Publications

The central bank balance sheet as a policy tool: lessons from the Bank of England’s experience

Published in Journal of Financial Services Research, 2024

(with Andrew Bailey, Jonathan Bridges, Josh Jones and Aakash Mankodi)

This paper examines lessons from the previously unconventional monetary policy measures deployed since the Global Financial Crisis and the emerging evidence on policy responses to the Covid-19 pandemic in 2020. The Bank of England’s quantitative easing (QE) response to the Covid-19 shock was both large in scale and rapid in pace. The QE response also occurred against the backdrop of heightened market dysfunction, suggesting a particular form of “state contingency” of QE. The paper considers some potential implications of this state contingency for future central bank balance sheet policies and the operational framework to support them.

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The Brexit vote, productivity growth and macroeconomic adjustments in the United Kingdom

Published in The Review of Economic Studies, 2024

(with Ben Broadbent, Federico Di Pace, Thomas Drechsel and Silvana Tenreyro)

The U.K. economy experienced significant macroeconomic adjustments following the 2016 referendum on its withdrawal from the European Union. To understand these adjustments, this paper presents empirical facts using novel U.K. macroeconomic data and estimates a small open economy model with tradable and non-tradable sectors. We demonstrate that the referendum outcome can be interpreted as news about a future decline in productivity growth in the tradable sector. An immediate fall in the relative price of non-tradable goods induces a temporary “sweet spot” for tradable producers. Economic activity in the tradable sector expands in the short run, while the non-tradable sector contracts. Aggregate output, consumption, and investment growth decelerate.

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House price dynamics, optimal LTV limits and the liquidity trap

Published in The Review of Economic Studies, 2024

(with Andrea Ferrero and Benjamin Nelson)

This paper studies the optimal design of a loan-to-value (LTV) limit and its implications for monetary policy in a model with nominal rigidities and financial frictions. The welfare-based loss function features a role for macro-prudential policy to enhance risk-sharing. In a house price boom-bust episode, the active use of LTV limits alleviates debt-deleveraging dynamics and prevents the economy from falling into a liquidity trap.

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DSGE-based priors for BVARs and quasi-Bayesian DSGE estimation

Published in Econometrics and Statistics, 2020

(with Thomai Filippeli and Konstantinos Theodoridis)

This paper developes a new method for estimating Bayesian vector autoregression (VAR) models using priors from a dynamic stochastic general equilibrium (DSGE) models. The DSGE model priors are used to determine the moments of an independent Normal-Wishart prior for the VAR parameters. Two hyper-parameters control the tightness of the DSGE-implied priors on the autoregressive coefficients and the residual covariance matrix respectively. Selecting the values of the hyper-parameters that maximize the marginal likelihood of the Bayesian VAR provides a method for isolating subsets of DSGE parameter priors that are at odds with the data.

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Uncertain policy promises

Published in European Economic Review, 2019

(with Alex Haberis and Matt Waldron)

We develop a general method for analyzing the effects of macroeconomic policy promises about which the private sector is uncertain. We illustrate the method in two applications to a central bank’s ‘forward guidance’ about the path for its policy rate. We demonstrate that uncertainty about forward guidance resulting from its potential to be imperfectly credible makes it much less powerful than in textbook models. In an application to the FOMC’s ‘threshold-based’ guidance, we show that increasing the precision of the conditions under which the policy rate ‘lifts off’ from the zero bound requires a lower unemployment threshold to deliver a given amount of stimulus.

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Threshold-based forward guidance

Published in Journal of Economic Dynamics and Control, 2018

(with Lena Boneva and Matt Waldron)

When the monetary policy rate is at the zero bound, “threshold-based forward guidance” (TBFG) is a state-contingent promise to delay liftoff from the zero bound until macroeconomic variables breach particular “thresholds”. We study TBFG within a stochastic version of the workhorse New Keynesian model. We show that TBFG can be used to provide temporary stimulus, while also limiting the time inconsistency of policy promises. Existence of a unique equilibrium requires the policymaker to specify how the thresholds should be interpreted, as well as their values. With an appropriate choice of thresholds, TBFG outperforms forward guidance based purely on calendar time and substantially reduces welfare losses compared to the optimal time-consistent policy.

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Estimating the effects of forward guidance in rational expectations models

Published in European Economic Review, 2015

This paper argues that simulations of forward guidance in rational expectations models should be assessed using the “modest policy interventions” framework introduced by Eric Leeper and Tao Zha. The estimated effects of a policy intervention should be considered reliable only if that intervention is unlikely to trigger a revision in private sector beliefs about the conduct of monetary policy. I show how to constrain simulations of forward guidance to ensure that they are regarded as modest policy interventions and illustrate the technique using a medium-scale DSGE model estimated on US data. I find that many experiments that generate the large responses of macroeconomic variables deemed implausible by many economists – the so-called “forward guidance puzzle” – are not modest policy interventions. Such experiments should be treated with caution and more reliable results can be obtained by constraining the experiment to be a modest policy intervention. In the cases I study, the quantitative effects on macroeconomic variables are more plausible when this constraint is imposed.

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Practical tools for policy analysis in DSGE models with missing shocks

Published in Journal of Applied Econometrics, 2014

(with Dario Caldara and Anna Lipińska)

In this paper we analyze the propagation of shocks originating in sectors that are not present in a baseline dynamic stochastic general equilibrium (DSGE) model. Specifically, we proxy the missing sector through a small set of factors that feed into the structural shocks of the DSGE model to create correlated disturbances. We estimate the factor structure by either matching impulse responses of the augmented DSGE model to those generated by an auxiliary model or by using Bayesian techniques. We apply this methodology to track the effects of oil shocks and housing demand shocks in models without energy or housing sectors.

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On the application and use of DSGE models

Published in Journal of Economic Dynamics and Control, 2008

(with Pedro Alvarez-Lois, Laura Piscitelli and Alasdair Scott)

We study the communication of analysis based on DSGE models to policymakersby comparing the ‘core/non-core’ approach used in the Bank of England Quarterly Model, comparing it with two others: the ‘measurement error’ approach of Ireland and the ‘shocks-in-parameters’ approach utilised by Smets and Wouters and others. Using a mock forecast scenario for illustration, we argue that each of these approaches would present model users with difficulties in communicating with policymakers. We conjecture that it is this problem, not theory or fitting the data, that currently hinders more widespread influence of DSGE-type models on policy-making.

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The danger of inflating expectations of macroeconomic stability: heuristic switching in an overlapping-generations monetary model

Published in International Journal of Central Banking, 2008

(with Alex Brazier, Mervyn King and Tony Yates)

We discuss the cause and durability of the marked fall in the volatility of inflation in recent decades using a monetary overlapping-generations model. Agents forecast inflation using two “heuristics”, one based on lagged inflation, the other on an inflation target announced by the central bank. Agents switch between heuristics based on an imperfect assessment of how each has performed in the past. Movements in the proportions of agents using each heuristic generate fluctuations in small-sample measures of economic volatility. We find that, relative to the rule that would be optimal under rational expectations, a rule that responds to both productivity shocks and inflation expectations better stabilizes the economy but does not prevent agents from switching between heuristics.

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Forecasting with measurement errors in dynamic models

Published in International Journal of Forecasting, 2005

(with George Kapetanios and Tony Yates)

In this paper, we explore the consequences for forecasting of the following two facts: first, that over time statistics agencies revise and improve published data, so that observations on more recent events are those that are least well measured. Second, that economies are such that observations on the most recent events contain the largest signal about the future. We discuss a variety of forecasting problems in this environment, and present an application using a univariate model of the quarterly growth of UK private consumption expenditure.

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Monetary policy rules for an open economy

Published in Journal of Economic Dynamics and Control, 2003

(with Nicoletta Batini and Stephen Millard)

The popular Taylor rule is meant to inform monetary policy in economies that are closed. Its main open-economy alternative, i.e., the Ball (1999) rule based on a Monetary Conditions Index, cannot offer guidance for the day-to-day conduct of monetary policy because it may perform poorly in the face of specific exchange rate shocks. In this paper we examine the performance of various monetary policy rules suitable for small open economies vis-a-vis existing rules. This entails comparing the asymptotic properties of a two-sector open-economy dynamic stochastic general equilibrium model calibrated on UK data under different rules. We find that an inflation-forecast-based rule is a good rule in this respect, one that also proves robust to different shocks. Adding a separate response to the level of the real exchange rate improves stabilisation only marginally.

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