Bank Of Greece Sa · ATHEX:TELL
Bank Of Greece Sa — Investor Presentation (September 2022)
69 slides from Bank Of Greece Sa's investor presentation, Sep 30, 2022
Slide 1: The Political Economy of Currency Unions
The Political Economy of Currency Unions Kai Arvai Banque de France September 30 2022
Slide 2: Introduction
Introduction Model Simulation Gains and Correlation Introduction How can monetary policy sustain a currency union when member states have an exit option? Kai Arvai (Banque de France) The Political Economy of Currency Unions September 30 2022 1 / 22
Slide 3: Introduction
Introduction Model Simulation Gains and Correlation Introduction How can monetary policy sustain a currency union when member states have an exit option? Can the central bank with interest rate policy alone save the union? Kai Arvai (Banque de France) The Political Economy of Currency Unions Septemb
Slide 4: Introduction
Introduction Model Simulation Gains and Correlation Introduction How can monetary policy sustain a currency union when member states have an exit option? Can the central bank with interest rate policy alone save the union? Main contribution: Derive an interest rate rule with state-dependent country
Slide 5: Introduction
Introduction Model Simulation Gains and Correlation Introduction How can monetary policy sustain a currency union when member states have an exit option? Can the central bank with interest rate policy alone save the union? Main contribution: Derive an interest rate rule with state-dependent country
Slide 6: Setup
Introduction Model Simulation Gains and Correlation Setup New Open Economy Model with 2 countries These two countries are in a currency union Kai Arvai (Banque de France) The Political Economy of Currency Unions September 30 2022 2 / 22
Slide 7: Setup
Introduction Model Simulation Gains and Correlation Setup New Open Economy Model with 2 countries These two countries are in a currency union Benefits: Trade of goods is easier with common currency Trade Kai Arvai (Banque de France) The Political Economy of Currency Unions September 30 2022 2 / 22
Slide 8: Setup
Introduction Model Simulation Gains and Correlation Setup New Open Economy Model with 2 countries These two countries are in a currency union Benefits: Trade of goods is easier with common currency Trade Costs: The exchange rate as an important shock absorber is missing Kai Arvai (Banque de France)
Slide 9: Setup
Introduction Model Simulation Gains and Correlation Setup New Open Economy Model with 2 countries These two countries are in a currency union Benefits: Trade of goods is easier with common currency Trade Costs: The exchange rate as an important shock absorber is missing Lack of exchange rate is espe
Slide 10: Exiting the Union
Introduction Model Simulation Gains and Correlation Exiting the Union Two-sided limited commitment to the currency union Governments decide unilaterally if they leave the currency union Utility of the representative household in the member state is decisive. Asymmetric shock. Trade benefits of curre
Slide 11: What can a Central Bank do?
Introduction Model Simulation Gains and Correlation What can a Central Bank do? Big Asymmetric (productivity) shock. What can the bank do? Interest rate ↑ (or ↓). Intertemp. subst.: Consumption ↓ (or ↑) But: One-size fits all instrument for currency union. → affects demand everywhere One country wou
Slide 12: Results: Optimal Policies under Exit Options
Introduction Model Simulation Gains and Correlation Results: Optimal Policies under Exit Options An interest rate rule with state-dependent country weights sustains the union Kai Arvai (Banque de France) The Political Economy of Currency Unions September 30 2022 5 / 22
Slide 13: Results: Optimal Policies under Exit Options
Introduction Model Simulation Gains and Correlation Results: Optimal Policies under Exit Options An interest rate rule with state-dependent country weights sustains the union Credibility of the rule decisive: If credible, announcement of the CB pushes break-up prob to 0, making the union more attrac
Slide 14: Results: Optimal Policies under Exit Options
Introduction Model Simulation Gains and Correlation Results: Optimal Policies under Exit Options An interest rate rule with state-dependent country weights sustains the union Credibility of the rule decisive: If credible, announcement of the CB pushes break-up prob to 0, making the union more attrac
Slide 15: Results: Optimal Policies under Exit Options
Introduction Model Simulation Gains and Correlation Results: Optimal Policies under Exit Options An interest rate rule with state-dependent country weights sustains the union Credibility of the rule decisive: If credible, announcement of the CB pushes break-up prob to 0, making the union more attrac
Slide 16: Results: Optimal Policies under Exit Options
Introduction Model Simulation Gains and Correlation Results: Optimal Policies under Exit Options An interest rate rule with state-dependent country weights sustains the union Credibility of the rule decisive: If credible, announcement of the CB pushes break-up prob to 0, making the union more attrac
Slide 17: Results: Optimal Policies under Exit Options
Introduction Model Simulation Gains and Correlation Results: Optimal Policies under Exit Options An interest rate rule with state-dependent country weights sustains the union Credibility of the rule decisive: If credible, announcement of the CB pushes break-up prob to 0, making the union more attrac
Slide 18: Results: Optimal Policies under Exit Options
Introduction Model Simulation Gains and Correlation Results: Optimal Policies under Exit Options An interest rate rule with state-dependent country weights sustains the union Credibility of the rule decisive: If credible, announcement of the CB pushes break-up prob to 0, making the union more attrac
Slide 19: Related Literature
Introduction Model Simulation Gains and Correlation Related Literature Monetary policy for open economies: Corsetti and Pesenti (2002), Gali and Monacelli (2005) Kai Arvai (Banque de France) The Political Economy of Currency Unions September 30 2022 6 / 22
Slide 20: Related Literature
Introduction Model Simulation Gains and Correlation Related Literature Monetary policy for open economies: Corsetti and Pesenti (2002), Gali and Monacelli (2005) Gains of a Currency Union: Trade: Baldwin et al. (2008) +5%, Micco et al. (2003) +4% to +16%, Glick and Rose (2002) very high, Baier et al
Slide 21: Related Literature
Introduction Model Simulation Gains and Correlation Related Literature Monetary policy for open economies: Corsetti and Pesenti (2002), Gali and Monacelli (2005) Gains of a Currency Union: Trade: Baldwin et al. (2008) +5%, Micco et al. (2003) +4% to +16%, Glick and Rose (2002) very high, Baier et al
Slide 22: Related Literature
Introduction Model Simulation Gains and Correlation Related Literature Monetary policy for open economies: Corsetti and Pesenti (2002), Gali and Monacelli (2005) Gains of a Currency Union: Trade: Baldwin et al. (2008) +5%, Micco et al. (2003) +4% to +16%, Glick and Rose (2002) very high, Baier et al
Slide 23: Model Structure
Introduction Model Simulation Gains and Correlation Model Structure Follow Corsetti and Pesenti (2002): Home (H) and Foreign (F) country Firms Two types of good, H and F, imperfect substitutes No capital, each country produces varieties of goods Prices set one period in advance. Producer Currency Pr
Slide 24: Model Structure
Introduction Model Simulation Gains and Correlation Model Structure Follow Corsetti and Pesenti (2002): Home (H) and Foreign (F) country Firms Two types of good, H and F, imperfect substitutes No capital, each country produces varieties of goods Prices set one period in advance. Producer Currency Pr
Slide 25: Model Structure
Introduction Model Simulation Gains and Correlation Model Structure Follow Corsetti and Pesenti (2002): Home (H) and Foreign (F) country Firms Two types of good, H and F, imperfect substitutes No capital, each country produces varieties of goods Prices set one period in advance. Producer Currency Pr
Slide 26: Government
Introduction Model Simulation Gains and Correlation Government National fiscal authorities Subsidies τ to eliminate monopolistic markups Lump-sum taxes for households, balanced budget Kai Arvai (Banque de France) The Political Economy of Currency Unions September 30 2022 8 / 22
Slide 27: Government
Introduction Model Simulation Gains and Correlation Government National fiscal authorities Subsidies τ to eliminate monopolistic markups Lump-sum taxes for households, balanced budget Central bank(s) Sets interest rates Monetary policy under commitment Currency Union National Currency as outside opt
Slide 28: Policy with National Currencies
Introduction Model Simulation Gains and Correlation Policy with National Currencies National central bank acts under commitment: Discretion ∞ X X β t p(s t | s 0 ) log(Ct (s t )) − κLt (s t ) max∞ {it (s t )}t=0 t=0 s t ∈A subject to equilibrium conditions Kai Arvai (Banque de France) The Political
Slide 29: Policy with National Currencies
Introduction Model Simulation Gains and Correlation Policy with National Currencies National central bank acts under commitment: Discretion ∞ X X β t p(s t | s 0 ) log(Ct (s t )) − κLt (s t ) max∞ {it (s t )}t=0 t=0 s t ∈A subject to equilibrium conditions Optimal national monetary policy under PCP:
Slide 30: Policy with National Currencies
Introduction Model Simulation Gains and Correlation Policy with National Currencies National central bank acts under commitment: Discretion ∞ X X β t p(s t | s 0 ) log(Ct (s t )) − κLt (s t ) max∞ {it (s t )}t=0 t=0 s t ∈A subject to equilibrium conditions Optimal national monetary policy under PCP:
Slide 31: Policy in a Currency Union
Introduction Model Simulation Gains and Correlation Policy in a Currency Union Union-wide central bank acts under commitment, weight for H is ξ ∞ X X β t p(s t | s 0 ) log(Ct (s t )) − κLt (s t ) max ξ {itEU }∞ t=k t=0 s t ∈A ∞ X X β t p(s t | s 0 ) log(Ct∗ (s t )) − κL∗t (s t ) + (1 − ξ) t=0 s t ∈A
Slide 32: Policy in a Currency Union
Introduction Model Simulation Gains and Correlation Policy in a Currency Union → Weighted average of marginal costs is stabilized: −1 MCt∗ MCt 1= ξγ +(1−ξ)(1−γ) + ξ(1−γ)+(1−ξ)γ | {z } Et−1 [MCt ] Et−1 [MCt∗ ] Effective weight for H Effective weight depends on country weight ξ and home bias γ Kai Arv
Slide 33: Policy in a Currency Union
Introduction Model Simulation Gains and Correlation Policy in a Currency Union → Weighted average of marginal costs is stabilized: −1 MCt∗ MCt 1= ξγ +(1−ξ)(1−γ) + ξ(1−γ)+(1−ξ)γ | {z } Et−1 [MCt ] Et−1 [MCt∗ ] Effective weight for H Effective weight depends on country weight ξ and home bias γ ξ ↑ and
Slide 34: Calibration, SMM
Introduction Model Simulation Gains and Correlation Calibration, SMM Symmetric country calibration (asymmetric in robustness) Consider a range of trade gains from a currency union, here 4.6% and 6.5% Calibrate shocks that match correlation of GDP growth and volatility for Gemany-Italy union and Germ
Slide 35: Model Experiment
Introduction Model Simulation Gains and Correlation Model Experiment Run several simulation under four scenarios In each scenario outside option is the same. Only policy within the union differs. Experiment Transfers Interest rates 1. National Planner - - 2. Union-wide Ramsey Planner ✓ - 3. Union-wi
Slide 36: Optimal Monetary Policy with Exit Option
Introduction Model Simulation Gains and Correlation Optimal Monetary Policy with Exit Option Old monetary stance if countries cannot exit −1 MCt∗ MCt 1 = ξγ +(1−ξ)(1−γ) + ξ(1−γ)+(1−ξ)γ Et−1 [MCt ] Et−1 [MCt∗ ] New monetary stance with exit option −1 1 − γ + λ(s t )γ γ + λ(s t )(1 − γ) MCt∗ MCt 1= +
Slide 37: Intuition
Introduction Model Simulation Gains and Correlation Intuition Once a shock comes that makes H willing to leave Central bank adjusts interest rates and affects economic activity today It announces to do more favorable policy for the crisis country in the future Relative weight λ(s t ) persistently in
Slide 38: Simulation Interest Rate Path: No Exit Option
Introduction Model Simulation Gains and Correlation Simulation Interest Rate Path: No Exit Option 7 Union-wide interest rate 6 5 4 interest rates (%) 3 2 1 0 -1 -2 30 35 40 45 50 time Kai Arvai (Banque de France) The Political Economy of Currency Unions September 30 2022 16 / 22
Slide 39: Simulation Interest Rate Path: Set of Possible Rates
Introduction Model Simulation Gains and Correlation Simulation Interest Rate Path: Set of Possible Rates 7 Range of possible interest rates 6 Union-wide interest rate 5 4 interest rates (%) 3 2 1 0 -1 -2 30 35 40 45 50 time Kai Arvai (Banque de France) The Political Economy of Currency Unions Septem
Slide 40: Simulation Interest Rate Path: With National Currency
Introduction Model Simulation Gains and Correlation Simulation Interest Rate Path: With National Currency 7 Range of possible interest rates 6 Union-wide interest rate H interest rates with national currency 5 4 interest rates (%) 3 2 1 0 -1 -2 30 35 40 45 50 time Kai Arvai (Banque de France) The Po
Slide 41: Simulation Interest Rate Path: With Exit Option
Introduction Model Simulation Gains and Correlation Simulation Interest Rate Path: With Exit Option 7 Union-wide interest rate 6 H interest rates with national currency Union-wide interest rate with exit option 5 4 interest rates (%) 3 2 1 0 -1 -2 30 35 40 45 50 time Kai Arvai (Banque de France) The
Slide 42: Break-up with High Trade Gains
Introduction Model Simulation Gains and Correlation Break-up with High Trade Gains Table: Break-up under different planners, trade gains 6.5% Planner Allocation Prob. of a break-up next Median duration of the Average Gain period union UK Ita UK Ita UK Ita National 2.15% 0% 67 100001 0.016654 0.01869
Slide 43: Lower Trade Gains
Introduction Model Simulation Gains and Correlation Lower Trade Gains Consider a large simulation with lower trade gains of 4.6%: Gains of union turn negative more frequently, countries would exit more frequently Gains Larger amount of transfers needed (0.1% of GDP per period). Union can still be su
Slide 44: Results with low trade gains
Introduction Model Simulation Gains and Correlation Results with low trade gains Table: Break-up under different planners, trade gains 4.6% Planner Allocation Prob. of a break-up next Median duration of the Average Gain period union UK Ita UK Ita UK Ita National 46.30% 2.29% 3 62 0.0047635 0.010301
Slide 45: Sustainability Frontier: National Planner
Introduction Model Simulation Gains and Correlation Sustainability Frontier: National Planner Kai Arvai (Banque de France) The Political Economy of Currency Unions September 30 2022 20 / 22
Slide 46: Sustainability Frontier: Monetary Policy
Introduction Model Simulation Gains and Correlation Sustainability Frontier: Monetary Policy Kai Arvai (Banque de France) The Political Economy of Currency Unions September 30 2022 20 / 22
Slide 47: Sustainability Frontier: Transfers
Introduction Model Simulation Gains and Correlation Sustainability Frontier: Transfers Kai Arvai (Banque de France) The Political Economy of Currency Unions September 30 2022 20 / 22
Slide 48: Robustness, asymmetric countries
Introduction Model Simulation Gains and Correlation Robustness, asymmetric countries Change PCP assumption to LCP or intermediate values Consider asymmetric countries If F is more open, it benefits more from trade in union F never hits participation constraint, H’s weight for CB with exit option con
Slide 49: Conclusion
Introduction Model Simulation Gains and Correlation Conclusion Monetary policy alone cannot sustain currency union Central bank can only extend the lifetime of an unstable currency union for some time It requires other interventions than monetary policy to prevent exit by a member state Larger gains
Slide 50: Trade Benefits
Trade Benefits The paper models the costs of a currency union in detail, not the gains The gains in form of more trade of goods in the steady state is by assumption Think about the elimination of currency conversion costs and more complicated contracts with different currencies Trade gains can also
Slide 51: Households
Households Countries H and F with representative households. X ∞ τ −t E β ln(Cτ ) − κLτ τ =t Ct is basket of home and foreign goods with home bias γ γ ∗1−γ ∗γ Ct = CH,t CF1−γ ,t , Ct∗ = CH,t CF ,t θ R1 θ−1 θ−1 Varieties h: CH,t = 0 C (h) θ dh Kai Arvai (Banque de France) The Political Economy of Cur
Slide 52: Households
Households Countries H and F with representative households. X ∞ τ −t E β ln(Cτ ) − κLτ τ =t Ct is basket of home and foreign goods with home bias γ γ ∗1−γ ∗γ Ct = CH,t CF1−γ ,t , Ct∗ = CH,t CF ,t θ R1 θ−1 θ−1 Varieties h: CH,t = 0 C (h) θ dh The budget constraint is given by BH,t +Et BF ,t +PH,t CH
Slide 53: Firms
Firms Input labor Lt (h) to produce variety h: Yt (h) = at Lt (h) Stochastic productivity at and at∗ Kai Arvai (Banque de France) The Political Economy of Currency Unions September 30 2022 22 / 22
Slide 54: Firms
Firms Input labor Lt (h) to produce variety h: Yt (h) = at Lt (h) Stochastic productivity at and at∗ Demand for good h: pt (h) −θ ∗ −θ p (h) ∗ CH,t + (1 + ϖ) t ∗ CH,t PH,t PH,t 1 Iceberg trade costs. If 1 unit is shipped only 1+ϖ arrives. Trade Marginal costs MCt and wages Wt : MCt (h) = MCt = at−1
Slide 55: Firms: Profits and Pricing
Firms: Profits and Pricing Pricing one period before Monopolistic pricing for H’s goods in H and F Firms maximize their profits Profits in H z }| { −θ pt (h) Πt (h) = (1−τ )pt (h)−MCt CH,t PH,t pt (h)∗ −θ ∗ ∗ + (1−τ )Et pt (h)−(1+ϖ)MCt ∗ CH,t PH,t | {z } Profits in F Kai Arvai (Banque de France) The
Slide 56: Optimal Prices
Optimal Prices 1 θ pt (h) = PH,t = Et−1 [MCt ] 1−τ θ−1 1 θ Et−1 MCt ∗ pt∗ (h) = PH,t = (1 + ϖ) 1−τ θ−1 Et main Kai Arvai (Banque de France) The Political Economy of Currency Unions September 30 2022 22 / 22
Slide 57: Discretion
Discretion ∞ X X β t p(s t | s t ) log(Ct (s t )) − κLt (s t ) max∞ {it (s t )}t=k t=0 s t ∈A Monetary policy implies that marginal costs follow: PHt = ΘEt−1 [MCt ] where Θ is the inflationary bias, a function of trade openness, markups and subsidies. The higher the markups and the higher the home b
Slide 58: Gains over time with low trade gains
Gains over time with low trade gains Gain 0.03 H 0.025 F 0.02 0.015 0.01 0.005 0 -0.005 -0.01 -0.015 0 20 40 60 80 100 back Kai Arvai (Banque de France) The Political Economy of Currency Unions September 30 2022 22 / 22
Slide 59: Transfers over time with low trade gains
Transfers over time with low trade gains 10-3 Transfers in each period 10-3 2 8 6 1 4 Transfer in % of unionwide GDP 2 0 0 Transfers -1 -2 -4 -2 -6 -8 -3 -10 -4 -12 10 20 30 40 50 60 70 80 90 100 Time back Kai Arvai (Banque de France) The Political Economy of Currency Unions September 30 2022 22 / 2
Slide 60: Households
Households Countries H and F with representative households. X ∞ τ −t E β ln(Cτ ) − κLτ τ =t Ct is a basket of home and foreign goods: γ ∗1−γ ∗γ Ct = CH,t CF1−γ ,t , Ct∗ = CH,t CF ,t θ R1 θ−1 θ−1 varieties h: CH,t = 0 C (h) θ dh Kai Arvai (Banque de France) The Political Economy of Currency Unions S
Slide 61: Households
Households Countries H and F with representative households. X ∞ τ −t E β ln(Cτ ) − κLτ τ =t Ct is a basket of home and foreign goods: γ ∗1−γ ∗γ Ct = CH,t CF1−γ ,t , Ct∗ = CH,t CF ,t θ R1 θ−1 θ−1 varieties h: CH,t = 0 C (h) θ dh The budget constraint is given by BH,t +Et BF ,t +PH,t CH,t +PF ,t CF ,
Slide 62: Firms
Firms Input labor Lt (h) to produce variety h: Yt (h) = Lt (h)at Stochastic productivity at and at∗ . Kai Arvai (Banque de France) The Political Economy of Currency Unions September 30 2022 22 / 22
Slide 63: Firms
Firms Input labor Lt (h) to produce variety h: Yt (h) = Lt (h)at Stochastic productivity at and at∗ . Demand for good h is: −θ ∗ −θ pt (h) p (h) ∗ CH,t + (1 + ϖ) t ∗ CH,t . PH,t PH,t 1 Iceberg trade costs. If 1 unit is shipped only 1+ϖ arrives. Marginal costs MCt and wages Wt . MCt (h) = MCt = at−1
Slide 64: Firms: Profits and Pricing
Firms: Profits and Pricing Profits are : Profits in H z }| { −θ pt (h) Πt (h) = (1−τ )pt (h)−MCt CH,t PH,t pt (h)∗ −θ ∗ ∗ + (1−τ )Et pt (h)−(1+ϖ)MCt ∗ CH,t PH,t | {z } Profits in F Pricing one period before: Monopolistic pricing for H’s goods in H and F back Kai Arvai (Banque de France) The Politica
Slide 65: Break-up: Simulating Gain over time
Break-up: Simulating Gain over time Gain 0.04 H 0.035 F 0.03 0.025 0.02 0.015 0.01 0.005 0 -0.005 0 20 40 60 80 100 Transfers Kai Arvai (Banque de France) The Political Economy of Currency Unions September 30 2022 22 / 22
Slide 66: 2.Ramsey Planner: Optimal Transfer in each Period
2.Ramsey Planner: Optimal Transfer in each Period 10-4 Transfers in each period 10-3 8 2.5 2 6 1.5 Transfer in % of unionwide GDP 4 1 2 0.5 Transfers 0 0 -0.5 -2 -1 -4 -1.5 -6 -2 -8 -2.5 10 20 30 40 50 60 70 80 90 100 Time Gains Kai Arvai (Banque de France) The Political Economy of Currency Unions S
Slide 67: Mechanism and Intuition for Monetary Policy
Mechanism and Intuition for Monetary Policy Why are currency unions costly? Example of an asymmetric shock. Productivity ↓ in Home country. → Marginal costs ↑ Kai Arvai (Banque de France) The Political Economy of Currency Unions September 30 2022 22 / 22
Slide 68: Mechanism and Intuition for Monetary Policy
Mechanism and Intuition for Monetary Policy Why are currency unions costly? Example of an asymmetric shock. Productivity ↓ in Home country. → Marginal costs ↑ Sticky prices: Prices do not rise enough, Home prices are too low Too much demand of home goods by foreigners Households in Home need to work
Slide 69: Mechanism and Intuition for Monetary Policy
Mechanism and Intuition for Monetary Policy Why are currency unions costly? Example of an asymmetric shock. Productivity ↓ in Home country. → Marginal costs ↑ Sticky prices: Prices do not rise enough, Home prices are too low Too much demand of home goods by foreigners Households in Home need to work
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