Category Archives: Papers

Leaning Against the Wind: Costs and Benefits, Effects on Debt, Leaning in DSGE Models, and a Framework for Comparison of Results

Leaning Against the Wind: Costs and Benefits, Effects on Debt, Leaning in DSGE Models, and a Framework for Comparison of Results,” International Journal of Central Banking 13 (September 2017) 385-408. CEPR DP 12226, NBER WP 23745.

Abstract:

The simple and transparent framework for cost-benefit analysis of leaning against the wind (LAW) in Svensson (JME 2017) and its main result are summarized. The analysis of the policy-rate effects on debt in Bauer and Granziera (IJCB 2017) does not seem to contradict that the effects may be small and of either sign. The analysis of LAW in DSGE models is complicated and the results of Gerdrup et al. (IJCB 2017) may not be robust. The Svensson (JME 2017) framework may allow comparison and evaluation of old and new approaches and their results. As an example, it is shown that these three papers result in very different marginal costs of LAW and that a realistic policy-rate effect on unemployment is crucial.

JEL Codes: E52, E58, G01

New publication: “Cost-Benefit Analysis of Leaning Against the Wind”

Update, August 2017: “Cost-Benefit Analysis of Leaning Against the Wind,” published in Journal of Monetary Economics 90 (2017) 193-213.

The first version, under the title “Cost-Benefit Analysis of Leaning Against the Wind: Are Costs Larger Also with Less Effective Macroprudential Policy?”, was published as IMF Working Paper WP/16/3, January 2016.

New revision: “Cost-Benefit Analysis of Leaning Against the Wind”

Update, August 2017: “Cost-Benefit Analysis of Leaning Against the Wind,” published in Journal of Monetary Economics 90 (2017) 193-213.

The first version, under the title “Cost-Benefit Analysis of Leaning Against the Wind: Are Costs Larger Also with Less Effective Macroprudential Policy?”, was published as IMF Working Paper WP/16/3, January 2016.

Amortization Requirements May Increase Household Debt : A Simple Example

Amortization Requirements May Increase Household Debt : A Simple Example,” IMF Working Paper No. 16/83, April 2016.

The idea is very simple. If you like to have a mortgage of SEK 2 million the next 10 years, you would take out an interest-only mortgage of SEK 2 million now and keep it for 10 years. However, if you learn that new amortization requirements imply that you have to pay back 2 percent of the initial mortgage every year,  you would prefer to borrow SEK 2.5 million now, put the extra SEK 0.5 million in a savings account, and then use withdrawals from the savings account to amortize 2 percent of SEK 2.5 million each year, that is, SEK 50,000 each year and SEK 500,000 in 10 years. Thus, if an LTV cap is not binding you would borrow SEK 2.5 million, or as much as the LTV cap allows you to borrow.   Continue reading

Cost-Benefit Analysis of Leaning Against the Wind

Cost-Benefit Analysis of Leaning Against the Wind,” Journal of Monetary Economics 90 (2017) 193-213. CEPR Discussion Paper DP11739, NBER Working Paper No. 21902. A previous version, with the longer title “Cost-Benefit Analysis of Leaning Against the Wind: Are Costs Larger Also with Less Effective Macroprudential Policy?”, was published as IMF Working Paper WP/16/3, January 2016.

Link to published version (Elsevier, free download until Oct 6, 2017)

Data and Matlab program

Vox Column

Abstract:

A simple and transparent framework for cost-benefit analysis of “leaning against the wind” (LAW), that is, tighter monetary policy for financial-stability purposes, is presented. LAW has an obvious cost in the form of a weaker economy if no crisis occurs and possible benefits in the form of a lower probability and smaller magnitude of (financial) crises. A second cost—less obvious, overlooked by previous literature, but higher—is a weaker economy if a crisis occurs. For representative empirical benchmark estimates and reasonable assumptions the result is that the costs of LAW exceed the benefits by a substantial margin. The result is robust to alternative assumptions and estimates. A higher probability, larger magnitude, or longer duration of crises—typical consequences of ineffective macroprudential policy—all increase the margin of costs over benefits. To overturn the result, policy-interest-rate effects on the probability and magnitude of crises need to be more than 5–40 standard errors larger than the benchmark estimates.

Monetary policy and macroprudential policy: Different and separate

“Monetary policy and macroprudential policy: Different and separate,” paper (revised February 2016) and slides presented at the conference “Macroprudential monetary policy,” Federal Reserve Bank of Boston’s 59th Economic Conference, Federal Reserve Bank of Boston, October 2-3, 2015. Forthcoming in Canadian Journal of Economics.
Excel sheet used in slide 21 for the simple example of a cost-benefit analys of leaning against.

IMF: Monetary policy should focus on price stability

Monetary policy should stick to its core mandate of price stability, and should deviate from its traditional role only if the benefits to the economy outweigh the costs, according to a new study from the International Monetary Fund, “Monetary Policy and Financial Stability.”

The question is whether monetary policy should be altered to contain financial stability risks. Should it lend a hand by temporarily raising interest rates more than warranted by price and output stability objectives?

Based on our current knowledge, and in present circumstances, the answer is generally no.