Real Interest Rates and Productivity in Small Open Economies - PowerPoint PPT Presentation

Real Interest Rates and Productivity in Small Open Economies Tommaso Monacelli (Università Bocconi, IGIER and CEPR) (joint with D. Siena and L. Sala) Banque de France - September 2019

Capital flows, real interest rates and productivity � EZ periphery: slowdown in TFP associated to lower real interest rates and capital inflows ( Reis 2013, Gopinath et al, 2016)

Capital flows, real interest rates and productivity � EZ periphery: slowdown in TFP associated to lower real interest rates and capital inflows ( Reis 2013, Gopinath et al, 2016)

EZ periphery � Puzzle : capital should flow towards countries where TFP growth is positive

EZ periphery � Puzzle : capital should flow towards countries where TFP growth is positive � In EZ periphery: slowdown in TFP associated to lower real interest rates ( Euro convergence )

Capital flows, real interest rates and productivity � Emerging Markets - Capital inflows associated to output and productivity booms + appreciating real ex. rates

Capital flows, real interest rates and productivity � Emerging Markets - Capital inflows associated to output and productivity booms + appreciating real ex. rates - Role of real interest rate shocks for business cycles (Mendoza 1991; Neumeyer and Perri 2005; Uribe and Yue 2006)

Capital flows, real interest rates and productivity � Emerging Markets - Capital inflows associated to output and productivity booms + appreciating real ex. rates - Role of real interest rate shocks for business cycles (Mendoza 1991; Neumeyer and Perri 2005; Uribe and Yue 2006) � Recurrent insight: hard for real interest rate shocks to account for EM business cycles unless correlated with TFP shocks

Capital flows, real interest rates and productivity � Emerging Markets - Capital inflows associated to output and productivity booms + appreciating real ex. rates - Role of real interest rate shocks for business cycles (Mendoza 1991; Neumeyer and Perri 2005; Uribe and Yue 2006) � Recurrent insight: hard for real interest rate shocks to account for EM business cycles unless correlated with TFP shocks � No analysis of the effects of real interest rates (shocks) on TFP

Facts

Figure: Cross-correlation between real interest rate (t+j) and log GDP(t) � Real interest rates and GDP 1. negatively correlated in EMEs 2. positively correlated in EA periphery

Cross-correlation between real interest rate (t+j) and log TFP(t) � Real interest rates and TFP 1. positively correlated in EMEs 2. negatively correlated in EA periphery

This paper 1. SVAR evidence on th effects of real interest rate shocks: opposite in EMEs vs AEs. In response to a capital outflow ( ⇑ real int. rate): � GDP and TFP fall in EMEs � GDP and TFP rise in EZ periphery

This paper (con’t) 2. Model with firms heterogeneity and financial frictions → Two key competing effects:

This paper (con’t) 2. Model with firms heterogeneity and financial frictions → Two key competing effects: � Cleansing - With financially constrained firms: ⇑ real int. rate → ⇑ return from lending ("being idle") → Marginally productive firms exit market − → TFP ⇑

This paper (con’t) 2. Model with firms heterogeneity and financial frictions → Two key competing effects: � Cleansing - With financially constrained firms: ⇑ real int. rate → ⇑ return from lending ("being idle") → Marginally productive firms exit market − → TFP ⇑ � Original sin (firms borrow in foreign currency) - (i) Capital outflow → Real depreciation (followed by future appreciation) → ⇓ Return from saving in foreign currency → Idle (less productive) firms enter production → TFP ⇓

This paper (con’t) 2. Model with firms heterogeneity and financial frictions → Two key competing effects: � Cleansing - With financially constrained firms: ⇑ real int. rate → ⇑ return from lending ("being idle") → Marginally productive firms exit market − → TFP ⇑ � Original sin (firms borrow in foreign currency) - (i) Capital outflow → Real depreciation (followed by future appreciation) → ⇓ Return from saving in foreign currency → Idle (less productive) firms enter production → TFP ⇓ - (ii) Balance sheet effect on incumbent firms

This paper (con’t) 2. Model with firms heterogeneity and financial frictions → Two key competing effects: � Cleansing - With financially constrained firms: ⇑ real int. rate → ⇑ return from lending ("being idle") → Marginally productive firms exit market − → TFP ⇑ � Original sin (firms borrow in foreign currency) - (i) Capital outflow → Real depreciation (followed by future appreciation) → ⇓ Return from saving in foreign currency → Idle (less productive) firms enter production → TFP ⇓ - (ii) Balance sheet effect on incumbent firms

3. Empirical validation → Role of low trade elasticity and firms’ productivity dispersion (market concentration) to rationalize evidence in EMEs vs AEs

Real Interest Rate Shocks: SVAR Evidence

SVAR analysis � Structural VAR analysis of RR shocks on productivity

SVAR analysis � Structural VAR analysis of RR shocks on productivity � Literature on EMEs (eg: Neumeyer and Perri 2005; Uribe and Yue 2006) 1. In the data: relevant role of RR shocks for EMEs business cycle 2. Hard to account in standard RBC model

Measurement 1. TFP quarterly measure : Y t = TFP t · K α t N 1 − α t - compute series on total hours worked (challenge for EMEs) - perpetual inventory method (PIM) to construct series for K stock (Fernald 2012)

Measurement 1. TFP quarterly measure : Y t = TFP t · K α t N 1 − α t - compute series on total hours worked (challenge for EMEs) - perpetual inventory method (PIM) to construct series for K stock (Fernald 2012) � Two types of capital : i) Buildings : δ j q = 10 % annually ii) Equipment : δ j q = 2 . 5 % annualy � 1 − δ j , j = E , B K j q ) K j t + I j t + 1 = ( 1 − δ j t + 1

2. Real interest rates           RR EM R US − E π US = + Spread t t t t  ����  � �� �       EMBI + 90-day spread TB rate RR AE = { 90-day interbank rate } - E π AE t t � �� � expected inflation

2. Real interest rates           RR EM R US − E π US = + Spread t t t t  ����  � �� �       EMBI + 90-day spread TB rate RR AE = { 90-day interbank rate } - E π AE t t � �� � expected inflation 3. Countries - EMEs: Argentina, Brazil, Korea, Mexico (1994:1-2016:3) - EZ periphery: Ireland, Italy, Portugal, Spain (1996:1-2016:3)

SVAR Y t = A · Y t − 1 + B · ε t   TFP t   GDP t     Y t ≡ NX t     REER t RR t � Triangular factorization: RR t ordered last � Bayesian stochastic pooling to compute IRFs (Canova and Pappa 2007)

Stochastic pooling � Country-specific impulse response of variable r to ε RR has t prior distribution: α r = µ r + v r v r ι , h ∼ N ( 0 , τ r where h ) ι , h ι , h h ���� ���� mean IR variable r IR country ι horizon h where h is the impulse response horizon, h = 0 , 1 , ..., H and ι is the country identifier

Stochastic pooling � Country-specific impulse response of variable r to ε RR has t prior distribution: α r = µ r + v r v r ι , h ∼ N ( 0 , τ r where h ) ι , h ι , h h ���� ���� mean IR variable r IR country ι horizon h where h is the impulse response horizon, h = 0 , 1 , ..., H and ι is the country identifier � Diffuse prior for µ r h � Assume τ r h = δ r / h , where δ r is the observed dispersion of the impulse responses for variable r across countries.

Stochastic pooling � Country-specific impulse response of variable r to ε RR has t prior distribution: α r = µ r + v r v r ι , h ∼ N ( 0 , τ r where h ) ι , h ι , h h ���� ���� mean IR variable r IR country ι horizon h where h is the impulse response horizon, h = 0 , 1 , ..., H and ι is the country identifier � Diffuse prior for µ r h � Assume τ r h = δ r / h , where δ r is the observed dispersion of the impulse responses for variable r across countries.

Stochastic pooling (con’t) � Under a Normal-Wishart prior for each country-specific VAR, the posterior for µ r h is µ r h | τ r h , ˆ µ r h , ˜ V r Σ u i ∼ N ( ˜ µ , h ) where N h ) − 1 ˆ µ r h = ˜ V r ∑ ( ˆ V r α ι , h + τ r α r ˜ µ , h · ι , h ι = 0 N V r ˜ ( ˆ V r α ι , h + τ r h ) − 1 ) − 1 ∑ µ , h = ( ι = 0 ˆ Σ u ι is the estimated variance-covariance matrix of the reduced α r form residuals u t in the VAR for country ι , ˆ ι , h is the country ι -specific OLS estimator of α r ι , h and ˆ V r α ι , h its variance.

EMEs: capital outflow shock

Advanced economies (EZ periphery): ↑ RR t → ↑ TFP

Summary of SVAR results � In response to a positive real int. rate innovation ("capital outflow"): 1. GDP and TFP fall in emerging markets 2. GDP and TFP rise in EZ periphery 3. Real exchange rate depreciates 4. Net exports rise