhancing Monetary Analysis, ECB October 21 Euro area accounts, including country financial accounts data, on ECB website (statistical data warehouse) 12

13 BACKGROUND SLIDES Bernhard Winkler* European Central Bank ESRC-Oxford Martin School International Macro Symposium Oxford University, 1-2 October 212 * Views expressed should not be attributed to the ECB

14 I. Sectoral Accounts (I) 27 First publication of annual integrated euro area accounts in the ECB Monthly Bulletin Implementation ti Publication Eu ropean Cen ntral Bank & Eurostat 28 First publication of quarterly integrated euro area accounts Seasonally adjusted non-financial accounts Loans and deposits on a from-whom-to-whom basis Non-financial assets Early estimates at t Enhanced publication (covering national data) EUROSTAT 14

15 I. Sectoral Accounts (II) Review ESA TP and MUFA Guideline in the context of implementing ESA 21 Further development EMU III Serviceability of the accounts Timeliness From-whom-to-whom (securities) Split of other flows Building blocks improvement Seasonal adjustment (financial accounts and balance sheets) Further support ESRB Accuracy and Reliability Enhance integration NFA FA Methodological soundness (ESA 21) Common revision practice 22 EUROSTAT 15

16 II. Sectoral balances in the euro area Euro area net lending / net borrowing by sector (EUR billions; four-quarter moving sum) households non-financial corporations financial corporations government euro area Sources: Eurostat, ECB. Latest observation: 212Q1. Net lending adjusted for transactions in nonproduced assets 16

17 II. Sectoral net lending/net borrowing by country grouping (deficit and surplus countries) Surplus countries Deficit countries (% of GDP, four-quarter moving sum) (% of GDP, four-quarter moving sum) government financial corporations non-financial corporations households total economy Sources: Eurostat, ECB. Latest observation: 211Q4. Surplus countries (current account): Belgium, Germany, Luxembourg, the Netherlands, Austria and Finland 17

18 II. Notional leverage ratio & active leverage Active leverage Example: debt to asset ratio, financial institutions behaviour is measured Year on year change of logarithms, contributions by the change in Changes in asset prices Changes in debt prices.1.1 notional stock of debt to Active leverage (changes in the notional ratio) debt to financial assets (headline ratio) asset ratio.8.8 Notional stocks are transactions cumulated on outstanding amounts since 1999 Thereby price effects are excluded (besides price changes affecting the transactions themselves) Sources: Eurostat, ECB Latest observation: 212Q

19 III. Uses of FoF a) Flow of funds matrix as natural extension of money demand Monetarist tradition on money, wealth and asset markets (Brunner/Meltzer): MV=PT role of real vs. financial transactions? Tobin (1969) portfolio balance approach, Ramb & Scharnagl (211) Financial Ideal Demand Systems (Deaton/Muellbauer, Blake) Asset demand in portfolio balance model: Demand by instrument r C+D r B r Eq r Ins Y W t-1 S Currency & Deposits a 1 b 1 c 1 d 1 e 1 f 1 g 1 Debt securities a 2 b 2 c 2 d 2 e 2 f 2 g 2 Shares and equity a 3 b 3 c 3 d 3 e 3 f 3 g 3 Insurance reserves a 4 b 4 c 4 d 4 e 4 f 4 g 4 Financial wealth

20 III. Uses of FoF b) The flow of funds and real-financial transmission VAR: Bonci (as CEE 1996) monetary policy impact on FoF variables FAVAR, BVAR, factor models revisit Brainard & Tobin (1968), Backus & Purvis (198) Impact of MP shock on firms (Bonci 211): 4 Total financial liabilities 2 Total financial assets

21 III. Uses of FoF c) The flow of funds projections and cross-checking Part of macro-projections since 23: models & accounting identities Enhanced in 28: expand on balance sheets / financial sector Use for monetary-financial scenarios around baseline Sectoral net lending / net borrowing in baseline Nonfinancial Households Financial corporations corporations Government Total

22 III. Uses of FoF d) The flow of funds and macro-financial risk analysis Flow of funds map fin. structure, leverage and intermediation chains (Adrian/Shin; Geanokoplos, ) Approaches with endogenous financial i instability (Minsky, Austrians) Network of interlinked balance sheets for macro-prudential analysis Cross-sectoral gross balance sheet exposures (Castren-Kavonius 29) HH ROW OFI NFC MFI GOVT INS 22