Monetary policy

Willem Buiter, 03 July 2020

The US Federal Reserve – the world’s most important central bank – is not in a good place. This column outlines three flaws in the operating practices of the Fed – (i) its refusal to adopt negative policy rates, (ii) the build-up of significant credit risks through non-transparent (quasi-)fiscal actions, and (iii) stress testing analysis which fails to account for the severity of the COVID-19 crisis. It proposes a number of ways forward, including a symmetric policy rate around zero, a temporary ban on dividend payments, new equity issuance, and conducting a comprehensive stress test of the financial system.

Jean-Pierre Landau, 23 June 2020

The simultaneous increase in public debt and central banks' balance sheets in advanced economies results in important policy trade-offs. In effect, the ‘monetisation’ of government debts by central banks transforms current credit and funding risks into future inflation risk. Low interest rate and inflation rate create a conducive policy space for financing exceptional public expenditures in response to the COVID-19 shock. This column argues that, in the presence of very low and stable inflation expectations, this is an optimal policy mix. To be sustainable, the perspective of fiscal dominance must be eliminated and central banks' independence must be respected and reinforced.

Bruno Albuquerque, Martin Iseringhausen, Frederic Opitz, 23 June 2020

The COVID-19 shock has ended the eight-year long US housing market expansion. At the same time, the Federal Reserve and the US Government have deployed significant resources to help weather the ongoing crisis. But the trajectory of the post-COVID-19 recovery remains uncertain. Using a time-varying parameter model, this column suggests that the next US housing recovery may exhibit similar features to the 2012-19 expansion: a sluggish response of housebuilding to rising demand, but a strong response of house prices.

Paul De Grauwe, Sebastian Diessner, 18 June 2020

There is growing acceptance that some form of monetary finance is needed, if not inevitable, in light of the severity of the downturn in the euro area. This column argues that while a monetisation of the deficits induced by the COVID-19 crisis would eventually increase the price level so that, after a return to economic normalcy, inflation would rise for a couple of years, this is a price worth paying to avoid future sovereign debt crises in the euro area. Moreover, the ECB, as the most independent central bank in the world, would be well equipped to prevent the inflationary upsurge from becoming permanent.

Oliver de Groot, Alexander Haas, 16 June 2020

The magnitude of the COVID-induced economic downturn is forcing central banks around the world to rethink the set of monetary policy tools available to them. Many central banks have long shied away from negative interest rates, concerned about the impact on bank profits and financial stability. This column explores how negative interest rate policies can be used by central banks to signal a commitment to a prolonged period of monetary accommodation. Using a quantitative monetary model, it shows that the signalling channel of negative interest rates can result in a rise in banks’ net worth even if net interest margins shrink.

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