Central bank intervention, public debt and interest rate target zones

Posta, Pompeo Della

doi:10.1016/j.jmacro.2018.04.001

Cited by 10 publications

(13 citation statements)

References 10 publications

(14 reference statements)

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“…Equation (7) defines a short‐run (one‐period) government budget constraint in the form of a debt accumulation equation. It can be found in Beetsma and Bovenberg (1999), which is also formally derived, 8 while it is also incorporated by Blueschke and Neck (2011), Della Posta (2018), Foresti (2015, 2018), and van Aarle (2013). Equation (7) clearly states that the outstanding level of debt equals the fiscal stance, g j , plus the already accumulated level of debt, b 0 , plus the debt service real cost,

((), i - π_{j}^{e}) b_{0}

(Foresti, 2015).…”

Section: The Modelmentioning

confidence: 97%

“…In a recent paper, Anevlavis et al (2019) assume that the risk premium is affected not only by debt, but also by the dynamics of debt, again in a dynamic‐game setting for a closed economy, making the game a non‐linear quadratic differential one; the dynamics of debt are provided by the debt accumulation equation. In Della Posta (2018), the risk premium is affected by the supply of bonds, by a public debt demand stochastic shock, and by the first derivative of the expected interest rate to time. The latter effect aims to capture the documented interest rate non‐linearity in the euro area.…”

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confidence: 99%

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Debt stabilization and financial stability in a monetary union: Market versus authority‐based preventive solutions

Mavrodimitrakis

2020

Int. J Fin Econ

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Is a debt-concerned monetary authority desirable? This article deals with the impact of fiscal-monetary policy interactions in a monetary union on countryspecific and union-wide debt stabilization, when the authorities act strategically. The focus is on the impact that monetary policy would have on a debt-concerned fiscal authority through the debt constraint and the corresponding interaction with decentralized fiscal policies. It is shown that the fiscal-monetary (overall) policy coordination strategic regime delivers better results than the non-cooperative regime for both the output gap and the outstanding level of debt at the union level. Two further institutional arrangements are investigated and compared: An authority-based preventive procedure, which works through a debt-concerned monetary authority, and a market-based one, which works through financial markets by assuming a risk premium on country-specific nominal interest rates according to the countryspecific fiscal stances. The risk premium acts as a form of 'market-based' discipline. Both regimes stand between the decentralized and the centralized setting. The central bank's optimal weight on union-wide debt stabilization is computed when financial markets provide discipline to the fiscal authorities. It is optimal for the social planner to appoint a debt-concerned central banker, if there is a degree of conservatism from the monetary authority, and/or if the social planner cares about union-wide debt stabilization. A higher risk premium parameter enhances the impact of the former on the optimal weight on union-wide debt stabilization, while it reduces the impact of the latter.

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((), i - π_{j}^{e}) b_{0}

(Foresti, 2015).…”

Section: The Modelmentioning

confidence: 97%

mentioning

confidence: 99%

Debt stabilization and financial stability in a monetary union: Market versus authority‐based preventive solutions

Mavrodimitrakis

2020

Int. J Fin Econ

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“…The target zone literature—showing the stabilizing or destabilizing effects of the expectation (or lack of expectation) of an intervention to protect the upper threshold of a given variable—was initiated by Krugman (1991) in an exchange rate environment. A summary of the main conclusions obtained in that literature is contained in Della Posta (2018b, 2019) who applies that approach to the different context of the public debt euro area crisis. Della Posta (2020) applies instead the same target zone methodology to economic globalization.…”

Section: Literature Review and Motivation Of The Papermentioning

confidence: 99%

An analysis of the current backlash of economic globalization in a model with heterogeneous agents

Posta

2020

Metroeconomica

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This paper analyzes the current phase of backlash of economic globalization using a target zone approach in an environment populated by heterogeneous agents. The target zone analysis suggests that there may be a positive expectation effect (a ‘honeymoon’) when the social costs are credibly expected to remain below the benefits arising from globalization. In such a situation, the latter proceeds even beyond the level that society would be willing to accept in the absence of a such a target. When the costs are expected to exceed the benefits, instead, the opposite phenomenon (a ‘divorce’) arises. While in the case of exchange rates or interest rates, the passage from ‘honeymoon’ to ‘divorce’ might well occur with a discrete jump of the respective variable, rather than gradually, this is not the case when considering economic and social costs. Graduality is obtained thanks to the introduction of the hypothesis of heterogeneous agents. The proportion of those who think that the costs of globalization exceed the benefits increases with globalization and the ‘honeymoon’’, then, gradually turns into a ‘divorce’. Government's redistributive intervention to compensate the losers, however, could reduce the costs of globalization, thereby delaying or even preventing its crisis.

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“…Della Posta (2018 and2019), for example, shows that the exchange rates target zone model has a straightforward application to the different case of an interest rate target aimed at preventing speculative attacks against public debt, and uses this approach to interpret the recent 2010-2012 euro area crisis. More precisely, such a second generation of target zone models, is applied this time to interest rates (or primary surplus) rather than exchange rates, and considers public debt as the underlying state of economic fundamentals, rather than money supply, while maintaining the same structure and the same economic intuition as in the first generation.…”

Section: Introductionmentioning

confidence: 99%

The Revival of Target Zone Modeling

Posta

2022

Open Econ Rev

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Krugman's 'honeymoon' seminal paper showed in 1991 the stabilizing properties of the adoption of floating bands and gave rise to the literature on target zones. Subsequent contributions, however, showed that, in the absence of adequate reserve, a destabilizing 'divorce' would lead to speculative attacks.The euro area public debt crisis revived that literature, producing a second generation of target zone modeling, based on the idea that the sustainability of public debt implies the adoption of an interest rate target. Its lack of credibility (if the central bank or the government does not guarantee repayment of the debt) explains the non-linearity of interest rates that was observed during the euro area crisis. The model also allows to understand why some non-euro area countries were not subject to speculative attacks despite the fact that their public debt-to-GDP ratios were as high as those of countries in crisis, but guaranteed by the "virtual" reserves of their national central banks. Finally, a third generation of target zone modeling could also be identified with its application to the current crisis of economic globalization and has been extended to merge it with heterogeneous agents modeling.

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Central bank intervention, public debt and interest rate target zones

Cited by 10 publications

References 10 publications

Debt stabilization and financial stability in a monetary union: Market versus authority‐based preventive solutions

Debt stabilization and financial stability in a monetary union: Market versus authority‐based preventive solutions

An analysis of the current backlash of economic globalization in a model with heterogeneous agents

The Revival of Target Zone Modeling

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