Emerging economies are routinely affected by monetary policy announcements in the US. This was starkly evident on May 22, 2013, when Federal Reserve Chairman Ben Bernanke first spoke of the possibility of the Fed tapering its security purchases. This “tapering talk” had a sharp negative impact on financial conditions in emerging markets in ensuing days—their exchange rates depreciated, bond spreads increased, and equity prices fell; so much so that some of the countries seemed on the verge of a full-fledged balance of payments crisis. The event helps explain why issues related to the spillover of US monetary policy have gained prominence in recent contributions to the literature and in policy discussions (Rajan, 2015).
The recent reversal of capital flows to emerging markets has pointed to the continuing relevance of the sudden stop problem when capital inflows dry up abruptly.
In a recent paper as well as a Vox column, we analyze these episodes in emerging markets over the past quarter century. We contrast their incidence, impact, correlates, and policy response before and after 2002, and establish similarities as well as differences.
Global financial integration and the linkages between the financial and the real sides of economies are sources of huge policy challenges. This is now beyond doubt, after what we saw in the run-up to and the unfolding of the 2008 global financial crisis. As a consequence, the established wisdom regarding monetary policies and prudential regulation has been subject to a deep critical review, including a demise of the belief that they should be maintained as fully independent functions.
Monetary policy is widely considered as an effective tool for short-term stabilization. However, in recent decades, evidence suggests that its effectiveness in the US has been somewhat dampened. What is the reason behind this trend? Can it inform us about the relationship between monetary policy transmission and the complexity of the financial system?
In a recent paper, Alessandro Barattieri, Dalibor Stevanovic, and I document a rising trend in the fraction of financial claims which have direct counterparts in the financial sector (rather than the non-financial sector, which includes traditional borrowers such as firms, households and governments). We estimate that, up until the 1970s, close to 100% of financial assets had direct non-financial counterparts; today these traditional claims represent a mere 70% of financial assets, while the rest represent loans between financial institutions. We point out that this trend roughly coincides with the declining impact of monetary policy shocks, and propose a model that links these two trends.
- monetary policy