Federal Reserve System

About: Federal Reserve System is a other organization based out in Washington D.C., District of Columbia, United States. It is known for research contribution in the topics: Monetary policy & Inflation. The organization has 2373 authors who have published 10301 publications receiving 511979 citations.

Idiosyncratic Volatility, Stock Market Volatility, and Expected Stock Returns

Abstract: We find that the value-weighted idiosyncratic stock volatility and aggregate stock market volatility jointly exhibit strong predictive power for excess stock market returns. The stock market risk–return relation is found to be positive, as stipulated by the capital asset pricing model; however, idiosyncratic volatility is negatively related to future stock market returns. Also, idiosyncratic volatility appears to be a pervasive macrovariable, and its forecasting abilities are very similar to those of the consumption–wealth ratio proposed by Lettau and Ludvigson.

Preventing deflation: lessons from Japan's experience in the 1990s

Abstract: This paper examines Japan's experience in the first half of the 1990s to shed some light on several issues that arise as inflation declines toward zero. Is it possible to recognize when an economy is moving into a phase of sustained deflation? How quickly should monetary policy respond to sharp declines in inflation? Are there factors that inhibit the monetary transmission mechanism as interest rates approach zero? What is the role for fiscal policy in warding off a deflationary episode? We conclude that Japan's sustained deflationary slump was very much unanticipated by Japanese policymakers and observers alike, and that this was a key factor in the authorities? failure to provide sufficient stimulus to maintain growth and positive inflation. Once inflation turned negative and short-term interest rates approached the zero-lower-bound, it became much more difficult for monetary policy to reactivate the economy. We found little compelling evidence that in the lead up to deflation in the first half of the 1990s, the ability of either monetary or fiscal policy to help support the economy fell off significantly. Based on all these considerations, we draw the general lesson from Japan's experience that when inflation and interest rates have fallen close to zero, and the risk of deflation is high, stimulus, both monetary and fiscal, should go beyond the levels conventionally implied by baseline forecasts of future inflation and economic activity.

Securitization without Adverse Selection: The Case of CLOs

Abstract: In this paper, we investigate whether securitization was associated with risky lending in the corporate loan market by examining the performance of individual loans held by CLOs. We employ two different datasets that identify loan holdings for a large set of CLOs and find that adverse selection problems in corporate loan securitizations are less severe than commonly believed. Using a battery of performance tests, we find that loans securitized before 2005 performed no worse than comparable unsecuritized loans originated by the same bank. Even loans originated by the bank that acts as the CLO underwriter do not show underperformance relative to the rest of the CLO portfolio. While there is some evidence of underperformance for securitized loans originated between 2005 and 2007, it is not consistent across samples, performance measures, and horizons. Overall, we argue that the securitization of corporate loans is fundamentally different from securitization of other assets classes because securitized loans are fractions of syndicated loans. Therefore, mechanisms used to align incentives in a lending syndicate are likely to reduce adverse selection in the choice of CLO collateral.

Macroeconomic Dynamics Near the ZLB: A Tale of Two Countries

Abstract: We compute a sunspot equilibrium in an estimated small-scale New Keynesian model with a zero lower bound (ZLB) constraint on nominal interest rates and a full set of stochastic fundamental shocks. In this equilibrium, a sunspot shock can move the economy from a regime in which inflation is close to the central bank’s target to a regime in which the central bank misses its target, inflation rates are negative, and interest rates are close to zero with high probability. A non-linear filter is used to examine whether the U.S. in the aftermath of the Great Recession and Japan in the late 1990s transitioned to a deflation regime. The results are somewhat sensitive to the model specification, but on balance, the answer is affirmative for Japan and negative for the U.S.

Sovereign credit risk, banks' government support, and bank stock returns around the world

Abstract: Banking crises have been largely associated with la rge output and welfare losses, and bank bailouts by the public sector are a recurring feature of financial crises. Such stylized facts underscore the importance of a well- functioning financial system for attaining economic stability and growth, as well as the relevance of understanding the relationship between the economic conditions fa ced by the government and the banking sector. In particular, differences and cha nges in explicit (and implicit) government support to banks may affect investors’ i ncentives to hold bank stocks, and thus impact banks’ external financing costs, wh ich may send ripples through the rest of the economy. Similarly, sovereign debt rat ing changes may unveil new information about a country’s fundamentals, generat ing a significant externality for the country’s banking system, and thus they also af fect investors’ incentives to hold bank stocks. We explore the joint impact of sovere ign debt rating changes and government support on bank stock returns from 36 countries between 1995 and 2011. Our findings show that sovereign rating chan ges have a significant and robust impact on bank stock returns. The impact is nonlin ear and varies across banks and countries. Moreover, we find that the effect is as ymmetric and stronger for downgrades than for upgrades, and that large downgr ades have a particularly strong negative impact on returns. Importantly, this resu lt is significantly stronger for banks with more ex-ante government support, providing evidence that investors perceive sovereigns and domestic banks as markedly interconnected.