Modelling banking sector shocks and unconventional policy: new wine in old bottles?

James Cloyne, Ryland Thomas and Alex Tuckett.

The financial crisis has thrown up a huge number of empirical challenges for academic and professional economists.  The search is on for a framework with a rich enough variety of financial and real variables to examine both the financial shocks that caused the Great Recession and the unconventional policies, such as Quantitative Easing (QE), that were designed to combat it.   In a new paper we show how using an older structural econometric modelling approach can be used to provide insights into these questions in ways other models currently cannot.  So what are the advantages of going back to an older tradition of modelling?
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What are the effects of fiscal policy at the zero lower bound?

R. Anton Braun, Lena Boneva & Yuichiro Waki.

Does fiscal policy have large and qualitatively different effects when the nominal interest rate is zero? An emerging consensus in the New Keynesian literature is that supply-side fiscal stimulus is ineffective at the zero lower bound (ZLB) while demand-side fiscal stimulus is a useful tool to escape a liquidity trap. But new evidence provided in our paper  suggests that supply-side fiscal policies can play an important role at the ZLB while the effects of demand-side stimulus may be weaker than previously found.

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The danger zone – when should we worry about how much households spend on their mortgages?

Philip Bunn.

As households spend more of their income making payments on loans they are more likely to get into arrears. This risk rises gradually at first, but above a certain point they enter a danger zone where the probability of arrears rises sharply.  Knowing where this danger zone lies is really important because, if it comes a little earlier or a little later, that can make a big difference to the number of people who fall into it, although as this post shows, it is hard to identify this danger zone precisely.  Nevertheless, understanding what leads households to get into financial difficulty is crucial for assessing how such difficulties might increase following rises in interest rates or unexpected falls in income.
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The declining sensitivity of asset prices to events in Greece

Menno Middeldorp.

The risk of Greece exiting the euro area (Grexit) has unsettled financial markets regularly over recent years. A New Year poll suggested that most Greeks feel that 2016 will see the threat of Grexit return. However, even if the probability of Grexit rises again, that does not necessarily mean that financial markets will respond with similar volatility. Indeed, this post shows that, based on the sensitivity of international asset prices to those in Greece itself, each successive episode of Greek stress has in turn caused less stress abroad.

To measure the sensitivity of global financial markets to Grexit risk I regress euro area, UK and US asset prices on a composite of Greek asset prices. I do this for three different episodes when Greek financial markets exhibited signs of stress and there was also a high volume of news articles on Bloomberg that referred to Grexit risk. For most euro area, UK and US asset prices, their sensitivity to Greek stress declined in each successive episode.

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Houses: who has stopped buying them?

Lizzie Drapper and Hasdeep Sethi.

In 2006, 64 English houses in every 1000 changed hands. Three years and a credit crunch later, this had halved to only 32 transactions per 1000 houses. Since 2009, transactions have recovered, but remain well below their pre-crisis level (Chart 1). Transactions are a key metric of the health of the UK housing market and can be seen as a measure of “liquidity”. The reasons behind low transactions levels may also provide further insight into people’s behaviour and view of housing in the UK. In the work set out below, we conclude that it is unlikely that transactions regain their pre-crisis level any time soon, because of affordability constraints for first-time buyers and fewer discretionary moves by existing owners.

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Too eagerly anticipated: The impact of the extension of ECB QE on asset prices

Menno Middeldorp and Oliver Wood.

When the ECB announced an extension of its asset purchase programme on December 3 2015, the euro appreciated, bond yields rose and equity prices fell. This does not mean that  the extension tightened monetary policy, but merely that it was smaller than what markets had priced in. In order to calculate the full impact of the programme on asset prices, we need to measure both the anticipation effect and announcement effect and add the two up. Our analysis suggests that the announcement effect undid about half of the anticipation effect, and so the extension of asset purchases still pushed down yields, supported equity valuations and depreciated the euro. However, compared to the initial programme, its impact on asset prices was smaller.
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