Alberto Locarno

Basel III: Long-Term Impact on Economic Performance and Fluctuations

We assess the long-term economic impact of the new regulatory standards (the Basel III reform), answering the following questions: 1) What is the impact of the reform on long-term economic performance? 2) What is the impact of the reform on economic fluctuations? 3) What is the impact of the adoption of countercyclical capital buffers on economic fluctuations? The main results are the following: 1) Each percentage point increase in the capital ratio causes a median 0.09 percent decline in the level of steady-state output, relative to the baseline. The impact of the new liquidity regulation is of a similar order of magnitude, at 0.08 percent. This paper does not estimate the benefits of the new regulation in terms of reduced frequency and severity of financial crisis, analyzed in Basel Committee on Banking Supervision (2010b). 2) The reform should dampen output volatility; the magnitude of the effect is heterogeneous across models; the median effect is modest. 3) The adoption of countercyclical capital buffers could have a more sizable dampening effect on output volatility.

NEW MACROECONOMIC EVIDENCE ON MONETARY POLICY TRANSMISSION IN THE EURO AREA

This paper presents some new macroeconomic evidence on the transmission mechanism of monetary policy in the euro area. The evidence is drawn from a number of collaborative research projects undertaken by the ECB and the National Central Banks (NCBs) of the euro area and utilizes a variety of national and euro area aggregate VAR and structural macroeconomic models. A qualitatively similar pattern of results following a monetary policy shock is observed across models, with the maximum output effect typically occurring after 1-2 years. Price effects are somewhat slower to materialize and are more persistent. According to both sets of results, investment is the main (domestic) contributor to the drop in real GDP. This contrasts with findings for the United States where consumption plays a dominant role in the transmission process. Finally, structural macroeconomic models predict that if the exchange rate moves in line with an Uncovered Interest Parity (UIP) condition, the short-run output and price effects are largely driven by the exchange rate channel. (JEL: C50, C52, E52, E17, E5) Copyright (c) 2003 The European Economic Association.

The Sources of Unemployment Fluctuations: An Empirical Application to the Italian Case

The paper attempts at disentangling the main sources of the rise in the Italian unemployment rate over the last four decades on the basis of a small model a la Layard-Nickell, identified and estimated using a structural VAR approach. Unemployment movements are assumed to be driven by fully permanent and long-lived but temporary shocks. The component of unemployment related to current and lagged demand shocks deriving from the sVAR estimation is found to be relevant and quite persistent, its swings accounting for approximately a 4 percentage points change in the unemployment rate. In particular, while temporary by construction, this component shows an almost continuous increase since the beginning of the 1980s. Nonetheless, the results confirm that the bulk of the rise in Italian unemployment is to be attributed to non-demand factors: temporary (namely productivity and labour supply shocks) and fully permanent (namely shocks to the wage bargaining schedule). The latter explain a gradual rise of about 2.5 percentage points between the end of the 1960s and the beginning of the 1980s; over the last 15-20 years, however, they do not seem to have further contributed to the worsening of unemployment situation. JEL Classification: C51, E24, J60

NAIRU: Incomes Policy and Inflation

Italy has been one of the few industrial countries resorting to incomes policy in the current decade. Many Italian observers have attributed to this policy the remarkable slowdown in wage and price inflation. However, no apparent progress has been made concerning labour market unbalances, as the unemployment rate remains 4 percentage points above the already high level inherited from the 80s. This paper analyses this experience: it looks at the evidence of changes in the bargaining structure stemming from the incomes policies agreements, discusses their possible long run impact in terms of NAIRU and features of the inflationary process, presents a quantitative assessment of the specific contribution of those agreements to the inflation outcome. The analysis is carried out by looking at the presence of structural breaks in an aggregate-wage equation and resorting to counterfactual simulations of a large macroeconomic model (the Bank of Italy quarterly model). The empirical results ... L’Italie a ete l’un de rares pays a recourir a une politique des revenus pendant cette decennie. De nombreux observateurs italiens ont attribue a cette politique le remarquable ralentissement de l’inflation des salaire et des prix. Toutefois, aucun progres apparent n’a ete realise concernant les desequilibres du marche du travail, le taux de chomage restant 4 points plus haut que son niveau deja eleve des annees 80. Cet article analyse cette experience: il examine les effets du changement de l’organisation des negociations salariales lie aux accords de politiques des revenus, discute leurs eventuelles consequences a long terme sur le NAIRU et les caracteristiques du processus d’inflation et fournit une evaluation quantitative de la contribution de ces accords sur les performances d’inflation. L’analyse est effectuee a partir d’une recherche des ruptures structurelles de l’equation de salaire a un niveau agrege et de simulations a l’aide d’un modele macro-economique de grande taille ...

The Bank of Italy's quarterly model

This book provides a description of the main macroeconomic models used by the European Central Bank and the euro area national central banks (Eurosystem). These models are used to help prepare economic projections and scenario analysis for individual countries and the euro area as a whole.

Sovereign risk, monetary policy and fiscal multipliers: a structural model-based assessment

This paper briefly reviews the literature on fiscal multipliers and then presents results for the Italian economy obtained by simulating a dynamic general equilibrium model that allows for the possibility (a) that the zero lower bound may be binding and (b) that the initial public debt-to-GDP ratio may affect the financing conditions of the public and private sectors (sovereign risk channel). The results are the following. First, the public consumption multiplier is in general less than 1. Second, it goes above 1 only under extremely strong assumptions, namely the constancy of the monetary policy rate for an exceptionally long period (at least five years) and there is full time-coincidence between the fiscal and the monetary stimuli. Third, when the sovereign risk channel is active the government spending multiplier is much lower. Finally, in all cases tax multipliers are lower than government consumption multipliers.

Modelling Italian Potential Output and the Output Gap

The aim of the paper is to estimate a reliable quarterly time-series of potential output for the Italian economy, exploiting four alternative approaches: a Bayesian unobserved component method, a univariate time-varying autoregressive model, a production function approach and a structural VAR. Based on a wide range of evaluation criteria, all methods generate output gaps that accurately describe the Italian business cycle over the past three decades. All output gap measures are subject to non-negligible revisions when new data become available. Nonetheless they still prove to be informative about the current cyclical phase and, unlike the evidence reported in most of the literature, helpful at predicting inflation compared with simple benchmarks. We assess also the performance of output gap estimates obtained by combining the four original indicators, using either equal weights or Bayesian averaging, showing that the resulting measures (i) are less sensitive to revisions; (ii) are at least as good as the originals at tracking business cycle fluctuations; (iii) are more accurate as inflation predictors.

Trust, But Verify. De-Anchoring of Inflation Expectations Under Learning and Heterogeneity

The paper studies how a prolonged period of subdued price developments may induce a de-anchoring of inflation expectations from the central banks objective. This is shown within a framework where agents form expectations using adaptive learning, choosing among a set of alternative forecasting models. The analysis is accompanied by empirical evidence on the properties of inflation expectations in the euro area. Our results also suggest that monetary policy may lose effectiveness if delayed too much, as expectations are allowed to drift away from target for too long. JEL Classification: E31, E37, E58, D83

Deflationary Shocks and De-Anchoring of Inflation Expectations

A prolonged period of low inflation, particularly in a situation of monetary policy rates near the zero lower bound, can heighten the risk of inflation expectations de-anchoring from the central bank objective. The purpose of this paper is to assess the effects of a sequence of deflationary shocks, such as those that hit the euro area in 2013-14, on expected/realized inflation and output. To do so we consider a simple New Keynesian model where agents, rather than being endowed with rational expectations, have incomplete information about the working of the economy and form expectations through an adaptive learning process (in the sense that they behave like econometricians, using regressions to anticipate the future value of the variables of interest). The model is simulated with euro area data over the period 2014-16 under the assumption both of rational expectations and of learning. The main findings are the followings: (i) under learning, price dynamics in 2015-16 is on average 0.6 percentage points lower than in the case of fully rational agents, as inflation expectations are strongly affected by the repeated deflationary shocks; (ii) the learning process implies a (data-driven) de-anchoring of inflation expectations from the central bank target, which would be perceived by economic agents to fall to 0.8% at the end of 2016; (iii) output expectations would also be lower in the case of learning, resulting in a slower recovery of economic activity.

Public Investment and Monetary Policy Stance in the Euro Area

This paper evaluates the macroeconomic impact of a programme for public infrastructure spending in the euro area (EA) under alternative assumptions about funding sources and the monetary policy stance. The quantitative assessment is made by simulating a dynamic general equilibrium model of a monetary union with region-specific fiscal policy. The main results are the following. First, EA-wide stimuli are more effective than unilateral (region-specific) stimuli. Second, under EA-wide stimulus, the fiscal multiplier is close to 2 if the forward guidance (FG) on the short-term policy rate holds. Third, if the monetary authority keeps down both the policy rates (with FG) and the long-term interest rates (with quantitative easing), the fiscal multiplier exceeds 3 at peak and investment spending is self-financing. Fourth, the financing method is relevant: debt financing, particularly under an accommodative monetary policy stance and if the sovereign spreads do not increase, is more growth-friendly than tax financing in the short-term (but not in the long-term). Fifth, the effectiveness of the fiscal stimulus is larger if government spending is directed towards productive goods and its implementation occurs efficiently and without delays.