Monetary Economics

March 4, 2016
Olivier Coibion of University of Texas at Austin and Eric T. Swanson of University of California at Irvine, Organizers

Sydney C. Ludvigson, New York University and NBER; Sai Ma, New York University; and Serena Ng, Columbia University

Uncertainty and Business Cycles: Exogenous Impulse or Endogenous Response? (NBER Working Paper No. 21803)

Uncertainty about the future rises in recessions. But is uncertainty a source of business cycle fluctuations or an endogenous response to them, and does the type of uncertainty matter? Ludvigson, Ma, and Ng find that sharply higher uncertainty about real economic activity in recessions is fully an endogenous response to other shocks that cause business cycle fluctuations, while uncertainty about financial markets is a likely source of the fluctuations. Financial market uncertainty has quantitatively large negative consequences for several measures of real activity including employment, production, and orders. Such are the main conclusions drawn from estimation of three-variable structural vector autoregressions. To establish causal effects, the researchers propose an iterative projection IV ( IPIV) approach to construct external instruments that are valid under credible interpretations of the structural shocks.

Gabriel Chodorow-Reich, Harvard University and NBER, and Johannes Wieland, University of California at San Diego and NBER

Secular Labor Reallocation and Business Cycles (NBER Working Paper No. 21864)

Chodorow-Reich and Wieland study the effect of mean-preserving labor reallocation on business cycle outcomes. They develop an empirical methodology using a local area's exposure to industry reallocation based on the area's initial industry composition and employment trends in the rest of the country over a full employment cycle. Using confidential employment data by local area and industry over the period 1980-2014, the researchers find sharp evidence of reallocation contributing to worse employment outcomes during national recessions but not during national expansions. They repeat their empirical exercise in a multi-area, multi-sector search and matching model of the labor market. The model reproduces the empirical results subject to inclusion of two key, empirically plausible frictions: imperfect mobility across industries, and downward nominal wage rigidity. Combining the empirical and model results, the authors conclude that reallocation can generate substantial amplification and persistence of business cycles at both the local and the aggregate level.

Marco Di Maggio, Columbia University, and Amir Kermani and Christopher Palmer, University of California at Berkeley

Unconventional Monetary Policy and the Allocation of Credit

Despite massive large-scale asset purchases (LSAPs) by central banks around the world since the global financial crisis, there is a lack of empirical evidence on whether and how the composition of purchased assets matters for the effectiveness of unconventional monetary policy. Using uniquely rich mortgage-market data, Di Maggio, Kermani, and Palmer document that there is a "flypaper effect" of LSAPs, where the transmission of unconventional monetary policy to interest rates and (more importantly) origination volumes depends crucially on the nature of the assets purchased. For example, QE1, which involved significant purchases of GSE-guaranteed mortgages, increased GSE-guaranteed mortgage originations significantly more than the origination of non-GSE mortgages. In contrast, QE2's focus on purchasing Treasuries did not have such differential effects. This de facto allocation of credit across mortgage market segments, combined with sharp bunching around GSE eligibility cutoffs, establishes an important complementarity between mortgage market policy and the effectiveness of Fed MBS purchases. In particular, more relaxed GSE eligibility requirements would have resulted in more refinancing from economically distressed regions and fewer households deleveraging overall. Overall, these results are consistent with the capital constraints channel of unconventional monetary policy.

Michael Weber, University of Chicago, and Ali Ozdagli, Federal Reserve Bank of Boston

Monetary Policy through Production Networks: Evidence from the Stock Market

Monetary policy shocks have a large impact on aggregate stock market returns in narrow event windows around press releases by the Federal Open Market Committee. Weber and Ozdagli use spatial autoregressions to decompose the overall effect of monetary policy shocks into a direct (demand) effect and an indirect (network) effect. The researchers attribute 50%–85% of the overall effect to indirect effects. The decomposition is robust to different sample periods, event windows, and types of announcements. Direct effects are larger for industries selling most of the industry output to end-consumers compared to other industries. The researchers find similar evidence of large indirect effects using ex-post realized cash-flow fundamentals. A simple model with intermediate inputs guides their empirical methodology. The findings indicate production networks might be an important propagation mechanism of monetary policy to the real economy.

Stefania Albanesi and Giacomo De Giorgi, Federal Reserve Bank of New York, and Jaromir Nosal, Boston College

Credit Growth and the Financial Crisis: A New Narrative

A broadly accepted explanation for the 2007-09 financial crisis emphasizes the growth in lending to subprime households during the preceding boom. According to this view, the resulting rise in insolvencies and foreclosures caused the financial crisis, leading to a decline in housing values and a broad contraction in credit. In this paper, Albanesi, De Giorgi, and Nosal study the evolution of household borrowing and delinquency between 1999 and 2013, using a large administrative panel of credit file data. Their findings suggest an alternative narrative that challenges the large role of subprime credit. They show that credit growth between 2001 and 2007 is concentrated in the middle and high quartiles of the credit score distribution. Borrowing by individuals with low credit score is virtually constant for all debt categories during the boom. The researchers also find that the rise in defaults during the financial crisis is concentrated in the middle and upper quartiles of the credit score distribution, and the fraction of defaults to the lowest quartile of the credit score distribution sizably drops during the crisis. The authors discuss the broader implications of these findings for the role of housing collateral in the propagation of the crisis.

Richard Crump, Stefano Eusepi, Giorgio Topa, and Andrea Tambalotti, Federal Reserve Bank of New York

Subjective Intertemporal Substitution

Crump, Eusepi, Tambalotti, and Topa estimate the elasticity of intertemporal substitution (EIS) — the elasticity of expected consumption growth with respect to variation in the real interest rate — using subjective expectations from the newly released FRBNY Survey of Consumer Expectations (SCE). This dataset is unique, since it includes consumers’ expectations of both consumption growth and inflation, with the latter providing subjective variation in ex ante real interest rates. As a result, the researchers can estimate a subjective version of the consumption Euler equation, without having to take a stand on the process of expectation formation. Their main finding is that this subjective EIS is precisely and robustly estimated to be around 0.8 in the general population, consistent with typical macroeconomic calibrations of the Euler equation. However, the researchers find some evidence that the EIS rises to slightly above one for high-income individuals, consistent with the assumptions in asset pricing models featuring long-run risks or rare disasters.

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