HenU/INFER Workshop on Applied Macroeconomics 5.5

The China Shock, Market Concentration and the U.S. Phillips Curve

Melih Firat (John Hopkins University)

This paper analyzes the effects of the China shock and market concentration on the US Phillips curve at the industry level. Empirical results show that higher import penetration from China increases the disconnect between inflation and the output gap across industries, and sectoral linkages through downstream effects amplify this effect. Exploiting the rich industry level heterogeneity in market concentration, I also show that a rise in market concentration results in a decline in the Phillips curve coefficient. Furthermore, I build a two-country multi-sector model with input-output networks and firm heterogeneity. This framework supports the empirical results by showing that sectors with a higher share of foreign firms or a higher market concentration have a flatter Phillips curve.

Global risk and the dollar

Georgios Georgiadis (European Central Bank) / Gernot J. Müller (University of Tübingen and CEPR) / Ben Schumann (Free University of Berlin)

Global risk shocks appreciate the US dollar as well as other safe-haven currencies and induce an economic contraction, synchronized across the US and the rest of the world. We establish these results in an estimated Bayesian proxy SVAR model and construct counterfactuals to shed light on the role of the dollar for the transmission of global risk. They show that the appreciation of the dollar has little bearing on US trade flows; instead it induces a sharp contraction of cross-border credit. As a result, the dollar appreciation amplifies the contractionary effects of global risk shocks in the rest of the world.

The Effects of Oil Price Uncertainty on China’s Economy

Bin Wang (Jinan University) / Buben Fu (Shanghai University of Finance and Economics) / Qinhua Xu (Renmin University of China)

Nominal interest rates in China have long been controlled by the government, making their changes lagging behind price changes. We model this in a New Keynesian model with a transiently fixed interest rate and prove that interest rate fixation can magnify model volatility and lead to economic instability. Specifically, when the fixed level is different from steady state, the model enters a vicious spiral until monetary policy switches to a flexible interest rate rule, which represents the shadow rate of the economy, determined by administrative policy tools in addition to discrete (and insufficient) interest rate adjustments. This explains China’s large business cycle fluctuations over the past decades.

Optimal Monetary Policy Mix at the Zero Lower Bound

Dario Bonciani (Bank of England) / Joonseok Oh (Free University of Berlin)

When a central bank carries out long-term asset purchases to affect their price, they increase the volatility of consumption of households holding long-term debt. As a result, the monetary policy authority faces a novel trade-off between inflation, output gap, and balance-sheet volatility. In response to negative demand shocks at the ZLB, the optimal monetary policy consists of a combination of a low-for-long policy (Forward Guidance) and balance sheet policies. Specifically, forward guidance boosts expectations about inflation and the output gap, an initial increase in the size of the balance sheet (Quantitative Easing) further eases the initial drop in demand, and a subsequent contraction (Quantitative Tightening) mitigates the overshoots in prices and real activity. Last, if the central bank only aims to stabilise inflation and the output gap, balance sheet policies improve welfare if the relative weight on the output gap is large.

Are Government Spending Shocks Inflationary at the Zero Lower Bound? New Evidence from Daily Data

Songyup Choi (Yonsei University) / Junhyeok Shin (Johns Hopkins University) / Seung Yong Yoo (Yonsei University)

Are government spending shocks inflationary at the zero-lower-bound (ZLB)? Despite its importance in amplifying a government spending multiplier, empirical evidence to date has not provided a clear answer to this question. Exploiting newly-constructed high-frequency data on both government spending and the price index of the U.S. economy, we address a challenge in identifying government spending shocks with standard timing restrictions when using low-frequency data. Applying local projections to the daily data, we find that prices decline persistently in response to a positive government spending shock at the ZLB. Our finding is hard to reconcile with standard New Keynesian models, which typically generate an increase in inflation following fiscal expansion. Instead, our finding indicates that the binding ZLB is unlikely to produce a larger fiscal multiplier via the inflation channel.

Interest Rate Fixation and Business Cycles in China: An Analysis Based on the New Keynesian Model

Bing Tong (Henan University) / Guan Yang (Nankai University)

Nominal interest rates in China have long been controlled by the government, making their changes lagging behind price changes. We model this in a New Keynesian model with a transiently fixed interest rate and prove that interest rate fixation can magnify model volatility and lead to economic instability. Specifically, when the fixed level is different from steady state, the model enters a vicious spiral until monetary policy switches to a flexible interest rate rule, which represents the shadow rate of the economy, determined by administrative policy tools in addition to discrete (and insufficient) interest rate adjustments. This explains China’s large business cycle fluctuations over the past decades.