Exiting from QE by Fumio Hayshi and Junko Koeda Federal Reserve - PowerPoint PPT Presentation

Exiting from QE by Fumio Hayshi and Junko Koeda Federal Reserve Bank of San Francisco March 28 th 2014 Roger E. A. Farmer, Distinguished Professor, UCLA

What this Paper Does  Uses a structural VAR with endogenous regime switching to study QE in Japan.  I will focus on three questions  Did the economy behave differently during periods of QE?  How did policy behave during QE and non QE periods?  Was QE effective? 2 (c) Roger E A Farmer 28 March 2014

Japan is Scary 4.8 No growth in Industrial Production since 1990 4.6 4.4 QE1 QE2 4.2 Is this the future of the US? QE3 4.0 3.8 75 80 85 90 95 00 05 10 Log of Industral Production 3 (c) Roger E A Farmer 28 March 2014

Japan and QE Policy rate reached 200 zero in March 1999 QE3 150 QE1 100 QE2 50 Three periods of QE 5 since then 0 4 3 QE1 1999m03-2000m07 2 QE2 2001m03-2006m06 1 0 QE3 2008m12-present -1 92 94 96 98 00 02 04 06 08 10 12 Policy Rate Excess Reserves 4 (c) Roger E A Farmer 28 March 2014

Vars, Svars and Models ( )   = , , ', ', ' 0 E F X Y X Y U   Theorists build models. X is a vector of endogenous variables Y is a vector of policy variables Primes denote the future U’ is a vector of shocks 5 (c) Roger E A Farmer 28 March 2014

Linearized Models Lead to Vars = + + ' X ' AX BY V Private sector reduced form 1 = + + ' ' Y CX DY V Policy sector reduced form 2  Identification question  How is U’ related to V’?  Hayashi-Koeda answer  Reduced form private sector  Model Policy sector: Two Taylor Rules 6 (c) Roger E A Farmer 28 March 2014

Regime Switching Models ( )   = , , ', ', ', 0 E F  X Y X Y U S  S Model depends on regime S 7 (c) Roger E A Farmer 28 March 2014

Regime Switching Models Lead to Markov Switching Vars = + + ' ' X A X B Y V S 1 S 1 S 1 1   = Ω T E VV   = + + ' ' S 1 Y C X D Y V S 1 S 1 S 1 2 = + + ' ' X A X B Y V S 2 S 2 S 2 1   = Ω T E VV   = + + ' ' S 2 Y C X D Y V S 2 S 2 S 2 2 ( ) ( ) = = Pr S ' Si G X Y , 8 (c) Roger E A Farmer 28 March 2014

Estimation  Estimate private sector by least squares separately in each regime  Estimate policy rules and switching with maximum likelihood = + + ' ' X A X B Y V Estimated by Least S 1 S 1 S 1 1 squares = + + ' ' Estimated by Y C X D Y V Maximum likelihood S 1 S 1 S 1 2 9 (c) Roger E A Farmer 28 March 2014

Data: The output gap and excess reserves 200 150 100 50 4 0 0 -4 -8 -12 92 94 96 98 00 02 04 06 08 10 12 Output Gap Excess Reserves 10 (c) Roger E A Farmer 28 March 2014

Data: Inflation and the Policy Rate 8 4 0 -4 -8 -12 92 94 96 98 00 02 04 06 08 10 12 Twelve Month Inflation Rate One Month Inflation Rate Policy Rate 11 (c) Roger E A Farmer 28 March 2014

Points I will Make  There is a not a lot of evidence that the inflation process changes much across regimes  There is strong evidence of a change in the persistence of the output process  There is some evidence that QE affects output 12 (c) Roger E A Farmer 28 March 2014

The inflation process 13 (c) Roger E A Farmer 28 March 2014

Private Sector Equations 14 (c) Roger E A Farmer 28 March 2014

Private Sector Equations 15 (c) Roger E A Farmer 28 March 2014

Private Sector Equations 16 (c) Roger E A Farmer 28 March 2014

The output process 17 (c) Roger E A Farmer 28 March 2014

Private Sector Equations 18 (c) Roger E A Farmer 28 March 2014

Private Sector Equations 19 (c) Roger E A Farmer 28 March 2014

Private Sector Equations 20 (c) Roger E A Farmer 28 March 2014

Private Sector Equations 21 (c) Roger E A Farmer 28 March 2014

Twelve month or one month inflation? 22 (c) Roger E A Farmer 28 March 2014

Private Sector Equations 23 (c) Roger E A Farmer 28 March 2014

Normal Period QE Period INFL GAP INFL GAP INFL(-1) 0.860569 -0.029928 INFL(-1) 0.909263 -0.327566 (0.04334) (0.21983) (0.03163) (0.14211) [ 19.8550] [-0.13614] [ 28.7459] [-2.30505] GAP(-1) 0.022055 0.792535 GAP(-1) 0.041884 0.990800 (0.01155) (0.05858) (0.01043) (0.04688) [ 1.90950] [ 13.5287] [ 4.01385] [ 21.1345] C -0.077047 -1.230802 C 0.024853 -0.194790 (0.08348) (0.42342) (0.03297) (0.14812) [-0.92291] [-2.90683] [ 0.75381] [-1.31506] XRES(-1) 0.000654 0.005303 R_POL(-1) 0.026649 0.165771 (0.00047) (0.00241) (0.01824) (0.08195) [ 1.37923] [ 2.20349] [ 1.46097] [ 2.02288] R_POL(-1) -1.183732 -3.430306 DUM 0.036263 0.162394 (1.60536) (8.14227) (0.04117) (0.18495) [-0.73736] [-0.42130] [ 0.88086] [ 0.87803] R-squared 0.889077 0.751892 R-squared 0.950827 0.805507 24 (c) Roger E A Farmer 28 March 2014

Normal Period QE Period INFL GAP INFL GAP INFL(-1) 0.860569 -0.029928 INFL(-1) 0.909263 -0.327566 (0.04334) (0.21983) (0.03163) (0.14211) [ 19.8550] [-0.13614] [ 28.7459] [-2.30505] GAP(-1) 0.022055 0.792535 GAP(-1) 0.041884 0.990800 (0.01155) (0.05858) (0.01043) (0.04688) [ 1.90950] [ 13.5287] [ 4.01385] [ 21.1345] C -0.077047 -1.230802 C 0.024853 -0.194790 (0.08348) (0.42342) (0.03297) (0.14812) [-0.92291] [-2.90683] [ 0.75381] [-1.31506] XRES(-1) 0.000654 0.005303 R_POL(-1) 0.026649 0.165771 (0.00047) (0.00241) (0.01824) (0.08195) No price puzzle [ 1.37923] [ 2.20349] [ 1.46097] [ 2.02288] here R_POL(-1) -1.183732 -3.430306 DUM 0.036263 0.162394 (1.60536) (8.14227) (0.04117) (0.18495) [-0.73736] [-0.42130] [ 0.88086] [ 0.87803] R-squared 0.889077 0.751892 R-squared 0.950827 0.805507 25 (c) Roger E A Farmer 28 March 2014

Some Comments on Counterfactuals  The authors conduct counterfactuals  This is a minefield for ordinary Svars  It is a minefield with nuclear landmines for regime switching Svars 26 (c) Roger E A Farmer 28 March 2014

Some words of praise  The method of regime dependent Vars is an interesting extension to the Svar literature  The finding of expansionary QE under regime switching is important  There is a job for theorists to understand the mapping from structural models to Svars 27 (c) Roger E A Farmer 28 March 2014