new asset prices, collateral and unconventional monetary policy in … · 2012. 1. 25. ·...

Asset Prices, Collateral and UnconventionalMonetary Policy in a DSGE model

Bjorn Hilberg and Josef Hollmayr

Bundesbank and Goethe-University FrankfurtDepartment of Money and Macroeconomics

January 24th, 2012

Bank of England

IntroductionModel

CalibrationResults

MotivationPreliminary ResultsLiterature Review

Motivation

What appears to be in substance a direct transfer of mortgage and mortgage-backed

securities of questionable pedigree from an investment bank to the Federal Reserve

seems to test the time honored central bank mantra in time of crisis-”lend freely at

high rates against good collateral”-to the point of no return, (Volcker (April 8, 2008),

Remarks by Paul Volcker at a Luncheon of the Economic Club of New York)

Bjorn Hilberg and Josef Hollmayr Asset Prices, Collateral and Unconv. Monetary Policy in a DSGE model

IntroductionModel

CalibrationResults


Motivating Questions

Is a certain ”collateral policy” of the central bank effective to stimulatethe interbank market

Does it have negative consequences and if yes, which ones?

Should the central bank use this type of policy to react to asset prices


IntroductionModel

CalibrationResults


The Approach

We are taking the basic set up of a DSGE model with financial frictionsand add a microfounded interbank market

Analysis of (un-)conventional monetary policy by the means of anadditional instrument: haircut rule

Simulating Boom-Bust cycles to examine ”leaning against the wind”

Deriving exit strategies for the central bank after a recession


IntroductionModel

CalibrationResults


Results to take away

Central banks can use the institutional instrument of a haircut policy tostimulate the interbank market and therefore also the real economy

this comes at the cost of higher inflation

If the central bank wants to react to asset prices, it should use this rule tolean against the wind and not the interest rate rule

an interbank market in the economy dampens certain shocks and amplifiesothers

the optimal exit for the central bank is to announce a date beforehandand then credibly stick to it


IntroductionModel

CalibrationResults


Related Papers

1 DSGE with Financial Sector

Angeloni,Faia (2009) include Diamond,Rajan(2001) into DSGEmodelGertler,Karadi (2009) simple banking structureGerali et al.(2009) only include one representative bankDeWalque et al.(2009) have interbank market

2 ”Leaning against the wind”

Bernanke,Gertler (1999) are against targeting asset pricesCecchetti (2000) is in favor of the central bank targeting asset pricesEichengreen et al. (2011) ”Rethinking Central Bank”

3 Unconventional monetary policy

Ashcroft (2009) uses also a haircut ruleSchabert (2010) lets CB lend to households directly


IntroductionModel

CalibrationResults


Outline of Talk and Procedure

1 Model description

2 Calibration

3 Results


IntroductionModel

CalibrationResults

Overview

Central Bank

Investment Banks

Commercial Banks

Households

Intermediate

Housing Production

Final Good Producer

Liquidity

Collateral portfolio

(riskless and risky)

Interbank liquidity

Collateralportfolio (risky)

Retailers Capital Produers

Real Economy

Deposits Collateral Loans

The real economy consistsof households, firms, retailersand capital producers. Thisframework is rather standardin the financial acceleratorliterature. New in our set upis the way we model the in-terbank market and the rela-tion to the central bank. Asa result there are many differ-ent interest rates in the econ-omy.


IntroductionModel

CalibrationResults

Households

The instantaneous utility function has the following form:

Ut =Ct(h)1−γc

1− γc+

(1− Lt(h))1−γh

1− γh(1)

The infinite sum of discounted utility is maximized by the householdsunder the following budget constraint:

Ct(h) + Dt(h) = WtLt(h) +RD

t−1

πtDt−1(h) + Pt(h)− Tt(h) (2)


IntroductionModel

CalibrationResults

Firms

The production function is of the Cobb-Douglas type

Yt = AtKαt L1−α

t (3)

Bt = QtKt+1 − Nt (4)

The size of the markup for external financing depends on the ratio of themarket value of capital over the net worth and is given by the followingfunction:

RSt+1 =

RBt

πt+1

(StKt+1

Nt

)ψ(5)

The evolution of net worth and the provision of capital by capitalproducers as well as the retailer’s problem follow the standardassumptions.


IntroductionModel

CalibrationResults

Commercial Banks I

Table: Balance sheet of commercial bank j

Assets Liabilities

Loans to Entr. Bt(j) Deposits Dt(j)Interbank Loans IBt(j)

The demand for deposits and loans is given by:

Dt(j) =

(RD

t (j)

RDt

)εd

Dt Bt(j) =

(RH

t (j)

RHt

)−εh

Bt

Each commercial bank j maximizes then its profit which is given by thefollowing equation:

ΠCoBt =

RBt−1

πtBt−1(j) − RD

t−1

πtDt−1(j) − R IB

t−1

πtIBt−1(j)

− κd

2

(RD

t−1

RDt−2

− 1

)2RD

t−1

πtDt−1(j) − κb

2

(RB

t−1

RBt−2

− 1

)2RB

t−1

πtBt−1(j)


IntroductionModel

CalibrationResults

Commercial Banks II

Asset-backed securities are then defined as

ABSCoBt (j) = (Kt(j)Et (St+1(j)))τ − (Nt(j))1−τ

The Commercial bank is also constraint with respect to the investmentbank:

R IBt IBt(j) ≤ mtABSCoB

t (j) (6)

where mt denotes the loan-to-value ratio.


IntroductionModel

CalibrationResults

Investment Banks

Table: Balance sheet of the Investment Bank k

Assets Liabilities

Interbank Loans IBt(k) Loans from CB MDt (k)

Excess Reserves Xt(k)Government Bonds Gt(k)

The profit function takes the following form:

ΠPDt (k) = RSpread

t

(IBt(k) + MD

t (k) − Xt(k))

+ Rt IBt(k) − R IBt MD

t (k) + R IBt Xt(k)

investment bank’s demand for central bank liquidity (kind of an inverseProduction function):

Mt(k) = IBt(k)ζXt(k)1−ζ

The investment bank also faces a constraint when taking out a Repo loan fromthe central bank.

MDt (k) = Gt(k) + (1 − HCt)ABSPD

t (k)


IntroductionModel

CalibrationResults

The Central Bank

Table: Balance sheet of the Central Bank

Assets Liabilities

Government Bonds Gt Money in circulation MCBt

(Asset-backed securities ABSCBt ) Equity ECB

t

The haircut ht follows the following rule

HCt = ρhHCt−1 + cSt

The interest rate follows the usual one proposed by Taylor (1993)

Rt = ρrRt−1 + φπ(πt+1 − π) + φy (Y − Y )

The profit function of the central bank is as follows:

Πcbt =

Rt−1

πtMcb

t−1 −RDF

t−1

πtXt−1.


IntroductionModel

CalibrationResults

Exogenous Processes

Shock to the Loan-to-value ratio:

mt = ρmmt−1 + εmt

Shock to Technology:At = ρaAt−1 + εAt

Shock to Government Spending:

Gt = ρgGt−1 + εGt

Shock to the fundamental value of the Asset:

Ut = bRQ

ss

(1 − δ)Ut−1 + εUt

Shock to the Haircut rule:

HCt = ρhHCt−1 + cSt − εHCt

Shock to the Interest Rate Rule:

Rt = φrRt−1 + φππt + φyYt + εRt


IntroductionModel

CalibrationResults

Calibrated Parameters I

Challenge: Real economy and financial sector in one model; Compromise:Calibration to monthly frequency

Real Economy:

Parameters Description Values

β Degree of Impatience 0.997α Capital Intensity 0.33δ Depreciation Rate 0.008ψ Fin. Accelerator 0.0506ν Survival Probability 0.95εy Elasticity of Price 6ξp Calvo Parameter 0.85Ω Mass of Entrepreneurial Labor 0.01

Lev Leverage 2G ss

Y ss Government Expenditure over GDP 0.2


IntroductionModel

CalibrationResults

Calibrated Parameters II

Financial Economy:

Parameters Description Values

a AR parameter Market Value 0.98HC ss Steady State Haircut 0.2

b = a · (1 − δ) AR parameter Market Value 0.9722ζ IB ratio in Prod.function 0.95κd Adj. Costs Deposits 540κb Adj. Costs Loans 1125εd Elasticity of Deposit demand 852εb Elasticity of Loan demand 759ρm AR parameter loan-to-value ratio 0.9ρr AR parameter Interest Rate 0.99ρh AR parameter Haircut 0.99φπ Inflation Coefficient 1.5


IntroductionModel

CalibrationResults

Dynamic AnalysisReaction to Asset Prices?Exit Strategies

Order of results

Dynamic Analysis

Shock to TechnologyShock to the Interest RateShock to the Haircut RuleRole of the Interbank Market

What instrument should lean against the wind

”Boom-Bust” cycles with Haircut rule”Boom-Bust” cycles with Interest rate rule

Exit strategies

Exit from haircut ruleExit from haircut rule and interest rate ruleExit from loan-to-value ratio


IntroductionModel

CalibrationResults


Shock to the haircut

0 20 400

0.05

0.1

0.15

0.2Interest Rate

time0 20 40

−0.2

−0.15

−0.1

−0.05

0Spread

time

0 20 40−0.02

0

0.02

0.04

0.06

0.08Consumption

time

0 20 40−0.05

0

0.05

0.1

0.15Fundamental Price

time

0 20 40−5

0

5

10x 10

−3 Inflation

time

0 20 40−0.05

−0.04

−0.03

−0.02

−0.01

0Interbank Rate

time

0 20 400

0.2

0.4

0.6

0.8

1Excess Reserves

time

0 20 400

0.05

0.1

0.15

0.2Asset Backed Securities

time0 20 40

−0.05

0

0.05

0.1

0.15Market Price

time

0 20 400

0.05

0.1

0.15

0.2Liquidity

time

0 20 400

0.02

0.04

0.06

0.08

0.1Output

time

Haircut Shock

0 20 400

0.05

0.1

0.15

0.2Interbank Lending

time

Impulse Responses aftera 10% decrease in thehaircut rule

The interbank market isstimulated

→ Interbank lendingand excess reservesboth increase

Also the real sectorprofits

The disadvantage is ahigher inflation rate onimpact


IntroductionModel

CalibrationResults


Shock to the interest rate

0 20 400

0.02

0.04

0.06Interest Rate

time

0 20 40−4

−2

0

2

4x 10

−3 Inflation

time

0 20 400

0.005

0.01

0.015

0.02Interbank Rate

time

0 20 400

0.2

0.4

0.6

0.8Excess Reserves

time

0 20 40−0.1

−0.08

−0.06

−0.04

−0.02

0Asset Backed Securities

time0 20 40

−0.1

−0.05

0

0.05


time

0 20 40−0.08

−0.06

−0.04

−0.02

0Output

time

Interbank Market

No Interbank Market

0 20 40−0.06

−0.04

−0.02

0

0.02Consumption

time

0 20 40−0.04

−0.03

−0.02

−0.01

0Liquidity

time0 20 40

−0.1

−0.08

−0.06

−0.04

−0.02

0Interbank Loans

time

0 20 40−0.04

−0.03

−0.02

−0.01

0Spread

time

0 20 40−0.1

−0.05

0

0.05

0.1Market Price

time

Impulse Responses aftera 25bp positive shockto the Interest Rate

The real economy(inflation, output) isdampened as is theinterbank market

Interbank lendingdecreases and excessreserves go up

The interbank marketdampens the shock


IntroductionModel

CalibrationResults


Shock to technology

0 20 40−0.03

−0.02

−0.01

0Interest Rate

time

0 20 40−0.025

−0.02

−0.015

−0.01

−0.005

0Inflation

time

0 20 40−0.025

−0.02

−0.015

−0.01

−0.005

0Interbank Rate

time

0 20 40−0.25

−0.2

−0.15

−0.1

−0.05

0Excess Reserves

time

0 20 400

0.01

0.02

0.03

0.04Asset Backed Securities

time0 20 40

−0.01

0

0.01

0.02


time

0 20 400

0.02

0.04

0.06Output

time

Interbank Market

No Interbank Market

0 20 400

0.02

0.04

0.06

0.08Consumption

time

0 20 400

0.005

0.01

0.015Liquidity

time0 20 40

0

0.01

0.02

0.03

0.04Interbank Loans

time

0 20 40−5

0

5

10x 10

−3 Spread

time

0 20 40−0.01

0

0.01

0.02

0.03Market Price

time

A positive (1%) shockto technology

The real sector isstimulated

This positive shocktranslates itself also onthe interbank market,which is also increasingits lending

The Interbank is ifanything dampeningthe shock, mostvariables react equally


IntroductionModel

CalibrationResults


Responding with Interest Rates?

0 10 20 30 40−1.5

−1

−0.5

0

0.5Spread

time

0 10 20 30 40−0.4

−0.2

0

0.2

0.4Inflation

time0 10 20 30 40

−0.4

−0.3

−0.2

−0.1

0

0.1

0.2

0.3Output

time

Case1

Case2

Case3

Case4

0 10 20 30 40−1

−0.5

0

0.5

1Fundamental Price

time

0 10 20 30 40−5

0

5

10

15Excess Reserves

time

0 10 20 30 40−1.5

−1

−0.5

0

0.5

1

1.5Market Price

time

Simulating Boom-Bustcycles a laBernanke,Gertler (1999)

the smaller the deviationsthe better thestabilization policy of theCB

Interest rates reacting toasset prices does not yieldbig stabilization

confirmingBernanke,Gertler


IntroductionModel

CalibrationResults


Respond with the haircut?

0 10 20 30 40−1.5

−1

−0.5

0

0.5Spread

time

0 10 20 30 40−0.4

−0.3

−0.2

−0.1

0

0.1

0.2

0.3Inflation

time0 10 20 30 40

−0.4

−0.3

−0.2

−0.1

0

0.1

0.2

0.3Output

time

Case5

Case6

Case7

Case8

0 10 20 30 40−1

−0.5

0

0.5

1Fundamental Price

time

0 10 20 30 40−5

0

5

10

15Excess Reserves

time

0 10 20 30 40−1.5

−1

−0.5

0

0.5

1

1.5Market Price

time

Here the haircut ruleserves as instrument forthe response to assetprices

Much better stabilizationif haircut is allowed toreact to asset prices

confirming both Cecchettiand BG: Central Banksshould lean against thewind, but not withinterest rate, betterinstrument is haircut


IntroductionModel

CalibrationResults


Exit Strategy from Haircut

0 10 20 30 40−12

−10

−8

−6

−4

−2

0

2Haircut

time

0 10 20 30 40−0.8

−0.6

−0.4

−0.2

0

0.2Inflation

time0 10 20 30 40

−8

−6

−4

−2

0

2Output

time

no exit

anticipated exit

unanticipated exit

0 10 20 30 40−15

−10

−5

0

5Fundamental Price

time

0 10 20 30 40−150

−100

−50

0

50Policy Rate

time

0 10 20 30 40−15

−10

−5

0

5Market Price

time

Exit strategy along thelines of Angeloni, Faia,Winkler (2010)

here only exit from a toolow haircut

the asset price isnegatively shocked(corresponding to a bust)

three different paths: noexit, unanticipated andanticipated exit

the economy wide costsare least if the centralbank announces the exitprematurely


IntroductionModel

CalibrationResults


Exit Strategy from Haircut and Interest Rate Rule

0 10 20 30 40−20

−10

0

10

20

30Policy Rate

time

0 10 20 30 40−5

0

5

10

15Inflation

time0 10 20 30 40

−6

−4

−2

0

2

4

6Output

time

no exit

anticipated exit

unanticipated exit

0 10 20 30 40−20

−15

−10

−5

0

5Fundamental Price

time

0 10 20 30 40−25

−20

−15

−10

−5

0

5Haircut

time

0 10 20 30 40−20

−15

−10

−5

0

5Market Price

time

In this case exit from atoo low haircut and theinterest rate at thezero-lower bound

negative shock to theasset price

here the results are moremixed

less volatility in inflationcomes at the cost ofmore volatility in theother variables.


IntroductionModel

CalibrationResults


Exit Strategy from Loan-to-Value Ratio

0 10 20 30 400

5

10

15

20Loan−to−Value Ratio

time

0 10 20 30 40−0.4

−0.2

0

0.2

0.4

0.6

0.8

1Inflation

time0 10 20 30 40

−1

0

1

2

3

4

5Output

time

no exit

anticipated exit

unanticipated exit

0 10 20 30 40−2

0

2

4

6

8Fundamental Price

time

0 10 20 30 40−50

0

50

100

150Policy Rate

time

0 10 20 30 40−2

0

2

4

6Market Price

time

Think of macroprudentialauthority (eg. within thecentral bank) that exitsfrom a higherloan-to-value ration

once again the exampleof an asset price bust

very little macro-volatilityin the no exit case

if the exit wasanticipated, the reactionof output and andinflation is stronger

in an unanticipated exitoutput and the price ofcapital even increase


IntroductionModel

CalibrationResults


Concluding Thoughts

Extends the existing literature along two lines:1 Proposing a different new-keynesian model with an interbank market2 analyzing various monetary and economic questions

interbank market has influence (amplifying or dampening) on realeconomy

haircut is the appropriate instrument to target asset prices

losses from exit strategy are minimized if exit date is announced inadvanced and central bank sticks to it


IntroductionModel

CalibrationResults


Further Research

Estimating the DSGE model/taking it to the data and comparingthe fit with other specifications of the interbank market

business cycle analysis in more detail with this set up

other micro-foundations for this banking structure

Complementing the model with a complete fiscal sector

... implementing default risk?


new asset prices, collateral and unconventional monetary policy in … · 2012. 1. 25. ·...

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