Almog Adir and Simon Whitaker
In the last few years there has been a small net overall flow of capital from advanced to emerging market economies (EMEs), in contrast to the ‘paradox’ prevailing for much of this century of capital flowing the ‘wrong’ way, uphill from poor to rich countries. In this post we show the ‘paradox’ in the aggregate flows actually concealed private capital flowing the ‘right’ way for much of the time. And even during recent turbulence, foreign direct investment (FDI) flows, likely to be particularly beneficial to growth, have persisted. But EMEs could still benefit more from harnessing capital from advanced economies and Argentina has set a useful precedent as it prepares to take over the Presidency of the G20 in 2018.
Despite decades of trade deficits (spending more on foreign products than foreigners spend on UK products), the UK’s net liability with the rest of the world remains negligible. How does it pull off that trick? By earning a higher return on its foreign assets than it pays on its foreign liabilities.
Aidan Saggers and Chiranjit Chakraborty
Investment in the Financial Technology (FinTech) industry has increased rapidly post crisis and globalisation is apparent with many investors funding companies far from their own physical locations. From Crunchbase data we gathered all the venture capital investments in FinTech start-up firms from 2010 to 2014 and created network diagrams for each year.
Chiranjit Chakraborty and Andreas Joseph
Rapid advances in analytical modelling and information processing capabilities, particularly in machine learning (ML) and artificial intelligence (AI), combined with ever more granular data are currently transforming many aspects of everyday life and work. In this blog post we give a brief overview of basic concepts of ML and potential applications at central banks based on our research. We demonstrate how an artificial neural network (NN) can be used for inflation forecasting which lies at the heart of modern central banking. We show how its structure can help to understand model reactions. The NN generally outperforms more conventional models. However, it struggles to cope with the unseen post-crises situation which highlights the care needed when considering new modelling approaches.
Paul Schmelzing is a visiting scholar at the Bank from Harvard University, where he concentrates on 20th century financial history. In this guest post, he looks at how global real interest rates have evolved over the past 700 years.
With core inflation rates remaining low in many advanced economies, proponents of the “secular stagnation” narrative –that markets are trapped in a period of permanently lower equilibrium real rates- have recently doubled down on their pessimistic outlook. Building on an earlier post on nominal rates this post takes a much longer-term view on real rates using a dataset going back over the past 7 centuries, and finds evidence that the trend decline in real rates since the 1980s fits into a pattern of a much deeper trend stretching back 5 centuries. Looking at cyclical dynamics, however, the evidence from eight previous “real rate depressions” is that turnarounds from such environments, when they occur, have typically been both quick and sizeable.
Robert Czech and Matt Roberts-Sklar
The market for corporate debt plays a crucial role in the global financial system by providing funding to the real economy. However, little is known about investment behaviour in the secondary corporate bond market. When bond yields rise, how do investors react? Do they buy more bonds, perhaps leading to an offsetting downward pressure on yields? Or do they sell bonds, potentially amplifying the yield rise? For the sterling corporate bond market we find that asset managers generally buy bonds after an increase in yields. But, based on their behaviour during the 2013 ‘taper tantrum’, we find that their behaviour flips in stressed market conditions: they sell bonds, perhaps exacerbating the sell-off.
Ambrogio Cesa-Bianchi , Chris Redl, Andrej Sokol and Gregory Thwaites
Volatile economic data or political events can lead to heightened uncertainty. This can then weigh on households’ and firms’ spending and investment decisions. We revisit the question of how uncertainty affects the UK economy, by constructing new measures of uncertainty and quantifying their effects on economic activity. We find that UK uncertainty depresses domestic activity only insofar as it is driven by developments overseas, and that other changes in uncertainty about the UK real economy have very little effect.
The Law of One Price (LOOP) is an old idea in economics. LOOP states that the same product should cost the same in different places, expressed in the same currency. The intuition is that arbitrage (buying a product where it is cheap and selling it where it is expensive) should bring prices back into line. Can LOOP help us understand UK inflation? Yes. I find EU prices have much higher explanatory power for UK prices than domestic cost pressures, and the effects of exchange rate changes last longer, but build more slowly than commonly assumed.
Misa Tanaka and John Thanassoulis
In the 2007-8 global financial crisis, a number of banks were bailed out by taxpayers while their most senior employees were paid extraordinary bonuses up to that point (E.g. here, here and here). The resulting public outcry led to new regulations allowing clawback of bonuses earned on the back of decisions that subsequently damage their banks and the wider economy. But will these rules work? Our theoretical research shows that sophisticated banks can game clawback regulations by altering pay contracts so as to incentivise bankers to take risks that benefit shareholders but that are excessive for society. The entire pay package matters, and so, understanding how it shapes risk-taking incentives is as important as monitoring compliance with clawback rules.
Mark Joy, Noëmie Lisack, Simon Lloyd, Rana Sajedi and Simon Whitaker
Trade liberalisation since the 1990s has boosted living standards by raising productivity growth. However, it has been predominantly skewed towards reducing barriers to goods trade, rather than services. Since then, goods-focussed exporters have seen increased current account surpluses, and those focussed on services, have seen increased deficits. Could these developments be causally related? In this post we argue that simple tweaks to a canonical two-country model can generate this result, and building on the Governor’s Mansion House Speech, we present empirical evidence that trade liberalisation has affected current account positions asymmetrically. That suggests future liberalisation of services trade, as well as generating increased gains from trade, could also help to reduce global imbalances.