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Keywords Exchange rates; Foreign exchange intervention; Monetary policy Highlights * Foreign exchange interventions can improve welfare under the portfolio channel. * Fundamental shocks can trigger an inefficient path for the exchange rate. * Optimal simple rules' efficiency depends on the nature and frequency of the shocks. * Empirical support linking FXI in Peru to both financial and macroeconomic shocks. Abstract In this paper we extend a new Keynesian small open economy model with a segmented financial market featuring financial intermediaries as in Itskhoki and Mukhin (2021). The former ingredients generate deviations from the uncovered interest parity (UIP) condition. More precisely, the portfolio decisions of financial intermediaries add a time varying risk-premium element to the traditional UIP that depends on foreign exchange intervention (FXI) and FX orders by foreign investors. We present closed form solutions for optimal FXI. Additionally, we analyse the effectiveness of different FXI rules commonly discussed across policymakers. Our findings are as follows: (i) FXI rules can improve welfare in presence of the portfolio balance channel; (ii) under a general parametrization, fundamental shocks can trigger an inefficient path for the exchange rate; (iii) optimal policy calls for leaning against the wind to portfolio flow shocks and leaning with the wind to fundamental shocks; (iv) the effectiveness of FXI rules depends on the frequency and nature of the shocks and parameters characterizing the economy. Abbreviations FX: Foreign exchange., FXI: Foreign exchange interventions. Author Affiliation: (a) Banco Central de Reserva del Perú, Jr. Santa Rosa 441, Lima, 15001 Lima, Peru (b) Universidad del Pacífico, Jr. Sanchez Cerro 2020, Jesus María, 15076 Lima, Peru * Corresponding author. (footnote)[white star] An earlier version of this paper circulated under the title 'Foreign Exchange Intervention and Monetary Policy Design: a Market Microstructure Analysis'. We are grateful to Lawrence Christiano, Paolo Vitale, Wouter J. Den Haan, Muhammad Ali Nasir, Paul Castillo, Fernando Perez, Freddy Pinzón and Ken Miyahara as well as the participants of the BIS 4th CCA conference, the Northwestern University, Federal Reserve of Atlanta, Bank of Canada and BCRP seminar, the 3rd Financial Economics Meeting, LACEA-LAMES 2022 and the 2022 CEMLA-FRBNY-ECB conference. We also thank the Editor-in-Chief, the Guest Editor and the referees for suggesting substantial improvements. We are grateful to Gerardo Herrera for his excellent research assistance. This research did not receive any specific grant from funding agencies in the public, commercial, or not-for-profit sectors. Byline: Carlos Montoro [carlos.montoro@bcrp.gob.pe] (a), Marco Ortiz [ma.ortizs@up.edu.pe] (b,*)

Keywords Macroprudential policy; Loan-to-value ratios; Cost of credit; Local projections Highlights * We estimate the effects of loan-to-value (LTV) announcements in a sample of 18 EU countries over 2000--2019. * We look at the effects on household credit, house prices, mortgage interest rates, and household (durable) consumption. * Announcements of LTV tightening policies have a negative impact on household credit, house prices, and durable consumption. * We find differences in the responses to LTV announcements with delayed and quick implementation. * LTV announcements of binding actions and actions without speed limits are found to produce stronger effects. Abstract Earlier empirical studies on the effects of macroprudential policies focus on implementation dates and, in most cases, ignore potential anticipation effects. In this paper, we collect monthly data on announcements of loan-to-value (LTV) ratio restrictions covering 18 EU economies during the period 2000--2019. We show that announcements of LTV tightening policies can have a sizeable negative impact on household credit, house prices, and household durable goods consumption. We find that the estimated contractionary effects on household credit are driven by announcements with delayed implementation, whereas the effects on house prices are driven by announcements with quick implementation. We also show that the above contractionary effects are stronger following announcements of binding actions and actions without speed limits, suggesting that the design of macroprudential policies matters for their effectiveness. Author Affiliation: (a) European Banking Authority, Paris, France (b) University of Amsterdam, Amsterdam, the Netherlands (c) Tinbergen Institute, Amsterdam, the Netherlands * Corresponding author at: European Banking Authority, Paris, France. (footnote)[white star] DISCLAIMER: The paper was written at the time Dimitris Mokas was employed by the De Nederlandsche Bank. Any views expressed are solely those of the authors and so cannot be taken to represent those of the European Banking Authority (EBA) or the De Nederlandsche Bank or the Eurosystem, or to state the policy of the the EBA or the De Nederlandsche Bank or the Eurosystem. Neither the EBA or the De Nederlandsche Bank or the Eurosystem nor any person acting on their behalf may be held responsible for the use which may be made of the information contained in this publication, or for any errors which, despite careful preparation and checking, may appear therein. (footnote)[white star][white star] This research did not receive any specific grant from funding agencies in the public, commercial, or not-for-profit sectors. Byline: Dimitris Mokas [d.mokas@uva.nl] (a,b,*), Massimo Giuliodori (b,c)

Keywords Optimal monetary policy; Liquidity-constrained consumers; Currency union; Nominal wage rigidity; Two-country new Keynesian model Highlights * We examine optimal monetary policy in a currency union with liquidity-constrained (LC) consumers. * The response of macroeconomic variables to foreign shocks is dampened as a share of foreign LC consumers increases. * The costs of discretionary policy are generally not greater if LC consumers exist in both countries. * The presence of nominal wage rigidity significantly lowers welfare losses. Abstract This paper examines optimal monetary policy in a currency union model with liquidity-constrained (LC) consumers. The result demonstrates that given LC consumers in the home country, the response of macroeconomic variables to a foreign structural shock is generally dampened as a share of foreign LC consumers increases. This paper finds that the costs of discretionary policy are generally not greater in a currency union in which LC consumers exist in both countries. We address that the presence of nominal wage rigidity significantly lowers welfare losses in our model. Author Affiliation: Faculty of Economics, Momoyama Gakuin University, 1-1, Manabino, Izumi, Osaka 594-1198, Japan Research Fellow, Graduate School of Economics, Kobe University, Japan * Address: Faculty of Economics, Momoyama Gakuin University, 1-1, Manabino, Izumi, Osaka 594-1198, Japan. (footnote)[white star] I would like to thank Mark M. Spiegel and two anonymous referees for their helpful comments and suggestions. Also I would like to thank Real Arai, Yuichi Furukawa, Kohei Hasui, Ryo Hasumi, Hirokuni Iiboshi, Minoru Kunisaki, Yoichi Matubayashi, Shin-ichi Nishiyama, and Mitsuhiro Okano for their helpful comments and suggestions. This paper was supported by JSPS KAKENHI Grant Numbers JP16H03618 and JP20K01784. All remaining errors are my own. Byline: Daisuke Ida [ida-dai@andrew.ac.jp] (*)

Keywords Capital market integration; Insolvency law; Sectoral effects Highlights * The paper investigates the effect of reforms of insolvency regulations on cross-border debt and equity positions. * Investors prefer to invest more in countries with more efficient insolvency frameworks. * The effect differs across sectors, with institutional investors' investment in equity and banks' investment in debt driving the results. * Shareholders are mostly responsive to prevention and streamlining tools, while debt-holders respond more to availability of restructuring tools. * Countries with developed financial markets and effective government are the ones that see the largest debt and equity inflows after reforms of insolvency regulations. * These findings have important policy implications for capital market integration in Europe, justifying setting up of minimum standards for insolvency procedures across the EU Member States. Abstract This paper investigates the effect of insolvency regulation reforms on cross-border debt and equity investments at aggregate and sectoral levels. Using disaggregated data from the ECB's Securities Holdings Statistics by Sector (SHSS) database and the OECD indicators on efficiency of insolvency regulations, we find that investors increase their debt and equity holdings in the countries that undertook reforms of insolvency regulations and whose insolvency framework improved thereafter. The effect differs across sectors, with investments of institutional investors in equity and investments of banks in debt being particularly sensitive. In addition, shareholders are mostly responsive to prevention and streamlining tools, while debt holders respond more to availability of restructuring tools. Finally, we show that reforms of insolvency regulations are particularly effective in increasing cross-border debt and equity investments when the quality of insolvency regulations in holder and issuer countries is relatively similar, arguing for potential benefits of harmonizing insolvency regulations. Author Affiliation: (a) DIW Berlin, Germany (b) Deutsche Bundesbank, Germany (c) Deutsche Bundesbank, Germany * Corresponding author. (footnote)[white star] This paper was written in the context of the SAW-project 'European capital markets and macroeconomic stability: The role of equity and debt.' Funding from the Leibniz Competition is gratefully acknowledged. The paper was written during research visits at the Deutsche Bundesbank. We thank Deutsche Bundesbank for giving us access to the Securities Holdings Statistics by Sector data. We are grateful to Thomas Droll, Melanie Wulff, Franziska Bremus, and seminar participants at the Deutsche Bundesbank for their helpful comments and suggestions. The views expressed here are those of the authors and do not necessarily represent or reflect the views of the Deutsche Bundesbank, Cour de Comptes, and World Bank Group. (footnote)1 Present address: World Bank. (footnote)2 Present address: Cour des Comptes. Byline: Tatsiana Kliatskova [tkliatskova@worldbank.org] (a,1,*), Loïc Baptiste Savatier [loic.savatier@ccomptes.fr] (b,2), Michael Schmidt [michael.schmidt3@bundesbank.de] (c)

Keywords International investment positions; Foreign currency debt; Current account; Foreign reserves; Sudden stops with large output loss; External crises Highlights * Building on the vast literature, this paper focuses on the role of the structure of the international investment position (IIP) in affecting countries' external vulnerabilities. Using a sample of 73 advanced and emerging economies and new database on the IIP's currency composition. * We find that the size and structure of external liabilities and assets, especially with regards to currency denomination, matter in understanding balance-of-payments pressures. Specifically, and beyond the standard macroeconomic factors highlighted in other studies, higher levels of foreign-currency denominated external debt, both in gross and net terms, increase the likelihood of an external crisis and of a sudden stop with large growth impact. Foreign reserve assets play a mitigating role, although with diminishing returns, and the combination of flow and stock imbalances amplifies external risks, especially during periods of heightened global risk aversion. * The results are especially strong for emerging economies, where the impact of flow and stock imbalances and foreign currency mismatches are larger and more robust across specifications. Abstract Building on the vast literature, this paper focuses on the role of the structure of the international investment position (IIP) in affecting countries' external vulnerabilities. Using a sample of 73 advanced and emerging economies and new database on the IIP's currency composition, we find that the size and structure of external liabilities and assets, especially with regards to currency denomination, matter in understanding balance-of-payments pressures. Specifically, and beyond the standard macroeconomic factors highlighted in other studies, higher levels of foreign-currency denominated external debt, both in gross and net terms, increase the likelihood of an external crisis and of a sudden stop with large growth impact. Foreign reserve assets play a mitigating role, although with diminishing returns, and the combination of flow and stock imbalances amplifies external risks, especially during periods of heightened global risk aversion. The results are especially strong for emerging economies, where the impact of flow and stock imbalances and foreign currency mismatches are larger and more robust across specifications. Author Affiliation: International Monetary Fund, 700 19th Street NW, Washington, DC 20431, United States * Corresponding author. (footnote)[white star] We would like to thank Gustavo Adler, Tamon Asonuma, Suman Basu, Tam Bayoumi, Luis Catão, Pierre-Olivier Gourinchas, Daniel Leigh, Gian Maria Milesi-Ferretti, Roberto Perrelli, Antonio Spilimbergo, Alessandro Turrini and two anonymous referees for useful discussions and comments. We are grateful to Luciana Juvenal for facilitating use of the new database on currency denomination of external assets and liabilities, to Zijiao Wang for her excellent research assistance, and to Jane Haizel, Kyun Suk Chang and Jair Rodriguez for their editorial assistance. The views expressed are those of the authors and do not necessarily represent the views of the IMF, its Executive Board, or IMF management. Byline: Luis Cubeddu [lcubeddu@imf.org], Swarnali Ahmed Hannan [sahmed@imf.org], Pau Rabanal [prabanal@imf.org] (*)

Keywords Innovation; R&D; Patents; Capital controls; Financial markets Highlights * Capital controls shape innovation activity through the finance of R&D investment. * An inverse U-shaped relationship is documented between capital controls and R&D. * Composition of individual asset restrictions in capital controls index matters. * Equity-based finance restrictions are found to greatly shape both R&D and patents. * Credit (bank) and direct investment asset restrictions exert no effect. Abstract This paper studies the role of capital controls in shaping innovation activity through the finance of R&D investment. The paper offers insights into the real effects of financial sector on the economy. It first asks whether capital controls shape innovation activity, both from the input (R&D) and output (patents) side. Based on a large dataset that includes 53 developed and emerging countries over the period 1996--2016 and a fixed effects identification and appropriate instrumentation strategy, results support a robust inverse U-shaped relationship between capital controls and R&D. Capital restrictions can be beneficial for R&D investment till a certain point and thereafter have detrimental negative effects, particularly for patents. Second, it asks whether the composition of restrictions of individual assets in the aggregate capital control index matters. We find equity-based finance restrictions greatly shape innovation activity, whereas controls on credit (bank) and direct investment assets exert no effect. Author Affiliation: Department of Economics, University of Piraeus, Piraeus 185 34, Greece * Corresponding author. Byline: Alexandros Bechlioulis [abechlioulis@unipi.gr], Claire Economidou [economidou@unipi.gr] (*), Dimitrios Karamanis [karamanis@unipi.gr], Dimitrios Konstantios [konstantios@unipi.gr]

Keywords Risk sharing; Consumption smoothing; Government consumption; Exchange rates Abstract We aim to improve upon the existing empirical literature on international risk sharing channels under three dimensions. First, we generalize dynamic multi-equation approaches, by adopting a Heterogeneous Panel VAR model where the coefficients are allowed to vary across countries. Second, we introduce two new risk sharing channels -- government consumption and the real exchange rate -- to investigate the role of fiscal policy and international price adjustments. Third, we establish a better link between the 'channels' empirical model and a theoretical formulation of the risk sharing condition, which allows for PPP violations. Our empirical analysis, for 21 OECD countries over 1960--2018, confirms the strong smoothing role played by credit markets and the small degree of risk sharing achieved through factor incomes. Interestingly, government consumption tends to have a dis-smoothing effect, due to its counter-cyclicality. The real exchange rate is driven by the dis-smoothing role played by the nominal exchange rate, only partially offset by relative price adjustments. The evolution of these mechanisms is diverse, but we document the role played by the deterioration of credit market smoothing for the long-run decline in risk sharing started at the beginning of the century. However, the annihilation of total risk sharing at the start of the century reflects mostly the nominal exchange rate effect. Our results are strikingly different across countries, especially if we take into account the (dis-) smoothing effects occurring through the real exchange rate. Even considering only traditional risk sharing channels, the country-specific magnitude of risk sharing on impact ranges from around 10% to over 50%. In addition, dynamics are also quite diverse across countries. Author Affiliation: (a) Department of Economics - John Cabot University, Italy (b) Department of Economics - Seoul National University, South Korea (c) Joint Research Centre - European Commission, Italy (d) Department of Economic Analysis: Quantitative Economics - Universidad Autonoma de Madrid, Spain * Corresponding author at: European Commission, Joint Research Centre, Via Enrico Fermi 2749, 20127 Ispra, VA Italy. (footnote)1 The views expressed in this paper are those of the authors and should not be attributed to the European Commission. (footnote)2 This paper was started when Pilar Poncela was at the European Commission, Joint Research Centre at Ispra (Italy) and finished when she returned to Universidad Autónoma de Madrid (Spain). She acknowledges partial financial support from the Spanish Government Project PID2019-108079GB-C22/AEI/10.13039/501100011033 (MINECO/FEDER). Byline: Pierfederico Asdrubali (a,1), Soyoung Kim (b,1), Filippo Maria Pericoli [filippo.pericoli@yahoo.it] (c,1,*), Pilar Poncela (c,d,1,2)

Keywords Affine arbitrage-free term structure model; Unconventional monetary policy; Deflation risk; Deflation protection; Fiscal policy Abstract Japanese realized and expected inflation has been below the Bank of Japan's two percent target for many years. We examine the impact of announcements of expansionary monetary and fiscal policy under COVID-19 on inflation expectations from an arbitrage-free term structure model of nominal and real yields. We find that both types of policies failed to lift inflation expectations, which instead declined notably over the pandemic period and are projected to only slowly revert back to Bank of Japan target levels. Our results therefore illustrate the challenges faced in raising well-anchored low inflation expectations. Author Affiliation: Federal Reserve Bank of San Francisco, United States (footnote)[white star] This paper was presented as a keynote address at the 3rd Annual Financial Economics Meeting at the ESSCA School of Management, whose participants are thanked for helpful comments, including the guest editor Zied Ftiti. Helpful comments were also received from participants in the ADBI conference on COVID-19 and Central Banking in Asia and the Pacific, the ICEA INFLATION Conference - 7th conference in the After the Pandemic series, the JFA-PBFJ Special Issue Conference, the Financial Markets and Corporate Governance Conference 2022, and the Inflation and Deflation in Asia Conference for helpful comments, including our discussants Alex Kurov, Etsuro Shioji, and Pierre Siklos, and Naoyuki Yoshino. Furthermore, we thank Gus Kmetz for excellent research assistance. The views in this paper are solely the responsibility of the authors and should not be interpreted as reflecting the views of the Federal Reserve Bank of San Francisco or the Federal Reserve System. Byline: Jens H.E. Christensen [Jens.Christensen@sf.frb.org], Mark M. Spiegel [Mark.Spiegel@sf.frb.org]

Keywords Sustainable finance; Climate change; Green assets; COVID-19; Economic support; Quantile methods; Asset management Highlights * We examine the dynamics of the entire distribution of green investment funds in relation to the COVID-19. * The impact of pandemic on green assets is positive and greater for negative returns. * Our main findings hold and are reinforced when we exclude the global financial and European sovereign debt crises. * We account for the broader macroeconomic environment (e.g., equity market volatility, long-term interest rates, breakeven inflation and oil prices). * We offer interesting insights in terms of investment and portfolio diversification. Abstract This paper adopts quantile regressions to scrutinize the dynamics of green investment funds in relation to the outbreak of the COVID-19 pandemic. We use data on three of the largest green investment funds (BNP PARIBAS Funds Climate Impact, Nordea Global Climate & Environment, and AMUNDI Funds Global Ecology ESG), whose proceeds finance environmental-focused projects. We consider explicitly how different types of COVID-19 measures impact on these green assets. We show evidence that economic support due to COVID-19 has a positive effect on the green assets. The effect is especially strong when the returns are negative. We further report that strigency owing to the pandemic is also positively associated with green investment funds, but again, for negative returns. On the other hand, the effect of confirmed deaths is not as strong shows up mainly at lower quantiles. A similar results applies to infectious disease equity market volatility. We account for the broader macroeconomic environment and subject our models to a battery of sub-sample robustness checks. Our research offers interesting insights in terms of investment and portfolio diversification, that can be applied to the analysis of asset management and policy making. Author Affiliation: (a) Department of Accounting and Finance, University of the Peloponnese, Antikalamos GR-24100, Greece (b) ECO SOC, Universitat Rovira i Virgili, FEE, Avinguda Universitat 1, 43204 Reus, Spain (c) IPAG Business School, 184 Boulevard Saint-Germain, FR-75006 Paris, France (d) Department of Business Administration, Athens University of Economics and Business, 76 Patission Street, GR-10434 Athens, Greece * Corresponding author. (footnote)[white star] An earlier version of the paper was presented at the 3rd Financial Economics Meeting, Paris, 30 June-1 July 2022 and thanks are due to conference participants for many helpful comments and discussions. The paper has benefited from valuable comments by seminar participants at the Athens University of Economics and Business and IPAG Business School. We are grateful to Joscha Beckmann, Rafael Casellas Aparicio, Zied Ftiti, Davide Furceri, Dimitris Georgoutsos, Jean-Yves Gnabo, Paul McNeilis, Francisco Nadal de Simone, and George Tavlas for stimulating discussions on earlier drafts of the paper. We also thank Editor-in-Chief Mark Spiegel, an anonymous referee and a discussant for very constructive comments. Nektarios Aslanidis acknowledges financial support by the Spanish Government, Ministry of Science and Innovation through the project PID2019--105982GB-I00. The usual caveat applies. Byline: Maria-Eleni K. Agoraki [m.agoraki@uop.gr] (a), Nektarios Aslanidis [nektarios.aslanidis@urv.cat] (b,*), Georgios P. Kouretas [kouretas@aueb.gr] (c,d)

Keywords Macroprudential policy; Monetary policy; Credit; Macroeconomic effect; Macroprudential policy response Highlights * We provide empirical evidence about the response of macroprudential policy to financial risks and about the macroeconomic effects of macroprudential policy. * The paper shows that positive credit shocks are generally met with tighter macroprudential policy. * We find that whereas macroprudential policy shocks mostly affect residential investment and household credit, monetary policy shocks have more widespread effects on the economy. Abstract In this paper, we provide empirical evidence about the response of macroprudential policy to financial risks, as well as the broader macroeconomic effects of macroprudential policy and the underlying transmission mechanism. To this end, we use structural panel vector autoregressions and a dataset covering 32 advanced and emerging economies. We find that positive credit shocks are generally met with tighter macroprudential policy. Moreover, whereas macroprudential policy shocks mostly affect residential investment and household credit, monetary policy shocks have more widespread effects on the economy. We also show that macro-financial country characteristics such as the exchange rate regime and the level of financial development affect both the policy response to credit shocks and the macroeconomic effects of macroprudential policy. Author Affiliation: (a) Seoul National University, South Korea (b) Bank for International Settlements, Switzerland * Corresponding author. (footnote)[white star] The views expressed in this paper are those of the authors and do not necessarily reflect those of the Bank for International Settlements. We thank the Associate Editor, Kasper Roszbach, and an anonymous referee for very helpful comments. We also thank Stijn Claessens, Mariarosaria Comunale, Mathias Drehmann, Richhild Moessner, Benoit Mojon, Ilhyock Shim, Kwanho Shin and participants at a Bank of Korea seminar, a BIS seminar, a seminar at Aix-Marseille School of Economics, the Forum on Economic Growth and Development, the 50th Money, Macro and Finance Conference, the IBEFA 2020 meetings and a Seoul National University Public Lecture for helpful comments and suggestions. This work was supported by the Ministry of Education of the Republic of Korea and the National Research Foundation of Korea (NRF-2020S1A5A2A01041205). Byline: Soyoung Kim [soyoungkim@snu.ac.kr] (a), Aaron Mehrotra [aaron.mehrotra@bis.org] (b,*)

Keywords Fiscal policy; Sovereign debt; Fiscal deficit; Private debt Highlights * Presents a comprehensive cross-country database of fiscal space for up to 202 countries since 1990. * 30 indicators of fiscal space in the database are grouped into four categories: government debt sustainability, balance sheet composition, external and private sector debt, and market perception. * Documents the weakening of fiscal space in the 1990s, the broad-based improvement over the next decade, and the synchronized deterioration over the subsequent decade heading into the global recession of 2020. * Analyzes the behavior of fiscal space during a wide range of adverse events. * The results show that some of these events coincide with a lasting deterioration in fiscal space whereas others tend to have short-lived consequences. Abstract This paper presents a comprehensive cross-country database of fiscal space, broadly defined as the availability of budgetary resources for a government to service its financial obligations. The database covers up to 202 countries over the period 1990--2020, and includes 30 indicators of fiscal space grouped into four categories: debt sustainability, balance sheet vulnerability, external and private sector debt-related risks as potential causes of contingent liabilities, and market access. Using the database, the paper, first, documents the weakening of fiscal space in the 1990s, the broad-based improvement over the first decade of the 2000s, and the synchronized deterioration over the subsequent decade heading into the global recession of 2020. Second, it analyzes the behavior of fiscal space during a wide range of adverse events, including banking crises, natural disasters, and wars. The results show that some of these events coincide with a lasting deterioration in fiscal space whereas others tend to have at most short-lived consequences for fiscal space. Author Affiliation: (a) World Bank, Brookings Institution, CEPR, CAMA, United States (b) World Bank, CEPR, CAMA, United States (c) World Bank, United States * Corresponding author. (footnote) Kurlat was a consultant at the World Bank when the early analysis was conducted for this study. We would like to thank Mark Spiegel and three anonymous referees for their detailed suggestions, Carlos Arteta, Eduardo Borenzstein, Kevin Clinton, Raphael Espinoza, Raju Huidrom, Anna Ivanova, Ugo Panizza, Evis Rucaj, Marc Stocker, Carlos Végh, Dana Vorisek and seminar participants at the World Bank for valuable comments, and Graeme Littler and Praveen Penmetsa for developing the database web interface. Shijie Shi and Xinghao Gong provided excellent research assistance. The findings, interpretations and conclusions expressed in this paper are entirely those of the authors and should not be attributed to the World Bank, its Executive Directors, or the countries they represent. The database is periodically updated and available at http://www.worldbank.org/en/research/brief/fiscal-space (http://www.worldbank.org/en/research/brief/fiscal-space). (footnote)1 Independent. Byline: M. Ayhan Kose [akose@worldbank.org] (a), Sergio Kurlat (1), Franziska Ohnsorge [fohnsorge@worldbank.org] (b), Naotaka Sugawara [nsugawara@worldbank.org] (c,*)

Keywords Real exchange rate; The law of one price; Local currency pricing Highlights * We use a two-country model to examine the dynamics of good-level RER volatility. * We evaluate the importance of monetary policy shocks and productivity shocks. * The contribution of monetary policy shocks is 71% in good-level RER volatility. Abstract What is the origin of the law of one price deviation? To address this issue, this paper exploits the properties of good-level real exchange rate (RER) volatility; nominal (real) shocks predict the positive (negative) correlation between price stickiness and volatility. Using the US and 25 European countries, we estimate the contribution of each shock based on a two-country model in local currency pricing and the empirical analysis. The results indicate that the weighted average contribution of nominal shocks to the overall good-level RER volatility is 71%. Author Affiliation: Monetary and Capital Markets Department, International Monetary Fund 700 19th Street, N.W., Washington, D.C. 20431, USA (footnote)[white star] The author is grateful to Kenneth D. West, Enghin Atalay, Charles Engel, Kees G. Koedijk, Ananth Seshadri, Mototsugu Shintani, Takayuki Tsuruga, Noah Williams, an anonymous referee, and the seminar participants at Tokyo Workshop on International and Development Economics for their many insights and suggestions. All remaining errors are my own. The views expressed in this paper are those of the author and do not necessarily represent the views of the IMF, its Executive Board, or IMF management. Byline: Fumitaka Nakamura [fnakamura@imf.org]

Keywords Foreign holdings; Emerging markets; Local currency government bond; Yield spread; Exchange rate risk Highlights * This study examines the effects of foreign participation in the local currency government bond markets on the yield spread. * We show that, during tranquil periods, high foreign participation helps narrow the yield spread. * However, in times of market distress, high foreign participation asymmetrically exacerbates the widening of the yield spread by a larger magnitude. * This effect is mainly reflected in the currency risk component of the yield spread. Abstract With the objective of reducing the problem of currency mismatch, emerging Asian economies have made a concerted effort to develop the local currency government bond (LCGB) markets since the early 2000s. Since then, foreign investors have had a substantial and growing presence in the markets. This paper examines the effects of foreign participation in the LCGB markets on the yield spread. We show that the effect of high foreign participation on market stability is non-monotonic: During tranquil periods, high foreign participation helps reduce yield spread; however, in times of market distress, high foreign participation asymmetrically exacerbates the widening of the yield spread by a larger magnitude. This effect could be due to foreign investors' concerns about currency risk. This is supported by the estimation that yield spread widening during market distress is mainly driven by the currency risk component, but not the credit risk component. Our results underscore the importance of broadening the domestic investor base in the region, and maintaining a manageable exchange rate expectation and central bank credibility. Author Affiliation: Research Department, Hong Kong Monetary Authority, Hong Kong SAR * Address: 55/F, Two International Finance Centre, 8 Finance Street, Central, Hong Kong. (footnote)[white star] The views and analysis expressed in this paper are those of the authors, and do not necessarily represent the views of the Hong Kong Monetary Authority. The author would like to thank Michael Cheng, Jason Wu, Chi-Sang Tam and an anonymous referee for their valuable comments and suggestions. Byline: Edmund Ho Cheung Ho [ehcho@hkma.gov.hk] (*)

Keywords Oil prices; Sovereign bonds Highlights * This paper examines whether oil price changes have significant impacts on emerging market sovereign bond spreads. * We focus on how different structural shocks to oil prices affect the bond spreads. * Oil-specific demand shocks have both statistically and economically significant impacts on emerging market sovereign bond spreads. * Global aggregate demand shocks are of secondary importance, while shocks to oil supply play an insignificant role. Abstract This paper examines whether oil price changes have significant impacts on emerging market sovereign bond spreads. In particular, we focus on how different structural shocks to oil prices affect the bond spreads. Using monthly data for 15 emerging market countries from 1998 to 2019, we show evidence that shocks to oil supply play an insignificant role in determining the bond spreads. In contrast, oil-specific demand shocks have both statistically and economically significant impacts on emerging market sovereign bond spreads. Global aggregate demand shocks are of secondary importance. As oil-specific demand shocks are associated with financial market speculative activity, such activity may lead to search-for-yield behavior in emerging market bond markets, and thus reduce emerging market sovereign spreads. Author Affiliation: (a) Department of Economics, National Taiwan University, Taiwan (b) CTBC Investments CO., LTD, Taiwan (c) Department of Economics, National Cheng Kung University, No.1, University Road, Tainan City 701, Taiwan * Corresponding author. Byline: Shiu-Sheng Chen [sschen@ntu.edu.tw] (a), Shiangtsz Huang [p06323027@ntu.edu.tw] (b), Tzu-Yu Lin [tylin@ncku.edu.tw] (c,*)

Keywords Banking crises; Income distribution; Inequality Highlights * This paper quantifies the distributional implications of banking crises for a panel of 132 economies. * We rely on different empirical settings, including an instrumental variable approach to infer causal effects. * Our results show that banking crises systematically reduce the income share of rich households and positively affect middle-class households. * We also find that income inequality increases during periods preceding the occurrence of a banking crisis. Abstract How do banking crises affect rich, middle-class and poor households? This paper quantifies the distributional implications of banking crises for a panel of 132 economies over the 1970--2017 period. We rely on different empirical settings, including an instrumental variable approach, that exploit the geographical diffusion of banking crises across borders. Our results show that banking crises systematically reduce the income share of rich households and positively affect middle-class households. We also find that income inequality increases during periods preceding the occurrence of a banking crisis. Author Affiliation: (a) International Monetary Fund and University of Bordeaux, BSE, ULR CNRS 6060, United States (b) University of Bordeaux, BSE, UMR CNRS 6060, France * Corresponding author. (footnote)[white star] We thank the editor Kasper Roszbach, an anonymous reviewer, and seminar participants at the 2021 AAP/ANR CaLiBank Workshop for constructive comments. This work was also supported by the French National Research Agency Grants ANR-17-EURE-0020 and the Excellence Initiative of Aix-Marseille University - A*MIDEX. Byline: Mehdi El Herradi [Melherradi@imf.org] (a,*), Aurélien Leroy [aurelien.leroy@u-bordeaux.fr] (b)

Keywords Capital controls; Macroprudential policy; Nowcasting; Financial crisis; Capital flows Highlights * Capital controls convey useful information about economic fundamental. * Information conveyed can dampen the effectiveness of capital controls. * With learning from policy, debt level is higher and financial crisis more severe. Abstract Capital controls, policy measures used by governments to regulate cross-country financial flows, have became standard policy options in many emerging market economies. This paper will focus on what capital controls convey about the state of the economy and the implications of such revelation for policy efficacy. Empirically, this paper finds that capital controls convey important information market participants use to improve their understanding of economic fundamentals. Using a small open economy model with a collateral constraint and over-borrowing relative to the social optimum, I incorporate a representative agent's Bayesian updating of information in response to change in policy and show that the efficacy of capital controls to correct over-borrowing and mitigate the negative impact of financial crises could be undermined if the agent rationally learns from policy. This paper highlights the need for policymakers to take into account the unintended consequences of information revelation in the design of capital flow management policies. Author Affiliation: World Bank, 1818 H Street NW, Washington DC 20433, USA (footnote)[white star] I am grateful to my advisors Kathryn Dominguez, Chris House, John Leahy, Linda Tesar and Pablo Ottonello. For helpful comments and suggestions I thank two anonymous referees, Michael Devereux, Gabe Ehrlich, Chris Friedrich, Gita Gopinath, Andrei Levchenko, Pierre-Olivier Gourinchas, Olivier Jeanne, Enrique Mendoza, Stefan Nagel and participants at the international economics seminar at the University of Michigan, the Young Economist Symposium, the Rimini conference in economics and finance, the Midwest macroeconomics meetings and the Annual Meetings of the European Economic Association. I am also grateful to Javier Bianchi for sharing a set of codes to compute a small open economy model with a collateral constraint. All remaining errors are mine. The findings, interpretations, and conclusions expressed in this paper are entirely those of the authors and should not be attributed to the World Bank, its Executive Directors, or the countries they represent. Byline: Owen Nie [onie@worldbank.org]

Keywords Mutual funds; Flow-performance relationship; Globalization; Multi-currency issuance Highlights * We study how globalization affects response of fund flows to past performance. * Novel data set on bond funds from the internationalized Luxembourg fund industry. * We define domestic funds as funds distributing shares in mainly one currency. * Global funds are funds issuing shares in several currencies. * Flows into global funds more sensitive to performance than flows to domestic funds. Abstract We study how globalization affects the response of mutual fund flows to past performance. For that purpose, we use a novel data set on bond funds from the internationalized Luxembourg fund industry. We find that flows into global funds, i.e. funds issuing shares in several currencies, are more sensitive to past performance than flows to domestic funds, i.e. funds distributing shares in mainly one currency. Moreover, global funds exhibit a higher flow sensitivity to low and high performance, while flows to domestic funds are more reactive to medium performance. These results are robust to using alternative measures of globalization to define domestic and global funds, like the geographical diversification in the distribution of shares and the geographical and currency diversification in the asset portfolio. Thus, the globalization dimension of mutual funds, largely neglected by related studies, raises the sensitivity of flows to past performance and needs to be considered by supervisory authorities. Author Affiliation: Banque centrale du Luxembourg, Luxembourg * Corresponding author. (footnote)[white star] This paper should not be reported as representing the views of the BCL or the Eurosystem. The views expressed are those of the authors and may not be shared by other research staff or policymakers in the BCL or the Eurosystem. We thank the editor Menzie Chinn, two anonymous reviewers as well as Patrick Fève and Paolo Guarda for useful comments. This paper has been produced in the context of the partnership agreement between the Toulouse School of Economics (TSE) and the Banque centrale du Luxembourg (BCL). Byline: Julien Ciccone [julien.ciccone@bcl.lu], Luca Marchiori [luca.marchiori@bcl.lu] (*), Romuald Morhs [romuald.morhs@bcl.lu]

Keywords Exchange rate; Macroeconomic fundamentals; Private information Highlights * The paper quantifies the effect of future macro fundamentals on exchange rates. * Exchange rate informativeness is defined as the contribution of future fundamentals to the variance of the adjusted exchange rate. * Future macro fundamentals account for 0.11 of the variance of exchange rates. Abstract Asset prices reflect aggregate private information of agents about future macroeconomic fundamentals. This paper uses a dispersed information model as the theoretical framework and empirically measures the informativeness of exchange rates for traditional macroeconomic variables. Exchange rate movements are related to observed macro fundamental shocks, future fundamentals, and aggregate noise shocks. The measure of informativeness is defined as the contribution of future fundamentals to the variance of the adjusted exchange rate, which is a function of future fundamental shocks and noise trade. Baseline results show that future fundamentals account for 11 percent of the variance of adjusted exchange rates. Author Affiliation: Bucknell University, One Dent Dr, Lewisburg, PA 17837, United States (footnote)[white star] I thank Menzie Chinn (Editor) and two anonymous referees for constructive comments. I also like to thank Eric van Wincoop and Alan Taylor for helpful comments. Zahra Khosravi provided excellent research assistance. Byline: Vahid Gholampour [vahid.gholampour@bucknell.edu]

Keywords Federal Reserve; Emerging Markets; Monetary Policy Shocks; Information Effects; Investment Funds Abstract We study the effects of U.S. monetary policy on international mutual fund investment. We apply a novel variant of the shock identification procedure in Bu et al. (2021) to decompose observed U.S. monetary policy surprises into pure monetary policy shock and information news shock components. An increase in interest rates driven by a pure monetary policy shock leads to large and persistent outflows from emerging markets (EMs) and to a lesser extent global funds. On the other hand, increases in interest rates driven by positive information news shocks (i) do not cause outflows from EM funds, and (ii) lead investors to reallocate capital out of safe U.S. bond funds and into growth-sensitive U.S. and global equity funds. We attribute these differences to the risk-taking channel of monetary policy. Pure monetary policy shocks heighten risk aversion, while information news shocks lower uncertainty. Author Affiliation: (a) Asia School of Business in collaboration with MIT Sloan, Kuala Lumpur, Malaysia (b) Organisation for Economic Co-operation and Development, Paris, France (c) Fanhai International School of Finance, Fudan University, Shanghai, China * Corresponding author. (footnote)[white star] This paper should not be reported as representing the official views of the OECD or of its member countries. The opinions expressed and arguments employed are those of the author(s). The first draft of this paper was written when John Rogers was Senior Adviser in the International Finance Division of the Board of Governors of the Federal Reserve System and Gabriele Ciminelli was Assistant Professor of Finance and Economics at the Asia School of Business. Please address correspondence to gabriele.ciminelli@asb.edu.my. For regular updates of our shock series, see https://sites.google.com/view/wenbinwu-ucsd/research. Byline: Gabriele Ciminelli [gabriele.ciminelli@asb.edu.my] (a,b,*), John Rogers [johnrogers@fudan.edu.cn] (c), Wenbin Wu [wenbinwu@fudan.edu.cn] (c)

Keywords Crisis; Debt; Sovereign default; Fiscal; Machine learning Highlights * We identify leading indicators of fiscal crises for a sample of 188 countries. * Complex interactions and non-linearities are captured by leveraging machine learning. * We open the black box on how predictors change the probability of a crisis. * We find public debt is a top predictor, but not the interest-growth differential. * Interactions between public and external and financial imbalances also matter. Abstract Many countries face record public debt levels but have until recently benefited from favorable interest-growth differentials. The empirical evidence on the link between high debt and crises is also inconclusive. This paper re-examines the importance of public debt as a leading indicator of fiscal crises using machine learning techniques to account for complex interactions ignored in the literature. We find that public debt is among the most important predictors: beyond certain debt levels, the likelihood of crises increases regardless of the interest-growth differential. Excessive current account deficits and private credit and their interaction with public debt are also important indicators of distress. These results underscore the risks from high debt levels and the role of broader economic imbalances in the emergence of fiscal crises. Author Affiliation: International Monetary Fund, Washington, DC 20431, USA * Corresponding author. (footnote)[white star] This research did not receive any specific grant from funding agencies in the public, commercial, or not-for-profit sectors. The views expressed in this paper are those of the author(s) and do not necessarily represent the views of the IMF, its Executive Board, or IMF management. (footnote)1 Since the completion of this paper, the author has moved to Discover Financial Services, Riverwoods, IL 60015, USA. Byline: Marialuz Moreno Badia [MMorenobadia@imf.org] (*), Paulo Medas [PMedas@imf.org], Pranav Gupta [PGupta@imf.org], Yuan Xiang [yuanxiang@discover.com] (1)

Keywords Bank; Financial cycles; Leverage; Internationalization; International portfolio; Currency Highlights * International diversification induces both a currency and a risk channel for banks. * The risk channel raises the tail risk of banks when the home economy performs best. * The currency channel lowers the tail risk, boosting banks' fund-raising capacity. * During the GFC, the currency channel helped reduce banks' leverage procyclicality. Abstract The amplitude of leverage procyclicality is heterogeneous across banks and across countries. This paper introduces international diversification of bank balance sheets as a factor in this observed heterogeneity, with a special emphasis on currency diversification. Based on a new theoretical framework, it shows that the impact of international diversification on leverage procyclicality depends on the relative performance of economies, the global business cycle and the exchange rate regime. By altering the distribution of global bank portfolios, international diversification adds a currency channel to the risk channel of the global leverage cycle. Using granular data on banks located in Prance, the paper shows that the pre-crisis international diversification of banks increased leverage procyclicality during the 2008--2009 crisis. Focusing on the currency channel, namely the valuation effect of currency diversification, my results show that it had a negative effect on leverage procyclicality during this period. The currency channel thus helped to offset part of the increased risk caused by the crisis. These findings draw attention to the specific role of balance sheet currency diversification in financial stability risk. Author Affiliation: Banque de France, 39 rue Croxi des Petits Champs, 75001 Paris, France (footnote)[white star] I am very grateful to Mohamed Belhaj, Agnes Benassy Quere, Benjamin Carton, Nicolas Coeur-dacier, Nuno Coimbra, Olivier de Bandt, Reint Gropp, Jean Imbs, Dirk Krueger, Patrick Pintus, Hyun Song Shin, Cedric Tille, Belinda Tracey, Helene Rey as well as participants at the ECB's Sintra forum (2015), the IWFSAS (2017), the annual AFSE congress (2018) and the 4th BoE-BdF International Macroeconomics Workshop (2018), and seminar participants at the AMSE, the CEPII, the Paris Dauphine University Macro Finance Seminar, the PSE and the Banque de France for very helpful comments. The views expressed here are those of the author and do not necessarily represent those of the Banque de France. Byline: Justine Pedrono [justine.pedrono@banque-france.fr]

Keywords Global Value Chain (GVC); Participation Index; Economic Growth Highlights * We propose a production activity accounting framework with which to distinguish GVC and non-GVC production activities. * We also propose a set of GVC participation indices that improves on measures used in the literature. * The composition of different types of production activities in global GDP has evolved dramatically since 1995. * Production activities of complex GVC activities comove with global business cycles more than other types of production activities. * The level of GVC participation affects the performance of economic growth. Abstract Global Value Chains (GVCs) now represent a key aspect of economic interdependence across countries. This paper makes two methodological contributions. First, it proposes a framework with which to decompose total production activities at the country, sector, or country-sector level into different types depending on whether they are for pure domestic demand, traditional international trade, simple GVC activities, and complex GVC activities. Second, this work proposes a set of GVC participation indices that improves on measures used in the literature. Upon applying this framework to Inter-Country Input-Output Tables, we find a number of interesting patterns connecting value chains and business cycles. First, the composition of global production has evolved dramatically since 1995. Second, production activities of complex GVC activities comove with global business cycles more than other types of production activities. Third, the level of GVC participation affects the performance of economic growth. Author Affiliation: (a) Research Institute for Global Value Chains, University of International Business and Economics, China (b) Schar School of Policy and Government, George Mason University, USA (c) Columbia Business School, Columbia University, USA (d) Fanhai International School of Finance, Fudan University, China (visitor) (e) National Bureau of Economic Research, USA (f) Center for Economic Policy Research, United Kingdom (g) School of International Trade and Economics, University of International Business and Economics, China (h) School of Economics, Renmin University of China, China * Corresponding author. (footnote)[white star] We thank Pol Antràs and seminar/conference participants at UIBE GVC workshop and IIOA Conference for their helpful comments. Zhi Wang thanks the support from the National Natural Science Foundation of China (71733002) and 111 Project (B18014). Xinding Yu thanks the support from the National Natural Science Foundation of China (72173021). Kunfu Zhu thanks the support from the National Natural Science Foundation of China (72173130). The paper represents the personal views of the authors, and all errors are the responsibility of the authors. Byline: Zhi Wang [zwang36@gmu.edu] (a,b), Shang-Jin Wei [shangjin.wei@columbia.edu] (c,d,e,f,*), Xinding Yu [yuxd@uibe.edu.cn] (g), Kunfu Zhu [kfzhu@ruc.edu.cn] (h)

Keywords Bloomberg; Bond flows; Equity flows; News Highlights * Dynamic linkages between portfolio flows and various news media indices (based on both 'positive' and 'negative' news headlines collected from Bloomberg), whilst also controlling for a comprehensive set of push and pull factors. * The monthly panel examined comprises 49 developed, emerging and developing economies in addition to the US and covers the period from January 2007 to October 2017. * The empirical results document the importance of the news variables as a determinant of cross-border portfolio flows. * US (worldwide) news appear to play a leading role in driving bond inflows into (outflows from) the US. The impact of news on equity inflows towards the US is relatively weak, whilst equity outflows from the US are affected by both US and worldwide news. * These results are shown to be relatively robust to dropping from the full sample the six financial centres considered. Abstract This paper investigates the dynamic linkages between portfolio flows and various news media indices (based on both 'positive' and 'negative' news headlines collected from Bloomberg), whilst also controlling for a comprehensive set of push and pull factors. The monthly panel examined comprises 49 developed, emerging and developing economies in addition to the US and covers the period from January 2007 to October 2017. The empirical results document the importance of the news variables as a determinant of cross-border portfolio flows. More specifically, US (worldwide) news appear to play a leading role in driving bond inflows into (outflows from) the US. By contrast, the impact of news on equity inflows towards the US is relatively weak, whilst equity outflows from the US are affected by both US and worldwide news. These results are shown to be relatively robust to dropping from the full sample the six financial centres considered. Author Affiliation: (a) Department of Economics and Finance, Brunel University London, UK (b) Business School, University of Sussex, UK (c) Centre for Applied Macroeconomic Analysis (CAMA), National Australian University, Australia (d) Department of Economics, University of Messina, Italy (e) Universita' degli Studi della Campania 'Luigi Vanvitelli', Italy * Corresponding author at: Department of Economics and Finance, Brunel University London, Uxbridge, Middlesex, UB8 3PH, UK. (footnote)[white star] We are grateful to the Editor and an anonymous reviewer for their very insightful comments on an earlier version of this paper. Byline: Guglielmo Maria Caporale [Guglielmo-Maria.Caporale@brunel.ac.uk] (a,*), Faek Menla Ali (b), Fabio Spagnolo (a,d), Nicola Spagnolo (a,c,e)

Keywords Trade Policy Uncertainty; Foreign Direct Investment; WTO Accession Abstract This paper investigates whether and how trade policy uncertainty (TPU) in major economies affects global foreign direct investment (FDI) flows. Using China's World Trade Organization accession as a quasi-natural experiment, we find that China's FDI inflows increased more in industries experiencing greater TPU reduction in the US market (China's largest export destination market) than those in industries experiencing less reduction in TPU. We also find that TPU reduction is associated with larger increases in FDI inflows in industries with higher export intensities, suggesting that TPU reduction induces multinational firms to serve the US market through building and expanding affiliates in China. The findings suggest that TPU reduction in major economies would help global FDI flows to recover from the current pandemic. Author Affiliation: (a) College of Business, Shanghai University of Finance and Economics, China (b) School of International Economics & Trade, Shanghai Lixin University of Accounting and Finance, China * Corresponding author. (footnote)[white star] We are grateful to Kees Koedijk, Yuying Jin and Haoyuan Ding, who organized the conference 'Reform of the International Economic Order: Uncertainty and Economic Policy Coordination.' We are also grateful to Chang Ma for discussing this paper. We thank the participants at the conference for very helpful comments. We also thank conference participants at the IEFS China for very helpful comments. We acknowledge the financial support from the Natural Science Foundation of China (71673177), the Social Science Foundation of China (18ZDA069), the Shanghai Municipal Education Commission (2019-01-07-00-07-E00031) and SUFE Trade Theory & Policy Research Group. All errors are on our own. Byline: Xiaohua Bao [xhbao369@mail.shufe.edu.cn] (a), Jianpeng Deng [deng.jianpeng@mail.shufe.edu.cn] (a,*), Haoyu Sun (b), Jin Sun (a)

Keywords Macrofinancial amplification; Stress testing; Systemic risk; Feedback loops; Bank lending; Bank capital Abstract In the presence of adverse macroeconomic shocks, simultaneous capital losses in multiple banks can prompt them to contract their balance sheets. These bank responses generate externalities that propagate in the form of macrofinancial feedback loops. This paper develops a credit response and externalities analysis model (CREAM) that integrates a disaggregated banking sector into an otherwise standard macroeconomic structural vector autoregressive model. It shows that accounting for macrofinancial feedback loops can significantly affect macroeconomic outcomes and bank-specific stress test results. The heterogeneity in bank lending responses matters: it determines how each bank fares under adverse conditions and the external effects that banks impose on each other and on economic activity. The model can thus be used to assess the contributions of individual banks to systemic risk along the time dimension. Author Affiliation: (a) International Monetary Fund, Monetary and Capital Markets Department, United States (b) International Monetary Fund, United States * Corresponding author. (footnote)[white star] The authors would like to thank Víctor Elías, Adolfo Barajas, Ziya Gorpe, Jorge Restrepo, Tumer Kapan, Javier Hamann, Nicolas Magud, seminar participants at the IMF, and two anonymous referees for their comments and suggestions. The views expressed in this paper are those of the authors and do not necessarily represent the views of the IMF, its Executive Board, or IMF management. Byline: Mario Catalán [mcatalan@imf.org] (a,*), Alexander W. Hoffmaister (b)

Keywords Foreign direct investment; Financial constraints; Firm productivity; China Abstract This paper studies the effect of FDI firms' financial advantages on firm productivity in host countries and examines the related policy implications. If FDI firms face lower financing costs but have higher fixed production costs than local firms, a simple Melitz-type model predicts that FDI firms could have even lower cutoff productivity than local firms, especially in financially vulnerable sectors. The same mechanism will also lower the average productivity of FDI firms especially in financially vulnerable sectors, although FDI firms on average are still more productive than local firms. These predictions are supported by the Chinese firm-level data. Then, we study policy implications in a two-country model that resembles these empirical patterns. The counterfactual policy analysis shows that offering tax benefits to FDI firms could be counterproductive because it attracts FDI firms that are even less productive than local firms. The policy in the host country to improve its financial market efficiency could also hurt the country's welfare because of the interaction between financial market reforms and the distortionary taxes imposed on local firms to finance FDI subsidies. Author Affiliation: (a) KIEP, Republic of Korea (b) CUHK-Shenzhen and SFI, China (c) USTC, China * Corresponding author. (footnote)[white star] We thank Jean-Louis Arcand, Mostafa Beshkar, Kamran Bilir, Charles Engel, Taiji Furusawa, Kalina Manova, Yongseok Shin, Yong Tan, Xican Xi, Thomas Zylkin, and seminar and conference participants at the University of Wisconsin-Madison, Shanghai University of Finance and Economics, Tsinghua University, Asia Pacific Trade Seminars, Midwest International Trade Conference at WUSTL, and the 2019 Southern Economic Association Conference for helpful comments. Xiao Wang and Jian Wang would like to thank the National Science Foundation of China for financial support (grant numbers: 72003181, 72133005 and 72173111). Xiao Wang would like to thank the Tang Scholar Fund. Wontae Han would like to thank the fund from Shenzhen Finance Institute. All coauthors make equal contributions to this paper. (footnote)1 International Macroeconomics & Finance Department, Korea Institute for International Economic Policy, Republic of Korea. (footnote)2 School of Management and Economics, The Chinese University of Hong Kong-Shenzhen and Shenzhen Finance Institute, China. (footnote)3 International Institute of Finance, School of Management, University of Science and Technology of China, China. Byline: Wontae Han [hanwontae@kiep.go.kr] (a,1), Jian Wang [jianwang@cuhk.edu.cn] (b,2), Xiao Wang [iriswx@ustc.edu.cn] (c,*,3)

Keywords House Prices; Emerging Countries; Excess Consumption Volatility; Collateral Constraint; Housing Rental Prices Highlights * House prices are more correlated with consumption in emerging countries. * This paper develops business cycle models with exogenous house prices for EMEs. * Theoretical model generates excess consumption volatility given house prices. * Background mechanisms are collateral effects and rental price pass-through. Abstract This paper focuses on house prices in order to explain excess consumption volatility, which is one of the stylized facts of the business cycle observed in emerging countries. The relative consumption volatility compared to output volatility is higher in emerging countries than in rich countries. Because house prices in emerging countries are more volatile than in advanced countries, this paper suggests a new angle focusing on relationship between house price fluctuation and excess consumption volatility. To begin, I construct a cross-country dataset, and suggest new evidence that house prices are more correlated with consumption in the case of emerging countries compared to rich countries while the correlation between house prices and output are similar between two country groups. Then, I build business cycle models given exogenous house price and output processes in order to explain excess consumption volatility puzzle. The results of the models suggest that high house price volatility in emerging countries causes their excess consumption volatility and that the mechanisms behind it are housing collateral effects and rental price pass-through. The former is related to the borrowing capacity affected by house price changes, and the latter is related to the link between house prices and housing consumption volatility. Author Affiliation: Department of Economics, Sejong University, 05006 Seoul, Republic of Korea Byline: Wonmun Shin [wonmun.shin@sejong.ac.kr]

Keywords Economic integration; DSGE; Open economy; G-7; Bayesian estimation Highlights * I infer the degree of economic integration amongst G-7 countries. * I estimate a two country DSGE model separately for each country in the group. * Economic integration is proxied by the contribution of common and foreign shocks. * Countries that are more open to trade and financial flows are ranked low. * Economic integration has declined in the past 10 years. Abstract This paper infers the degree of economic integration amongst G-7 countries by estimating a two country DSGE model separately for each country in the group. In doing so, the two economies in the model are represented by the observations for a specific country and the corresponding values for the rest of G-7. To infer the degree of economic integration, the model's shock processes are reconfigured so that they include a component that is common for each economy and shocks can be transmitted from one economy to the other. Capturing the degree of economic integration by the relative contribution of common and foreign shocks to the variation of domestic variables, the paper draws inferences that are at odds with those based on more traditional measures of globalization. Countries that are more open to trade and financial flows in the data are ranked lower in terms of economic integration according to post-estimation statistics. Author Affiliation: University of Central Florida, Department of Economics, College of Business, 4336 Scorpius Street, Orlando, FL 32816, United States Byline: Uluc Aysun [uaysun@bus.ucf.edu]

Keywords Currency carry trades; Risk price; Time-varying betas; Factor model; Nonparametric model Highlights * We investigate time-varying risk price models for currency portfolios. * We employ the dollar, carry, momentum and value factors used by currency investors. * Time variation in the dollar factor risk prices relates to the U.S. business cycle. * Constant beta models have smaller pricing errors in currency portfolios. Abstract This paper formally implements time-varying risk price models for currency returns. Focusing upon time variation in risk prices, the paper explores four currency risk factors. In addition to dollar and carry factors, we employ momentum and value factors which are widely used by currency investors. We find time variation in risk prices for the dollar factor is associated with the U.S. business cycle, with notable increases at the end of economic downturns. Constant beta models moreover have smaller pricing errors across all currency portfolios, which is in contrast to the stock and bond markets. Author Affiliation: (a) Department of Economics, Strathclyde Business School, University of Strathclyde, Glasgow, G4 0QU, United Kingdom (b) Edinburgh Business School, Heriot-Watt University, Edinburgh EH14 4AS, United Kingdom (c) Faculty of Humanities and Social Sciences, Okayama University, Okayama-ken, Japan and Keio Economic Observatory, Keio University, Tokyo, Japan * Corresponding author. (footnote)[white star] We have benefited from the editor (Kees Koedijk) and one anonymous reviewer. We acknowledge many fruitful suggestions by Arnab Bhattacharjee, Kentaro Iwatsubo, Ian Marsh and Andy Snell. Any remaining errors are our responsibility alone. This work was largely completed while the three authors were based in Heriot-Watt University. Byline: Joseph P. Byrne [Joseph.Byrne@Strath.ac.uk] (a,*), Boulis Maher Ibrahim [B.M.Ibrahim@hw.ac.uk] (b), Ryuta Sakemoto [rsakemoto@okayama-u.ac.jp] (c)

Keywords Sovereign spreads; Emerging markets; Fiscal consolidation Abstract This paper investigates the effects of fiscal consolidation announcements on sovereign spreads using high frequency data for a panel of 21 emerging market economies during 2000--18. We construct a novel dataset using a global news database to identify the precise announcement date of fiscal consolidation actions. Our results show that sovereign spreads barely decline after fiscal announcements from the executive branch. Nonetheless, spreads decline significantly following news that austerity measures have been approved by the legislature (congress or parliament), particularly in economies with high sovereign spreads, debt levels, and low credit-risk ratings. These effects are even larger in the presence of an IMF program. In addition, we find that consolidation announcements are less contractionary when sovereign spreads decline. The reduction in output is a third of the counterfactual case in which spreads do not respond to announcements. These results show that confidence effects, in the form of lower sovereign spreads, are an important transmission channel of fiscal policy actions. We also find that the role of confidence effects increases with the level of spreads, such that countries with high spread levels stand to benefit the most from putting in place credible austerity packages. Author Affiliation: International Monetary Fund (footnote)[white star] All authors are at the International Monetary Fund. We would like to thank Mark M. Spiegel, the editor, and an anonymous referee for suggestions that greatly improved the paper. We are also grateful to Ravi Balakrishnan, Marcos Chamon, Roberto Perrelli, Samuel Pienknagura, Jorge Roldós, Frederik Toscani, Susan Yang, and participants at seminars at the Central Bank of Brazil, Central Bank of Colombia, Bank of Mexico, Central Bank of Paraguay, at LACEA, at ITAM, at the University of Sao Paulo, at INSPER and at the IMF for helpful comments.Genevieve Lindow provided excellent research assistance.The views expressed in this paper are those of the authors and do not necessarily represent the views of the IMF, its Executive Board, or IMF management. Byline: Antonio C. David [adavid@imf.org], Jaime Guajardo [jguajardo@imf.org], Juan F. Yepez [jyepezalbornoz@imf.org]

Keywords Investment funds; Financial flows; Emerging markets; VIX Highlights * This paper examines the behaviour of investment fund flows to emerging markets. * Our data point towards a structural growth in bond funds. * Debt flows have higher sensitivity to global risk (VIX) than equity flows. * VIX sensitivity co-varies negatively with EM sovereign credit rating. * We provide evidence that geographic proximity of creditors matters. Abstract In this paper we analyse the behaviour of investment fund flows to emerging markets after the Global Financial Crisis (GFC). Our data point towards a structural growth in investment funds that purchase debt rather than equity securities. Empirically, we find that debt flows have higher sensitivity to global risk than equity flows, suggesting an increasing policy focus primarily on debt funds. We also show that Irish-resident funds' sensitivity to changes in global risk sentiment co-varies negatively with a measure of sovereign credit rating of the receiving emerging market economy, a finding consistent with a notion that good fundamentals in host countries can mitigate outflows arising from swings in external funding conditions. Finally, we show that funds whose equity structure is tilted towards investors residing further away tend to invest less in countries than funds whose investors are closer to the same countries. This is noteworthy, given these results refer to Irish-resident investment funds that intermediate global financial flows. Author Affiliation: (a) Indecon International Economic Consultancy Group, Ireland (b) Deutsche Bundesbank, Germany (c) Central Bank of Ireland, Ireland * Corresponding author at: Central Bank of Ireland, Ireland. (footnote)[white star] We thank Menzie Chinn, Peter Dunne, Lorenz Emter, Brian Golden, Reamonn Lydon, Vasileios Madouros, Kitty Moloney, an anonymous referee and the participants of IMF MCM Policy Forum for their comments and suggestions. Luke Doyle and Kieran Sheehan provided excellent research assistance. The views expressed in this paper are personal and do not represent the views of the Central Bank of Ireland, the Deutsche Bundesbank or Indecon International Economic Consultancy Group. Byline: Benedetta Bianchi [bbianchi@indecon.ie] (a), Vahagn Galstyan [vahagn.galstyan@centralbank.ie] (c,*), Valerie Herzberg [valerie.herzberg@bundesbank.de] (b)

Keywords Mutual fund performance and flows; Monetary policy shocks Highlights * Monetary policy shocks affect mutual fund performance and flow dynamics. * Monetary tightening negatively affects performance of fixed-income funds. * In particular, international, government and corporate bond markets. * Results show a negative relationship between equity performance and policy tightening. * FED's expansionary balance sheet policy has a positive effect on equity funds. * In particular, those investing in emerging markets. Abstract We study the effects of unexpected changes in the stance of U.S. monetary policy on the performance and flows of mutual funds investing in domestic and international financial markets over the recent period of unconventional monetary policy. Taking an agnostic approach on the transmission mechanism of monetary policy, we find that monetary policy shocks have a direct effect on fund performance and flow dynamics, and that the effect of these surprises differs by investment strategy. Results show that an unexpected tightening of the stance of policy is associated with negative performance and outflows from fixed-income funds, in particular those investing in international, government and investment grade bond markets. Results also point to a negative relationship between equity fund performance and policy tightening. Moreover, our findings indicate that Federal Reserve's expansionary balance sheet policy (i.e. large-scale asset purchases) has a strong positive effect on the performance and flows of equity funds, especially on those investing in emerging markets. Author Affiliation: (a) Division of Monetary Affairs, Federal Reserve Board, United States (b) CONICET-Universidad de Buenos Aires, Argentina (c) Department of Economics, University of Essex, United Kingdom * Corresponding author. (footnote)[white star] The views expressed in this paper are solely the responsibility of the authors and should not be interpreted as reflecting the views of the Board of Governors of the Federal Reserve System. We are grateful to the Associate Editor, one anonymous referee, James Hamilton, Egon Zakrajsek and Jason Wu for helpful comments. We also thank seminar participants at the 2017 American Economic Association annual meeting, the 2017 Latin American Econometric Society annual meetings, and the Federal Reserve Board. An earlier version was released as a FEDS paper under the title 'Mutual Fund Flows, Monetary Policy and Financial Stability.' Byline: Ayelen Banegas [ayelen.banegas@frb.gov] (a,*), Gabriel Montes-Rojas [gabriel.montes@fce.uba.ar] (b), Lucas Siga [lucas.siga@gmail.com] (c)

Keywords Exchange rates; Economic fundamentals; Dependence; Mixed frequency; Copula Highlights * This paper evaluates the impacts of differences in economic fundamentals on exchange rate dependence by introducing the mixed-frequency copula model with a generalised autoregressive score dynamic structure. * In an application to the Canadian dollar, British pound and Japanese yen, the widened differences in money supply and interest rates tend to weaken exchange rate dependence, but the differences in output and inflation have no explanatory power for exchange rate dependence. * Investors are suggested to account for both daily exchange rates and monthly economic fundamental information in portfolio management. * The historical trends extracted from the economic fundamentals over the past 2 years enable investors to accurately predict exchange rate dependence and obtain additional economic benefits. Abstract The relationship between exchange rates is important for portfolio optimisation and risk management. Understanding the economic fundamentals that affect exchange rate dependence enables investors to improve their portfolio performance. This paper evaluates the impacts of differences in economic fundamentals on exchange rate dependence by introducing the mixed-frequency copula model with a generalised autoregressive score (GAS) dynamic structure. In an application to the Canadian dollar, British pound and Japanese yen, the widened differences in the money supply and interest rates tend to weaken exchange rate dependence, but the differences in output and inflation have no explanatory power for exchange rate dependence. Investors are suggested to account for both daily exchange rates and monthly economic fundamental information in portfolio management. In particular, the historical trends extracted from the economic fundamentals over the past 2 years enable investors to accurately predict exchange rate dependence and obtain additional economic benefits. Author Affiliation: (a) Department of Economics and Finance, SILC Business School, Shanghai University, Shanghai, China (b) School of Economics, Shanghai University of Finance and Economics, Shanghai, China (c) Key Laboratory of Mathematical Economics (SUFE), Ministry of Education, Shanghai 200433, China * Corresponding author at: School of Economics, Shanghai University of Finance and Economics, Room 524, School of Economics Building, 111 Wuchuan Road, Yangpu District, Shanghai 200433, China. Byline: Yuting Gong (a), Chao Ma (b), Qiang Chen [chen.qiang@mail.shufe.edu.cn] (b,c,*)

Keywords Loan conversion programs; Emerging markets; Currency mismatch Highlights * We analyze the impact of loan conversion programs (LCPs) in Europe on systemic risk. * We show that LCPs reduced financial stability risks linked to Swiss franc loans. * But they heightened risks in other foreign currencies in individual countries. * Euro mismatches remain a considerable risk to financial stability in those countries. Abstract This paper examines the effect of currency conversion programs from Swiss franc-denominated loans to other currency loans on currency risk for banks in Central and Eastern Europe (CEE). Swiss franc mortgage loans proliferated in CEE countries prior to the financial crisis and contributed to the volume of non-performing loans as the Swiss franc strongly appreciated during the post-crisis period. Empirical findings suggest that Swiss franc loan conversion programs reduced currency mismatches in Swiss francs but increased currency mismatches in other foreign currencies in individual countries. This asymmetric effect of conversion programs arises from the loan restructuring from Swiss francs to a non-local currency and the existing high level of euro mismatches in the CEE banking system. Author Affiliation: (a) Università Carlo Cattaneo LIUC and CEPR, Istituto di Economia, Corso Matteotti 22, Castellenza, VA 21053, Italy (b) Swiss National Bank, Boersenstrasse 15, PO Box, CH 8022, Switzerland * Corresponding author. (footnote)[white star] The authors would like to thank two anonymous referees, Alin Andries, Martin Brown, Dániel Palotai, Tomislav Ridzak, and Elod Takáts; seminar participants at the Bank for International Settlements, the International Monetary Fund, the World Trade Institute at the University of Berne, the University of Zurich, and the Swiss National Bank; and conference participants at the 25th Dubrovnik Economic Conference for constructive comments and helpful discussions. Giovanni Donato, Henrike Groeger, Chloe Larkou, Anna Raafat, and Amalia Repele provided valuable research assistance at various stages of this project. Any remaining errors are our own. The views expressed in this paper are those of the authors and do not necessarily reflect the views of the Swiss National Bank. Byline: Andreas M. Fischer [afischer@liuc.it] (a), Pinar Yesin [pinar.yesin@snb.ch] (b,*)

Keywords Foreign exchange; Factor model; Variance decomposition; Safe-haven; Carry trade; Momentum Highlights * Novel multivariate time-varying coefficients model for Swiss franc exchange rates. * Decomposing FX returns in three global factors and local uniqueness. * Explaining about 73% of the variation in USDCHF and 37% of the variation in EURCHF. * Risk contributing the most highlighting safe-haven characteristics of Swiss franc. * Episodes of strong momentum present in Swiss franc exchange rate. Abstract This paper develops an FX factor model to decompose short-term bilateral exchange rate dynamics into different global factors and local uniqueness. We apply the model to the Swiss franc exchange rates against the US dollar (USDCHF) and the euro (EURCHF) between 2006 and 2018 and decompose daily dynamics into three global factors: risk, US dollar, and euro. The model captures daily dynamics well, explaining approximately 73% of the variation in USDCHF and 37% of the variation in EURCHF, reflecting the importance of global factors for Swiss franc exchanges rates. The risk factor contributes the most to Swiss franc dynamics, especially in times of a worsening risk environment, highlighting the role of the Swiss franc as a safe-haven currency. Global factors had been almost completely reflected in USDCHF dynamics before the euro area debt crisis, but once that crisis began, they also became important for EURCHF. In a case study of the introduction of the EURCHF minimum exchange rate we showcase the importance of momentum in daily Swiss franc returns. Author Affiliation: Swiss National Bank, Börsenstrasse 15, P.O. Box, CH-8022 Zurich, Switzerland * Corresponding author. (footnote)[white star] The views, opinions, findings, and conclusions or recommendations expressed in this paper are strictly those of the authors. They do not necessarily reflect the views of the Swiss National Bank. The Swiss National Bank takes no responsibility for any errors or omissions in, or for the correctness of, the information contained in this paper. Byline: Fabian Fink [fabian.fink@snb.ch], Lukas Frei [lukas.frei@snb.ch], Oliver Gloede [oliver.gloede@snb.ch] (*)

Keywords Exchange rate regime; Trilemma; Capital controls; Foreign exchange interventions Abstract Many emerging market economies use foreign exchange interventions or capital controls at the same time as they float their currencies, a policy mix that is not explained by Mundell's policy trilemma. This paper presents a simple model that accounts for this fact. In the model, changes in foreign appetite for domestic assets lead to a trade-off between stabilizing the tradable sector and stabilizing the nontradable sector. The model is consistent with a number of stylized facts about the impact of the global financial cycle on emerging market economies, and on the policies used by emerging markets to mitigate this impact. Consistent with Rey's dilemma thesis, the benefits of using countercyclical capital flow taxes may be substantially larger than the benefits of floating. The paper also discusses the reasons that capital flow taxes are not more popular in practice. Author Affiliation: Johns Hopkins University, United States (footnote)[white star] Paper presented at a keynote session of the conference on 'Financial Globalization and De-Globalization: Perspectives and Prospects' May 3-4, 2021, organized by Global Research Unit, City University of Hong Kong, Dockson Chair, University of Southern California, Institute of Empirical Economic Research, Osnabrück University, and Journal of International Money and Finance. I thank the conference participants as well as Jonathan Ostry, Alessandro Rebucci, and Jeongwon Son for their comments. Byline: Olivier Jeanne [ojeanne@jhu.edu]

Keywords Uncertainty; Crisis indicators; Structural macroeconomic shocks; Sign restrictions Highlights * Question: Effects of uncertainty shocks on indicators of financial systemic-risk. * Method: Structural panel VARs. Panel covers the four largest euro area countries. * Finding 1: Systemic risk rises significantly in response to uncertainty shocks. * Finding 2: Uncertainty shocks may signal the build-up of financial vulnerabilities. Abstract The current paper broadens the understanding of the role played by uncertainty in the context of macroeconomic fluctuations. It focuses on the implications of uncertainty shocks for indicators of systemic risk in the financial system. Such indicators' signals tend to precede financial crises and are interpreted as signaling the build-up of considerable misallocations of capital and credit. In an empirical analysis we show for a panel of four euro area countries that negative uncertainty shocks, while boosting economic activity, are followed by unfavorable reactions of systemic-risk indicators. We conclude that standard uncertainty measures contain some useful information on the potential build-up of vulnerabilities in the financial system. Author Affiliation: (a) CESifo and Deutsche Bundesbank, Wilhelm-Epstein-Strasse 14, 60431 Frankfurt am Main, Germany (b) Deutsche Bundesbank, Wilhelm-Epstein-Strasse 14, 60431 Frankfurt am Main, Germany * Corresponding author. (footnote)[white star] An earlier version of this paper has been circulated under the title 'Uncertainty Shocks and Financial Crisis Indicators'. We thank Christian Schmidt for excellent research assistance and Philipp Meinen, Oke Roehe and Johannes Beutel for sharing their data and expertise with us. The views expressed in this paper do not necessarily reflect those of the Deutsche Bundesbank or the Eurosystem. Byline: Nikolay Hristov [nikolay.hristov@bundesbank.de] (a,*), Markus Roth [markus.roth@bundesbank.de] (b)

Keywords Monetary policy; Economic uncertainty; Bank risk Highlights * This paper investigates how economic uncertainty affects the monetary policy-bank risk nexus. * We use the panel data of 1100 public banks in 43 economies during the period of 2000--2018. * We present evidence that the force of the 'risk-taking channel' of monetary policy is weakened amid higher economic uncertainty. * This finding is in line with the hypothesis of the 'option value of waiting'. Abstract This paper investigates how economic uncertainty affects the monetary policy--bank risk nexus. Using panel data on approximately 1100 public banks in 43 economies during the period of 2000--2018, we find consistent evidence that the 'risk-taking channel' of monetary policy is weakened amid higher economic uncertainty. This finding is in line with the 'option value of waiting' hypothesis, which suggests that economic uncertainty may induce banks to withhold their adjustments of risk-taking strategies when monetary policy is altered. Author Affiliation: (a) Research Institute of Economics and Management, Collaborative Innovation Center of Financial Security, Southwestern University of Finance and Economics, Chengdu, China (b) Research Institute of Economics and Management, Southwestern University of Finance and Economics, Chengdu, China (c) Research Institute of Economics and Management, Southwestern University of Finance and Economics, Chengdu, China (d) School of Economics, Bennett S. LeBow College of Business, Drexel University, Philadelphia, PA, USA * Corresponding author. Byline: Ji Wu [wuji@swufe.edu.cn] (a), Yuanyun Yan [yanyuanyun_sky@smail.swufe.edu.cn] (b), Minghua Chen [chenminghua@swufe.edu.cn] (c), Bang Nam Jeon [jeonbana@drexel.edu] (d,*)

Keywords Monetary policy; Negative interest rates; Banking; Foreign subsidiaries Abstract This paper uses Call Report data to examine the impact of home country monetary policy on foreign bank subsidiary lending in the United States during the COVID-19 pandemic. Examining a large sample of foreign bank subsidiaries and domestic U.S. banks, we find that foreign bank lending growth was positively associated with both lower home country policy rates and negative home country rates. Point estimates indicate that a one standard deviation decrease in home country policy rates was associated with a 3.5 percentage point increase in lending growth, while negative home country policy rates added an additional 3.0 percentage points on average. Disparities in sensitivity to home country rates also exist by bank size, as large banks exhibited more responsiveness to home country policy rate levels, but were less responsive to negative policy rates. Easier home country policy rates are also found to impact negatively on growth in capital ratios and bank income, in keeping with expanded foreign subsidiary activity. However, income responses to negative home country rates are mixed, in a manner suggesting balance sheet adjustment to changes in relative home and host country conditions. Overall, our findings confirm that the bank lending channel for global monetary policy spillovers was active during the pandemic crisis. Author Affiliation: Federal Reserve Bank of San Francisco, United States (footnote)[white star] Federal Reserve Bank of San Francisco, 101 Market St., San Francisco, CA, Mark.Spiegel@sf.frb.org. Paper prepared for City University of Hong Kong Global Research Unit Conference on Financial Globalization and De-Globalization. I thank Joshua Aizenman, Agustin Benetrix, Yin Wong Cheung, Valeriya Dinger, Jose Lopez, Robert McCauley, Gurnain Pasricha, Helen Popper, and Frank Westermann, for helpful comments. Remy Beauregard and Olivia Lofton provided excellent research assistance. The views expressed in this paper are those of the authors and do not necessarily reflect the views of the Federal Reserve Bank of San Francisco or the Federal Reserve System. Byline: Mark M. Spiegel [Mark.Spiegel@sf.frb.org]

Keywords Current account balance; External equilibrium; Euro area; NIIP; Corporate net savings Abstract This paper assesses the determinants of the evolution of the euro area current account against the benchmark provided by the empirical model in the Coutinho et al. (2018). The paper analyses what part of the current account can be explained by fundamental drivers (current account norms) for the euro area aggregate and for the largest five euro area economies. In addition, it attempts to make a step forward compared with traditional empirical current account specifications in two respects. First, in light of the growing stock imbalances across the euro area embodied by the net international investment position (NIIP), a different specification of current account norms is proposed for their computation, where the part of the NIIP that is explained by fundamental drivers is taken into account. Second, alternative specifications of the empirical model are estimated to better capture the impact of financial centres and corporate net savings, which have been playing an increasingly relevant role in shaping current account outturns in a number of euro area countries in recent decades. Results indicate that while the euro area current account has been in line with fundamentals until the great financial crisis, its post-crisis widening partly reflects private and public deleveraging. Accounting for NIIPs and corporate net savings contributes to moderately reduce the gap between the euro area current account and the norm. Author Affiliation: European Commission, Belgium * Corresponding author. (footnote)[white star] The views expressed in this paper are those of the authors and should not be attributed to the European Commission. We are grateful to the participants of the 2019 Jean-Monnet Workshop on 'Current Account (Im)balances determinants and policy implications', in particular to our discussant Mathilde Maurel, for useful comments and suggestions. Byline: Leonor Coutinho [Leonor.COUTINHO@ec.europa.eu] (*), Alessandro Turrini, Stefan Zeugner

Keywords International macroeconomics; Current account; Producer services Abstract In this paper, we present evidence that countries which experienced a larger expansion of services as a share of GDP in recent years exhibited lower current account balances. We argue that this relationship is compatible with the notion that producer services raise aggregate productivity by enhancing increasing returns to specialization, and we develop a model in which the deregulation of the services industry results in higher GDP growth, a reallocation of resources into the services industry, and a temporary current account deficit. We demonstrate that our theoretical argument is supported by the data, even if we control for a multitude of other factors that potentially affect the current account. Finally, we relate our study to the IMF's external balance assessment (EBA) exercise and demonstrate that, for several countries, the 'current account gap' shrinks if we account for producer services. Author Affiliation: Johannes Gutenberg University Mainz, International Economics, Jakob-Welder-Weg 4, 55128 Mainz, Germany * Corresponding author. (footnote)[white star] This paper has benefited from helpful comments by Tobias Krahnke, Laura Schmidt, Philip Sauré, Klaus Wälde, Jean Roch Donsimoni and the participants at the 10th International Sponsoring Congress 'Young Science and Business' of the Hanns Martin Schleyer Foundation as well as seminar participants at the Deutsche Bundesbank and at Johannes Gutenberg University Mainz. We are especially indebted to participants at the Jean Monnet Workshop 'Current Account (Im-)Balances: Determinants and Policy Implications' at CEPS Brussels, our discussant Marco Pinchetti, and the guest editors at the Journal of International Money and Finance, Joscha Beckmann, Ansgar Belke and Daniel Gros. Byline: Tobias Gruhle [tobias.gruhle@uni-mainz.de] (*), Philipp Harms [philipp.harms@uni-mainz.de]

Keywords External wealth; Current account; External imbalances; Patience; Economic preferences Highlights * Economic theory says that differences in time preferences drive net capital flows. * Our paper is the first empirical study on the above-mentioned theory proposition. * We utilize the first two large-scale international surveys on time preferences. * Countries inhabited by patient individuals run current account surpluses. * There is a positive relationship between patience and net foreign asset positions. Abstract This paper is the first to utilize large-scale international surveys on economic preferences to examine the long-run relationships between patience, current accounts and external wealth. We find robust empirical evidence that countries with more patient individuals tend to run persistent current account surpluses, which in turn result in the accumulation of foreign assets. This theoretically plausible but empirically unexplored relationship holds true for euro area current account imbalances, global current account imbalances and net foreign asset positions worldwide. While the existing current account literature concentrates on proximate macroeconomic determinants, this paper's extension of inferences from deep determinants (i.e., time preferences) to the distribution of external wealth of nations (i.e., net foreign asset positions) makes a unique contribution to the literature. Our finding showing that deep heterogeneities contribute to external imbalances suggests that the pattern of current account imbalances as well as the distribution of external wealth of nations might be very persistent. Author Affiliation: University of Jyväskylä, Finland * Address: Jyväskylä University School of Business and Economics, Mattilanniemi 2, Agora Building, University of Jyväskylä, P.O. Box 35, FI-40014 Jyväskylä, Finland. (footnote)[white star] The author thanks guest editors Ansgar Belke, Joscha Beckmann and Daniel Gros as well as Bas van Aarle, Adam Gulan, Alok Kumar, Tuomas Malinen, Julia Niemeläinen and participants at the Jean Monnet Workshop on 'Current Account (Im-)Balances of the Euro Area and within the Euro Area Member Countries -- Determinants and Policy' in Brussels and at the XL Annual Meeting of the Finnish Economic Association in Turku for useful comments and suggestions. Juha Saarinen provided outstanding research assistance. The author acknowledges financial support from the OP Group Research Foundation. Byline: Mika Nieminen [mika.p.nieminen@jyu.fi] (*)

Keywords Global syndicated loans; Loan pricing; Political ties; International relations Abstract This paper investigates whether state-to-state political ties with the United States affect the pricing of global syndicated loans. We find that a one-standard-deviation improvement in state political ties between the U.S. and the government of a borrower's home country is associated with a 14.7 basis points lower loan spread, shaving off about 11.8 million USD in interest payments over the duration of the average loan for borrowers. Results also show that the effect of political ties is stronger for narrower and more concentrated loan syndicates, when lead arrangers are U.S. banks, during periods in which the U.S. is engaged in armed conflicts, when the U.S. president belongs to the Republican Party, and for borrowers with better balance sheets and prior lending relationships. Notably, not all firms benefit equally, as cross-listed firms and firms in countries with strong institutional quality and ability to attract institutional investors are much less affected by political ties. Author Affiliation: (a) Bank of Finland, FI-00101, 160 Helsinki, Finland (b) Durham University Business School, Millhill Ln, Durham DH1 3LB, United Kingdom (c) Fordham University, Bank of Finland and the University of Sydney, 45 Columbus Avenue, New York, NY 10023, United States (d) Audencia Business School, Finance Department, 8 Route de la Jonelière, 44312 Nantes, France * Corresponding author at: Audencia Business School, 8 Route de la Joneliè re, 44312 Nantes, France (footnote)[white star] We would like to thank Joshua Aizenman, Yin-Wong Cheung and Frank Westermann for valuable comments and suggestions. We are further grateful for comments, suggestions, and discussions to Mahir Binici, Joao Rafael Cunha, Yota Deli, Manthos Delis, Valeriya Dinger, Dimitrios Gounopoulos, Robert McCauley, Oana Peia, Stathis Polyzos and Karl Whelan. The paper was presented at the 2021 Conference on Financial Globalization and De-Globalization: Perspectives and Prospects (Global Research Unit), the 37th International Conference of the French Finance Association (AFFI), the 25th International Conference on Macroeconomic Analysis and International Finance (ICMAIF), the 37th Symposium on Money Banking and Finance (Banque de France), the 2020 World Finance & Banking Symposium and the 19th Annual Conference of the Hellenic Finance and Accounting Association (HFAA). The paper was also presented at Audencia Business School and the University College Dublin. The views expressed in this paper are those of the authors and do not necessarily reflect those of the Bank of Finland or the Eurosystem. Byline: Gene Ambrocio [Gene.Ambrocio@bof.fi] (a), Xian Gu [xian.gu@durham.ac.uk] (b), Iftekhar Hasan [ihasan@fordham.edu] (c), Panagiotis N. Politsidis [ppolitsidis@audencia.com] (d,*)

Keywords Heterogeneity in price rigidities; Monetary policy shocks; Nominal exchange rate Highlights * Heterogeneity in price rigidities leads to delayed exchange rate overshooting. * Micro-evidence on price rigidity implies overshooting occurs at around 4 quarters. * A violation of UIP is not necessary for delayed nominal exchange rate overshooting. Abstract This paper develops an open economy New Keynesian model in which shocks to monetary policy generate delayed nominal exchange rate overshooting. We show analytically that delayed overshooting is a consequence of heterogeneity in nominal price rigidities. Immediately after a contractionary monetary shock, the reaction of firms with relatively flexible prices generates a strong response of inflation, alongside a currency appreciation. Overtime, as firms with relatively less flexible prices adjust, the appreciation continues, but is subsequently followed by a depreciation. In a calibrated version of the model, with heterogeneity in price rigidity matched with micro-evidence, the peak response of the nominal exchange rate to a monetary policy shock occurs at around 4 quarters. Author Affiliation: (a) Department of Economics, University of Exeter, Streatham Court, Rennes Drive, Exeter EX4 4PU, United Kingdom (b) Department of Economics, Cardiff Business School, Colum Drive, Cardiff CF10 3EU, United Kingdom * Corresponding author. (footnote)[white star] We thank an anonymous referee for constructive comments and suggestions that helped improve the paper significantly. Previous versions of the paper were presented at Cardiff and Durham Universities. Byline: Dudley Cooke [d.cooke@exeter.ac.uk] (a,*), Engin Kara [karae1@cardiff.ac.uk] (b)

Keywords Bilateral portfolio holdings; Investment funds; Gravity models; Home bias Highlights * This paper proposes a method to look through holdings of investment fund shares. * Estimates of actual euro area sectoral exposures are determined. * Debt exposures and financial openness are higher and home bias is lower. * Euro area investors obtain exposure to foreign debt securities via investment funds. * Investment funds provide diversification to euro area investors Abstract Studies of bilateral portfolio holdings typically consider investment fund shares as equity instruments, failing to take into consideration the true exposures of investors. Using detailed information of euro area investment fund assets, estimates of actual euro area investors' exposures are determined, at the sectoral level, expunging the bias introduced by investment funds. These estimates unveil a different instrument composition with a higher proportion of exposure to debt securities, a higher level of cross-border financial positions and lower home bias, and, in particular, a higher exposure to other advanced economies. In this sense, investment funds can be seen as vehicles for the portfolio diversification of domestic euro area investors. Author Affiliation: Banco de Portugal, Rua Francisco Ribeiro 2, 1150-165 Lisboa, Portugal (footnote)[white star] I am grateful to Martin Schmitz, Michael Fidora, Philip Lane and an anonymous referee for helpful comments, and Angelo Formiggino for help with the data. The opinions expressed in this paper represent the views of the author, they are not necessarily those of the Banco de Portugal, the European Central Bank, or the Eurosystem. Byline: Daniel Carvalho [daniel.sousa.carvalho@bportugal.pt]

Keywords Financial cycles; Singular Spectrum Analysis; Early Warning; Real-time; Macroprudential policy Highlights * Develop a new methodology based on Singular Spectrum Analysis for financial cycles measurement in real-time. * Run a horse race to compare this methodology with others as Early Warning Indicators of banking crisis. * Singular Spectrum Analysis has good results, in particular in the time split exercises. Abstract This paper provides a new statistical methodology based on Singular Spectrum Analysis to extract the cycle component of an economic time series in real-time, addressing several criticisms towards classical ones. I measure the Credit-to-GDP cycles of 21 developed countries and run a horse race to compare it with the Hodrick-Prescott filter, the Hamilton regression filter, the 8-quarters growth rates, a Bartlett window, and variants. The SSA methodology performs best as an Early Warning Indicator for banking vulnerabilities and banking crises up to three years ahead. These conclusions about methodologies have practical implications for the measure of the systemic risk and the conduct of macroprudential policies. Author Affiliation: Paris 1 Panthéon-Sorbonne, France (footnote)[white star] I would like to thank two anonymous referees and Mark M. Spiegel (the editor). I thank Yves Schüler and Hossein Hassani for their precious advice, Jézabel Couppey-Soubeyran, and Jean-Bernard Chatelain for their long-term support. I also thank Catherine Bruneau, Vincent Bouvatier, Anne-Laure Delatte, Thomas Renault, Laeticia Lepetit, Isabelle Distinguin, Michel Aglietta, William Oman, and Xavier Koch for their insightful comments and help. Any remaining errors are my own. The opinions expressed in this paper are mine and do not necessarily reflect the views of Paris 1 Panthéon-Sorbonne University. (footnote)1 Address: 52 rue Claude Decaen, 75012 Paris, France. Byline: Maximilien Coussin [maximilien.coussin.paris1@gmail.com] (1)

Keywords Output volatility; Trade; Factor model; Model uncertainty Highlights * We dissect the time-varying output volatility to study its dynamics, spillovers, and determinants. * The increasing co-movement in international macroeconomic volatility is larger in developing countries. * Developed countries have exhibited more asymmetric volatility shocks than developing countries. * Changes in global volatility are related with increasing trade. * Idiosyncratic changes in volatility are highly influenced by domestic monetary policies. Abstract In this paper, we dissect the time-varying output volatility of the main world economies to study its dynamics, spillovers, and determinants, from a global perspective. Our analysis relies on a hierarchical volatility factor model and Bayesian model averaging. We show that the increasing comovement observed in international macroeconomic volatility is substantially larger in developing than in developed countries. Instead, developed countries have exhibited more asymmetric volatility shocks than developing countries in recent times. We also show that, although the downward trend in global volatility is related with increasing trade, idiosyncratic changes in volatility are highly influenced by domestic monetary policies. However, due to the declining role played by these idiosyncratic components over time, policymakers currently face greater constraints when it comes to stabilizing output fluctuations. Author Affiliation: (a) University of Granada, Department of Economic Theory and History, 18071 Granada, Spain (b) Banco de España, Alcalá 48, 28014 Madrid, Spain * Corresponding author. (footnote)[white star] We thank the editor Mark M. Spiegel and two anonymous referees for excellent useful comments and suggestions that helped to improve this article. We would like to thank Maximo Camacho, Luciano Campos, Alessandro Galessi, Domenico Giannone, Daryna Grechyna, Carlos Thomas, Gabriel Pérez-Quirós, Iryna Sikora, Francesco Zanetti and the participants at the 2018 ASSA meetings, the Econometric Society meeting of Latin American, the International Association for Applied Econometrics Conference, the VIII Zaragoza Workshop on Time Series Econometrics, and at the internal seminar series of the Banco de España for helpful comments and suggestions. The views expressed in this paper are those of the authors and are in no way the responsibility of the Banco de España or Eurosystem. Project PID2019-111708GA-I00 financed by MCIN/ AEI /10.13039/501100011033 Byline: Lorenzo Ductor [lductor@ugr.es] (a,*), Danilo Leiva-León [danilo.leiva@bde.es] (b)

Keywords Monetary policy; Forward guidance puzzle; High-frequency identification; Structural VAR; Central bank information Highlights * We empirically assess the power of forward guidance at different horizons. * For identification purposes we focus on Norway and Sweden. * We control for central bank information effects, * As the communication horizon lengthens, its impact on output and inflation weakens. * This runs contrary to the prediction from standard New Keynesian models. Abstract This paper provides an empirical assessment of the power of forward guidance at different horizons, shedding new light on the strength of the 'forward guidance puzzle'. Our identification strategy allows us to disentangle target and forward guidance shocks from central bank private information. We investigate to what extent the horizon of guidance matters for its macroeconomic effects, and find that as the communication horizon lengthens, its impact on output and inflation weakens. This runs contrary to the prediction from standard New Keynesian models that the power of forward guidance increases with its horizon. Author Affiliation: (a) Norges Bank, Bankplassen 2, 0107 Oslo, Norway (b) Avinor, Dronning Eufemias gate 6, Avinor, 0191 Oslo, Norway * Corresponding author. (footnote)[white star] This paper should not be reported as representing the views of Norges Bank. The views expressed are those of the authors and do not necessarily reflect those of Norges Bank. (footnote)1 Work on this project was done while Hong Xu was an employee of Norges Bank. Byline: Leif Brubakk [Leif.Brubakk@Norges-Bank.no] (a), Saskia ter Ellen [Saskia.ter-Ellen@Norges-Bank.no] (a,*), Ørjan Robstad [Orjan.Robstad@Norges-Bank.no] (a), Hong Xu [Hong.Xu@Avinor.no] (b,1)

Keywords Monetary policy; Spillover; Divisia; Central and Easter Europe Highlights * This paper examines spillover effects of Euro Area (EA) shocks on Central and Eastern Europe (CEE). * We use Divisia monetary aggregates and compare the effects of EA spillovers to domestic shocks. * We add to the literature on structural VARs by providing a new, more efficient computational approach. * We find that EA shocks explain the majority of variation across all macroeconomic indicators in CEE. * The impact of the EA shock increases over time and persists, while the domestic shock dies out quickly. Abstract Closer integration between Central and Eastern Europe (CEE) and the EU has opened up channels facilitating the propagation of economic shocks from the core to the eastern periphery. This paper examines the effects of such shocks to economic activity and monetary conditions originating in the Euro Area (EA) on output, prices, money, and interest rates in 10 CEE countries over the period 2005--2018 using a bilateral restricted VAR framework. In contrast to previous studies, we use Divisia monetary aggregates and compare the effects of EA spillovers to domestic shocks. The results indicate that EA shocks explain the majority of variation across all macroeconomic indicators, with money supply shocks playing the most prominent role. Despite some heterogeneity, the impulse response of monetary aggregates to domestic and EA monetary shocks is almost identical across countries. The impact of the EA shock increases over time and persists, while the domestic shock dies out relatively quickly. Accordingly, we find no meaningful monetary independence in the majority of CEE countries. This is likely to prove detrimental to the effectiveness of monetary policies in CEE. Author Affiliation: (a) Center for Financial Development and Stability, Henan University, China (b) Texas Christian University, Fort Worth, TX, USA * Corresponding author. (footnote)[white star] This research did not receive any specific grant from funding agencies in the public, commercial, or not-for-profit sectors. Byline: Makram El-Shagi [makram.el-shagi@cfds.henuecon.education] (a,*), Kiril Tochkov (b)

Keywords Foreign direct investment; Financial stability; Sovereign yields; Euro area; International regulation Highlights * This paper examines how risk in host and origin countries affects Eurozone FDI. * Country of origin bank risk impacts on FDI; country of domicile bank risk does not. * The effects of sovereign risk are most pronounced in FDI supplying nations. * Policymakers need to be aware of the financing environment in both host and origin. Abstract All Foreign Direct Investment (FDI) involves risk. Augmenting the international finance literature, we assess the effects of financial system risk on FDI trends through considering both origin and host country effects. Motivated by the sovereign debt crisis and based on a dataset including bilateral FDI holdings, this paper investigates the implications of sovereign and bank-related risk on FDI in the Eurozone. Strikingly, we find that in terms of banking risk, it is only that encountered in the country of origin that has an impact on FDI choices. However, we find that sovereign risk, in both origin and host countries, have effects. As a corollary, we suggest that although poor financial discipline by host governments has been widely blamed as the primary factor likely to frighten off overseas investors, it is amongst FDI supplying nations that the effects of sovereign yields seem most pronounced. Policymakers in countries seeking to attract FDI should not only be attentive to domestic conditions, but also be aware of the financing environment that multinational enterprises (MNEs) encounter in their home countries and how this might impact on their choices. Author Affiliation: (a) Essex Business School, University of Essex, United Kingdom (b) Leuphana University Lüneburg, Germany (c) KOF Swiss Economic Institute, ETH Zurich, Switzerland (d) Western University, Canada * Corresponding author. (footnote)[white star] We would like to thank Cecilio Tamarit, for his insightful discussion of our paper, Jakob de Haan, Jacopo Cimadomo, Davide Romelli, Davide Furceri as well as the participants of the 'The Euro Area at 20: Evaluating the Real Side of the Economic and Monetary Union' conference for helpful suggestions and comments. We are indebted to the very helpful input, advice and guidance of the anonymous referees. Declaration of interest: none. (footnote)1 Essex Business School, University of Essex, Wivenhoe Park, Colchester, CO4 3SQ, Essex, United Kingdom. (footnote)2 Leuphana University Lüneburg, Universitätsallee 1, 21335 Lüneburg, Germany. (footnote)3 KOF Swiss Economic Institute, ETH Zurich, Rämistrasse 101, 8092 Zürich, Switzerland. (footnote)4 Western University, 1151 Richmond St, London, ON N6A 3K7, Canada. Byline: Neil M. Kellard [nkellard@essex.ac.uk] (a,*,1), Alexandros Kontonikas [a.kontonikas@essex.ac.uk] (a,1), Michael J. Lamla [lamla@leuphana.de] (b,c,2,3), Stefano Maiani [s.maiani@essex.ac.uk] (a,1), Geoffrey Wood [gwood23@uwo.ca] (d,4)