The Effectiveness of the Federal Reserve's Monetary Policy under the Zero Lower Bound

• Thesis title in Czech: Efektivita monetární politiky Federálního rezervního systému při nulových úrokových sazbách
• Thesis title in English: The Effectiveness of the Federal Reserve's Monetary Policy under the Zero Lower Bound
• English key words: central bank, interest rate, zero lower bound, monetary policy
• Academic year of topic announcement: 2016/2017
• Thesis type: Bachelor's thesis
• Thesis language: angličtina
• Department: Institute of Economic Studies (23-IES)
• Supervisor: prof. Roman Horváth, Ph.D.
• Author: hidden - assigned by the advisor
• Date of registration: 09.11.2016
• Date of assignment: 09.11.2016
• Date and time of defence: 18.09.2017 09:00
• Venue of defence: Opletalova - Opletalova 26, O105, Opletalova - místn. č. 105
• Date of electronic submission: 01.08.2017
• Date of proceeded defence: 18.09.2017
• Opponents: PhDr. Boril Šopov, M.Sc., LL.M.

References

Bibliography

Andersen, Torben G., Tim Bollerslev, Francis X. Diebold, and Clara Veda. 2003. “Micro Effects of Macro Announcements: Real-Time Price Discovery in Foreign Exchange.” American Economic Review 93 (1): 38-62.

Campbell, John Y., Andrew W. Lo, and A. Craig MacKinlay. 1997. The Econometrics of Financial Markets. Princeton: Princeton University Press.

Gagnon, Joseph, Matthew Raskin, Julie Remache, and Brian Sack. 2011. “The Financial Market Effects of the Federal Reserve’s Large-Scale Asset Purchases.” International Journal of Central Banking 7 (1): 3-43.

Gürkaynak, Refet S., Brian Sack, and Eric T. Swanson. 2005. “Do Actions Speak Louder than Words? The Response of Asset Prices to Monetary Policy Actions and Statements.” International Journal of Central Banking 1 (1): 55-93.

Kuttner, Kenneth N. 2001. “Monetary Policy Surprises and Interest Rates: Evidence from the Fed Funds Futures Market.” Journal of Monetary Economics 47 (3): 523-44.

Swanson, E., and J. Williams. 2014a. “Measuring the Effect of the Zero Lower Bound on Medium- and Longer-Term Interest Rates.” American Economic Review 104 (10): 3154-85.

Swanson, E., and J. Williams. 2014b. “Measuring the Effect of the Zero Lower Bound on Yields and Exchange Rates in the U.K. and Germany.” Journal of International Economics 92 (S1): S2-21.

Woodford, Michael. 2003. Interest and Prices: Foundations of a Theory of Monetary Policy. Princeton: Princeton University Press.

Woodford, Michael. 2011. “Simple Analytics of the Government Expenditure Multiplier.” American Economic Journal: Macroeconomics 3 (1): 1-35.

Preliminary scope of work in English

Research question and motivation

In response to worsening economic conditions, many central banks around the world have lowered their policy rates to levels at or near zero. Some parts of economic theory suggest that at rates close to the zero lower bound, monetary policy loses some or even all of its effectiveness (Woodford, 2011). However, as Swanson and Williams (2014a, 2014b) showed, in 2012, after the policy rates had been at or near their effective zero lower bound for 4 years, there had still been room for the Fed, ECB, and the Bank of England to affect the interest rates through monetary policy. The explanation is that the entire path of expected future short-term interest rates plays the key role, not just the current short-term interest rate (Woodford, 2003). This implies that central banks can still influence the economy by managing expectations. My task will be to examine how the ability of the Fed, ECB, the Bank of England, and possibly Czech National Bank and Swiss National Bank (if the data will be available and sufficient) to influence interest rates evolved over the period with zero lower bound, most importantly in the recent 4 years which is a period not covered by Swanson and Williams (2014a, 2014b). Research in this area is much needed in order for economists and especially policymakers to understand the effects of the zero lower bound which is a new factor in the economic environment.

Contribution

The contribution of my thesis consists of an update in Swanson and Williams‘ work which covers only a period ending in 2012. In addition, I will control for a few other factors, such as trend or systemic stress, in the regressions. Next, if the data will be available and sufficient, I will apply the methods used in Swanson and Williams (2014a, 2014b) for the case of the Czech Republic and Switzerland. The results should provide valuable information not only about the effectiveness of monetary policy, but also about the possible size of the fiscal multiplier, an important element in fiscal policy.

Methodology

I will use data for the bond yields (of various maturities), realized and expected values of various macro data announcements, systemic stress, and possibly other factors. I will apply the existing method proposed in Swanson and Williams (2014a). I will begin by separating the surprise component of several macro data announcements important for the US, UK, German, and possibly Czech and Swiss economies. I will do that by subtracting the expectation of the value of individual data release from their actual (realized) value. Secondly, I will use the OLS method to estimate the sensitivity of bond yields to those surprise components over the period from 1990 to 2016 (the beginning of the period will depend on the data available). I will use a similar regression to the one used in Gürkaynak, Sack, and Swanson (2005), but I will control for some other factors, such as trend or systemic stress. Lastly, I will compare the sensitivity of bond yields from the period where most policy rates were at or near the effective lower bound (usually a period from late 2008 to 2016) with the sensitivity which prevailed up until 2008 (which is considered to be a period where the sensitivity was normal). Periods in which the zero lower bound has been binding (partially or completely) should appear as periods in which the sensitivity of bond yields has been unusually low. This comparison will be achieved by running rolling regressions.

Outline

1. Introduction - theoretical background
2. Data - description of the data
3. Methodology - empirical framework
4. Results and Further Issues - discussion of results, further issues, comments
5. Conclusion - summary of the thesis