Pinning the tail on the economy: why domestic developments aren’t enough

Simon Lloyd and Ed Manuel

Central banks don’t just care about what is expected to happen. They also care about what could happen if things turn out worse than expected. In line with this, an emerging literature has developed models for measuring and predicting overall levels of macroeconomic risk. This body of work has focused on estimating the level of ‘tail risk‘ in a country by monitoring a range of domestic developments. But this misses a key part of the picture. In a recent Staff Working Paper, we show that monitoring developments abroad is as important as monitoring developments at home when assessing the vulnerability of the economy to a severe downturn.

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I need a dollar, dollar, a dollar is what I need

Ambrogio Cesa-Bianchi and Fernando Eguren-Martin


In March 2020, the Covid-19 (Covid) outbreak turned the world upside down. With economies virtually shut, financial markets were an exception and remained open. However, it was not business as usual for them: the increased need to meet immediate obligations, and a more generalised increase in risk aversion, led investors to liquidate positions in favour of hard old cash. In a recent Staff Working Paper we pose that investors did not seek any type of cash but rather that the world witnessed a ‘dash for dollars’. We show that the resulting race for dollars went beyond exchange rate markets and led to selling pressure on dollar bonds in corporate bond markets, which experienced particularly large increases in spreads.

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Cloudy with a chance of tariffs: the impact of policy uncertainty on the global economy

Ed Manuel, Alice Pugh, Anina Thiel, Tugrul Vehbi and Seb Vismara

Average tariffs on goods traded between the US and China increased by 15 percentage points from early 2018 to 2019. By making it more costly to buy goods from abroad, higher tariffs have reduced global trade flows and spending by households and businesses. But ‘direct’ effects of tariffs are not the only ways in which trade-related issues can affect global growth. Trade-related uncertainty has risen sharply since the escalation of trade tensions in 2018, which may have caused businesses to postpone costly investment decisions and financial conditions to tighten. In this post we investigate the size of these ‘indirect’ channels.

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Le Pont de Londres: monetary policy spillovers, prudential policies and the financial centre effect

Robert Hills, Simon Lloyd, Rhiannon Sowerbutts, Dennis Reinhardt, Matthieu Bussière, Baptiste Meunier and Justine Pedrono

Large amounts of capital flow across borders. But these can be destabilising. So can recipient countries employ prudential policies to offset monetary policy changes in centre countries? And does it matter where sending banks are located? Our findings suggest it does. Our case study of French banks operating in London – part of a broader international initiative – suggests prudential policies have a much bigger offsetting effect on French banks’ lending out of the UK’s financial centre than on their lending out of headquarters in France. In line with those observations, we uncover evidence of a ‘London Bridge’ in cross-border lending: the way French banks channel funds to the UK is responsive to prudential policies in the rest of the world.

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A fistful of dollars: transmission of global funding shocks to emerging markets

Aakriti Mathur and Shekhar Hari Kumar

Emerging markets (EMs) have become more exposed to the global financial cycle in recent years. Positive liquidity shocks – that is, a loosening of global funding market conditions – have led to exchange rate appreciations, reductions in long-term bond yields, stock market booms, and increased gross capital flows to EMs (Bhattarai et al (2018)). Negative liquidity shocks on the other hand constitute a tightening of financial conditions, reducing lending and real investment (Bruno and Shin (2015) and Avdjiev et al (2018)).

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How does international capital flow?

Michael Kumhof, Phurichai Rungcharoenkitkul and Andrej Sokol

Understanding gross capital flows is crucial for both macroeconomic and financial stability policy. However, theory is lagging behind empirical work, as much of the literature continues to rely on net capital flow models developed many decades ago. Missing from these models is an explicit tracking of the financial records underlying all goods and asset purchases, namely gross balance sheet positions, which in turn requires modelling the principal medium of exchange, bank deposits. Our new model features gross capital flows and offers a fresh perspective on important policy debates, such as the role of current accounts as indicators of financial fragility, the nature of the global saving glut, Triffin’s current account dilemma, and the synchronisation of gross capital inflows and outflows.

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Capital flights during Covid-19

Fernando Eguren-Martin, Cian O’Neill, Andrej Sokol and Lukas von dem Berge

While planes were grounded, capital flew out of emerging market economies in response to the acceleration in the spread of the virus in the early stages of the Covid-19 pandemic. Was this capital flight predictable once you account for the sudden deterioration in the global financial environment? In this post we present a model that helps to think about how financial conditions and international capital flows are linked. We then apply this methodology to events observed between March and May 2020, and find that the model predicted a large increase in the likelihood of capital flight. However, the scale of outflows was abnormally large even once the sharp tightening in financial conditions is accounted for.

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Jump-starting an international currency

Saleem Bahaj and Ricardo Reis

Only a handful of currencies are regularly used for cross-border payments: the euro, the yen, the pound, the yuan and, of course, the US dollar, which dominates almost any measure of international use. But how does a currency achieve an international status in the first place? And which government policies assist in that jump-start? Economic theory and the rise of the renminbi (RMB) in the last decade offer some clues.

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Covid-19 briefing: cross-border dollar funding

Saleem Bahaj and Fernando Eguren-Martin

The US dollar has a dominant role in the international financial system. The fact that trade and cross-border investment are overwhelmingly dollar-denominated means that non-US banks are heavily reliant on dollar funding (Aldasoro and Ehlers (2018)). This funding dried up during the Covid-19 epidemic, prompting the use of central bank swap lines as a policy response. This post looks at recent research on why dollar funding dried up in March, the efficacy of swap lines and the implications for cross-border banking, exchange rates and the international financial system.  

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Global financial cycles since 1880

Galina Potjagailo and Maik H. Wolters

Global financial cycles: a long-term affair

Today’s financial system is global: credit and several financial asset classes show booms and busts across countries, sometimes with severe repercussions to the global economy. Yet it is debated to what extent common dynamics rather than domestic cycles lie behind financial fluctuations and whether the impact of global drivers is growing. In a recent Staff Working Paper, we observe various global financial cycles going as far back as the 19th century. We find that a volatile global equity price cycle is nowadays the main driver of stock prices across advanced economies. Global cycles in credit and house prices have become larger and longer over the last 30 years, having gained relevance in economies that are more financially open and developed.

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