Discussion of Kaplan, Moll, and Violante: Monetary Policy According to HANK Keith Kuester University of Bonn Nov 5, 215 1 / 25
The idea Use the formulation of Kaplan and Violante s (KV) wealthy hand-to-mouth consumers in a sticky price business cycle model. Even relatively asset rich households respond to small shocks in a hand-to-mouth fashion. 2 / 25
The idea Key: financial frictions, in particular illiquid wealth: Two assets: capital and government bonds. Drawing down and building capital in response to shocks is very costly. But liquid wealth is costly as well (rate of return dominance) Plus, borrowing liquid is costly, too. Many households choose to be effectively liquidity-constrained. 3 / 25
Main results of the paper Intertemporal IS absent frictions (as in NK trinity model) c t = c t+1 [R t π t+1 ] Unitary direct effect of interest rate change (intertemporal substitution). Once modeling the liquidity position of households, little role for intertemporal substitution in the transmission of monetary shocks. Instead, strong role for changes in income in the transmission mechanism. Novel insight on the reasons for monetary transmission. When does the insight matter for policy? 4 / 25
The model Standard medium-scale New Keynesian sticky-price model with two assets: liquid assets: government bonds, b t illiquid asset: physical capital, a t liquidity premium in equilibrium: r a t > rb t. Standard monopolistically competitive firms. Mutual funds invest and hold real capital (how do they discount?) cashless limit: CB assumed to set interest rate on bonds according to Taylor rule and the government independently sets the supply of bonds. 5 / 25
The model idiosyncratic productivity shocks and aggregate shocks self-insurance. financial frictions on the household side 6 / 25
The model incomplete markets with borrowing constraints: b t b, a t. wedge between borrowing and lending rates r b t = r b t + κ. portfolio adjustment costs: transaction costs of deposit χ, χ 1 >, χ 2 > 1 d t χ(d t, a t ) = χ d t + χ 1 2 a χ a t t withdrawing (and depositing!) liquidity costly. 7 / 25
The model Portfolio adjustment costs 15 Adjustment Cost % of Deposit/Withdrawal 1 5.863% -5 5 Quarterly Deposit/Withdrawal, % of Stock region of inaction: Figure 3: make Calibrated no adjustments Adjustment Cost to illiquid Function assets unless sufficiently large gains from liquidity. quarterly transactions, the adjustment cost increases rapidly. cannot, basically, make large withdrawals or deposits. 4.4 Remaining Model Parameters 8 / 25
The model My understanding is that the above is quarterly. good theory for small shocks. good theory for large aggregate shocks? 9 / 25
Comment 1: how illiquid are household portfolios? KMV: all equity is assumed illiquid (3/4 either held indirectly (IRA) or in the form of private businesses): The remaining 1/4 can be liquidated easily? Retirement accounts: borrowing from 41k? Cheap and liquid? Time costs of making adjustments? 1 / 25
Comment 1: how illiquid are household portfolios? Short-term borrowing very costly: The intermediation wedge κ is large. Wedge of 24 percent annualized (pay-day lenders?). 11 / 25
Comment 1: how illiquid are household portfolios? fixed dollar amount cheaper to withdraw from a the more wealth hh has. effect on income scales one-to-one with productivity. Mechanisms that keep hhs liquidity-constrained: fixed share ξ of a hh s income each period deposited in illiquid asset automatically. Think 41k. Persistent vs. short-lived business cycle shocks? Blanchard/Yaari structure. 12 / 25
.4.2 Comment 1: how illiquid are household portfolios? -.2 1.2.4.6.8 1.1 1.9.8.8 Model SCF (b) Liquid Illiquid wealth wealth distribution lorenz curve 1.8 Model SCF Liquid wealth lorenz curve.7 Pr(b = ) =.21.6.6.6.5.4.4.4.2.3.2.2.1 -.2 1 2.2 4.4 6.6 8.8 11 $ Thousands (a) (d) Illiquid wealth distribution.16 s of Liquid and Illiquid Wealth.14 -.2.2.4.6.8 1 1.8 Model SCF (b) Illiquid wealth lorenz curve 13 / 25
Comment 1: how illiquid are household portfolios? m transfer consumed Quarterly MPC $5.7 One quarter Two quarters One year out of $5 = 26% 6 8 1 transfer ($).6.5.4.3.2.1 1 5 Illiquid Wealth ($) -1 Liquid Wealth ($) (b) holding liquidity is costly. Figure temporary 5: MPC Heterogeneity earnings shocks have little persistence. 1 2 14 / 25
Comment 1: how illiquid are household portfolios? Hold little liquid wealth. Lot s of hh s at the constraint, act like hand-to-mouth for small shocks (positive or negative). 15 / 25
in a similar fashion. Figure 7 present the results. Panel (a) shows the equilibrium time paths of prices that The monetary transmission mechanism we feed into households problem, and panel (b) reports the decomposition. 23 The main takeaway from the Figure is that the monetary transmission mechanism works almost entirely through changes in household labor income (and government transfers). In contrast, direct effects to changes in the liquid interest rate are almost non-existent. Deviation (%).5 -.5 Liquid return: r b Iliquid return: r a Real wage: W -1 5 1 15 2 Quarters (a) Prices Deviation (%).5.4.3.2.1 Baseline r b T(r b ) Only r a Only w -.1 5 1 15 2 Quarters (b) Consumption Decomposition Figure 7: Direct and Indirect Effects of Monetary Policy in HANK Direct effect of the easing of the real rate small. Column (1) of Table 6 reports the exact values of the responses of initial GDP Y and Nevertheless sizable contraction in output. initial consumption C and the corresponding decompositions. As already noted, the relevant benchmark for the representative agent New Keynesian (RANK) model is Corollary 1 which 16 / 25
The monetary transmission mechanism Effects mostly indirect, due to changes in current income. Intuition? 17 / 25
The monetary transmission mechanism Few households react by adjusting savings when real rate falls. Some do, however. Their consumption response increases demand. That increase in demand increases labor demand, and earnings. The liquidity-constrained households consume that increase in income. More demand, more income,... 18 / 25
The monetary transmission mechanism So, while the direct effect is small, the indirect effect can be large. The income is central in this theory of monetary transmission. 19 / 25
GDP, total consumption and total investment. Here, total consumption is defined as the sum of non-durable consumption and financial services C tot t of investment into capital and housing I Comment 2: Aggregate effects t tot = C t + χ t and investment is the sum = I t + H t. We plot these quantities because they provide a natural breakdown of total GDP into consumption, investment and government spending: Y t = C tot t Deviation (pp annual).5 -.5-1 + It tot + G t from (38). In response to an expansionary monetary policy Taylor rule innovation: ǫ Liquid return: r b Inflation: π -1.5 5 1 15 2 Quarters (a) MP Shock, Interest Rate, Inflation Deviation (%).4.3.2.1 Output Total Consumption Total Investment -.1 5 1 15 2 Quarters (b) Output, Consumption, Investment Figure 6: Impulse Responses of Key Aggregates Effect on output half as large as in CEE shock, the real return on liquid assets rt b falls. As explained in more detail in the next Persistence? Slope of NKPC implies Calvo-stickiness of.75 (adjustment section, this stimulates both consumption and investment and therefore aggregate GDP once every 4 qtrs)? (panel (b)). This increase in aggregate demand also results in some inflation (panel (a)). The key takeaway from this Figure is that the total responses of consumption, investment 2 / 25
Comment 2: Aggregate effects Investment responds too little relative to output. But then, what is the counterfactual? How do responses look like in rep-agent model? 21 / 25
Percent Change Luetticke Percent Change Contribution of real rate to consumption (Luetticke 215) Partial effect: interest rate moves, holding prices and income fixed 2 Partial effect 2 Total effect (GE) 1.5 1.5 1 1.5.5-5.-2.-4.-6.-8.-95.-1 Percentiles of Wealth Distribution -5.-2.-4.-6.-8.-95.-1 Percentiles of Wealth Distribution 22 / 25
Luetticke Transmission compared to rep agent (Luetticke 215) With incomplete markets: Consumption increases.15 percent more Investment increases.4 percent less percent 1.8.6.4.2 Output Y t Consumption C t Investment I t heterog. represent. 4 8 12 16 quarters percent 1.8.6.4.2 4 8 12 16 quarters percent 2 1.5 1.5.5 4 8 12 16 quarters 23 / 25
Luetticke Comment 3: (When) does microfoundation matter? Model can be used to motivate large share of hand-to-mouth hh. Does sophisticated modeling matter for practical purposes beyond this? Isn t this effectively hand-to-mouth model with fixed shares? How much does the share of liquidity-constrained hh respond, say, in a deep recession/over the cycle? State-dependence? 24 / 25
Luetticke Conclusions Absolutely thought-provoking paper. Key point: monetary transmission may go through other channels than intertemporal substitution. The monetary transmission mechanism may be impaired not only due to lack of transmission of policy rate to borrowing and lending rates. interaction of mp with labor-market frictions? expected monetary/fiscal mix matters for transmission. 25 / 25