How sound is the argument that current account balances are driven by demographics? Our multi-country lifecycle model explains 20% of the variation in observed net foreign asset positions among advanced economies through differences in population age structure. These positions should expand further as countries continue to age at varying speeds.
From the introduction of the Euro up to the 2008 global financial crisis, macroeconomic imbalances widened among Member States. These imbalances took the form of strong differences in the dynamics of unit labour costs, which increased much faster in ‘peripheral’ economies than in ‘core’ countries. At first, these imbalances were interpreted as reflecting a catch-up and convergence process within the Euro Area – and were supposed to fall as countries converged. But, more recently economists and policymakers have challenged this view, suggesting that imbalances reflected a broader competitiveness problem in the ‘periphery’ compared to the ‘core’ countries. This post, based on a recent Staff Working Paper, revisits the effect of economic integration on macroeconomic imbalances.
Capital flows are fickle. In the UK, the largest and most volatile component of inflows from foreign investors are so-called ‘other investment flows’ – the foreign capital which flows into banks and other financial institutions. But where do these funds ultimately go and which sectors are particularly exposed to fickle capital inflows? Do capital inflows allow domestic firms to borrow more? Or does capital from abroad ultimately finance mortgages of UK households? Some of the foreign capital could also get passed on to the financial sector or flow back abroad.
Much has been written on the global decline of the corporate labour share (defined as the share of corporate value added going to wages, salaries and benefits). The IMF and OECD worry about this trend, linking it to decreasing wages and rising inequality. And economists are hard at work looking for an explanation: prominent hypotheses range from automation and ‘superstar’ firms to offshoring. But is there really a global decline in the non-housing/business labour share? Not if you properly exclude housing income and account for self-employment, as described in a recent Staff Working Paper. Adjusting for housing and self-employment, labour shares have remained stable across most advanced economies except in the US, where the labour share still declines by 6% since 1980 (Figure 1).
According to conventional wisdom, a currency area benefits from internal labour mobility. If independent stabilisation policies are unavailable, the argument goes, factor mobility helps regions respond to shocks. Reasonable as it sounds, few attempts have been made to test this intuition in state-of-the-art macroeconomic models. In a recent Staff Working Paper (also available here), we build a DSGE model of a currency area with internal migration to go through the maths. So does the old intuition hold up? The short answer, we think, is yes. Internal labour mobility eases the burden on monetary policy by reducing regional labour markets imbalances. But policymakers can improve welfare by putting greater weight on unemployment. Effectively, interregional migration justifies a somewhat higher ‘lambda’.
Tommaso Aquilante, Marco Garofalo and Enrico Longoni
Over the past few decades production processes have become increasingly complex and integrated across national boundaries through so-called Global Value Chains (GVCs). With increasing trade tensions and uncertainty regarding future economic integration, the 400-year old words of the English poet John Donne captured in ‘No man is an island’ seem more topical than ever. In this BU we explore the UK’s position in GVCs showing that also no island is really an island! Using a sophisticated yet intuitive decomposition of UK’s trade flows we will show how GVCs matter for the UK economy, and in particular how they seem to matter more for what we export than imports.
Montagu Norman was the Bank of England’s longest serving Governor (1920-44) and one of the leading players on the interwar international financial stage. He was a controversial and enigmatic character who pioneered co-operation between central banks.
Gino Cenedese, Pasquale Della Corte and Tianyu Wang
Deviations from covered interest parity (CIP) represent an arbitrage opportunity, at least in theory. In a new paper, we show that post-crisis financial regulation may explain why this mispricing persists and cannot be arbitraged away. Our exercise uses a unique dataset on contract-level foreign exchange derivatives coupled with an exogenous variation associated with the public disclosure of the leverage ratio. We find that dealers with a higher leverage ratio demand an extra premium from their clients for synthetic dollar funding (e.g., borrowing in euros and swapping into dollars) relative to direct dollar funding (i.e., borrowing dollars in the money market), resulting in CIP deviations.
Cryptoassets (or ‘cryptocurrencies’) are notoriously volatile. For example, in November 2018, Bitcoin – one of the more stable cryptoassets – lost 43% of its value in just 11 days. This kind of volatility makes it difficult for cryptoassets to function as money: they’re too unstable to be a good store of value, means of exchange or unit of account. But could so-called ‘stablecoins’ solve this problem and finally provide a price-stable cryptoasset?
relationship between financial conditions and risks to growth in an economy?
And, in a world of highly integrated financial markets, to what extent are
these “local” risks rather than reflections of global developments? In this
post we offer some tentative answers. Financial conditions, measured across a
broad range of asset classes and countries, display an important common
component reflecting global developments. Loose financial conditions today
increase the likelihood of a growth boom over the following few quarters, but
when global financial conditions are loose, they increase the chances of a
sharp contraction further ahead, highlighting some of the challenges of
managing risks to growth across time from a policy maker’s perspective.