Essays on applied international macroeconomics, monetary policy, and global finance

Galina Potjagailo ORCID

My dissertation empirically address various research questions related to monetary policy effectiveness and financial stability in presence of cross-country spillovers and global macroeconomic and financial booms and busts. The empirical analyses are based on advanced time series econometric techniques that exploit the cross-country and cross-variable variation in international data sets for statistical inference, and that partially allow for non-linearity and time-variation. From each analysis, economic policy implications are derived that can help economic policy makers set priorities and evaluate the effects of their interventions. The PhD thesis is composed of three research papers, one single-authored and two co-authored. The essay "Spillover effects from euro area monetary policy across Europe: A factor-augmented VAR approach" is single-authored and was published in the Journal of International Money and Finance in 2017. The analysis poses the question of whether and how, in presence of strong trade integration and financial openness in Europe, monetary policies of the European Central Bank (ECB) affect 14 European countries outside the monetary union. The issue is highly relevant in view of the expansionary measures conducted by the ECB after the financial crisis. It remains topical in view of a future exit from these policies, which might entail dampening effects on European economies. In the paper, I develop a factor-augmented VAR (FAVAR) model that features various country blocks summarized by common factors. It thus exploits a large cross-country data set in presence of rather short time series in European countries. I find evidence for sizable expansionary spillovers on production and financial markets in non-euro area countries after a monetary policy expansion in the euro area, although differences in the size of spillovers according to country characteristics are observed. A fixed exchange rate regime tends to be associated with higher effects to the real economy, whereas higher financial openness tends to go hand in hand with stronger monetary spillovers via financial markets. I find that the ``trilemma" in international macroeconomics – the idea that in presence of open capital markets, countries give up monetary policy independence only in presence of a fixed exchange rate regime – is alive in European countries, as flexible exchange rates sooth spillover effects to the real economy. The essay "Monetary policy during financial crises: is the transmission mechanism impaired" is co-authored with Nils Jannsen and Maik Wolters and was published in the International Journal of Central Banking in 2019. During the 2008 financial crisis, central banks eased monetary policy aggressively in an unprecedented way. Empirical analyses on the effectiveness of monetary policy during such episodes are challenged by the fact that financial crises are rare events. In this paper, we use a non-linear panel VAR (PVAR), and we ask whether monetary policy interventions during financial crises have been effective for a set of 20 advanced economies since 1984. The approach exploits the panel dimension of the data to improve the precision of the estimation in the financial crisis regime, while allowing for a large degree of heterogeneity across countries. Impulse response analysis and variance decompositions suggest that monetary policy is highly effective at the onset of financial crises. It is advisable to ease monetary policy quickly during financial crises. For the recent financial crisis episode, counterfactual results also show that in the US -- where monetary policy was eased quickly -- the downturn in GDP was significantly mitigated, while this was not the case in the euro area, where interest rate cuts started one year later. The essay "Global financial cycles since 1880" is co-authored with Maik Wolters and that has been published as working paper in March 2019. The analysis builds on a recent strand of literature that observes a strong degree of commonality in fluctuations of credit and asset prices across countries. Such a “global financial cycle” might, at the extreme, dominate domestic financial conditions outweighing the role of fundamentals. We provide a detailed picture of global co-movement in credit and asset prices using a flexible dynamic factor model (DFM) over 130 years of data. The model allows for flexible features such as dynamic common and idiosyncratic shocks, time-varying parameters and a multi-level factor structure. We find that global co-movement occurs both across financial sectors and within sectors, and is historically not an entirely new phenomenon. But its importance has increased for some variables since the 1980s: for equity prices, global cycles play currently a dominant and historically unprecedented role. Global credit and house price dynamics have become more protracted and, for a sub-group of rather financially open economies, also more important.

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Potjagailo, Galina: Essays on applied international macroeconomics, monetary policy, and global finance. 2019.

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