Download Has Monetary Policy Become More Efficient? A Cross

Better Off without the Euro?
Evaluating Monetary Policy and
Macroeconomic Performance for
Denmark, Sweden and the U.K.
Stefan Krause, Emory University
The First Decade of European Monetary
Union (May 28-30, 2008)
Motivation

Over the past two decades,
macroeconomic performance has
improved in both industrialized and
developing countries.

Evidence suggests that Central Banks


have played a decisive role in reducing both
the level and the variability of inflation
have likely contributed (at least partially) to
smoothing business cycles as well
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Figure 1a: Change in real GDP growth volatility
(1991:I-1998:IV vs. 1999:I-2006:IV)
DEN
H-P filtered
series
91-98
99-06
SWE
U.K.
DEN
Actual GDP
growth data
SWE
U.K.
0.0
0.5
1.0
1.5
2.0
2.5
Standard Deviation (in %)
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Figure 1b: Change in CPI inflation volatility
(1991:I-1998:IV vs. 1999:I-2006:IV)
DEN
Subperiod
inflation
91-98
99-06
SWE
U.K.
DEN
Entire period
inflation
SWE
U.K.
0.0
0.5
1.0
1.5
2.0
2.5
Standard Deviation (in %)
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Central Questions
 How much of the macroeconomic
performance gain experienced by
Denmark, Sweden, and the U.K. is due to
increased monetary policy efficiency?
 Could further declines in macroeconomic
volatility have been attained if these
three countries would have adopted the
Euro starting January 1999?
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Outline of the Presentation
1. Measuring Monetary Policy Efficiency
under independent policy (factual)
2. Macroeconomic Performance under the
Euro (counter-factual)
3. Conclusions
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Identification tool: Efficiency
Frontier

The efficiency frontier represents the
“best” a Central Bank can do

Better policy: Movements towards the
frontier

Better luck: Frontier moves inward
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Figure 2.1: Efficiency Frontiers and Performance Points
(Denmark: Comparison across subperiods)
1.8
91-98
Standard deviation of real growth (%)
1.6
1.4
1.2
99-06
1
0.8
0.6
91-98
0.4
99-06
0.2
0
0
0.1
0.2
0.3
0.4
0.5
0.6
0.7
0.8
Standard deviation of inflation (%)
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Figure 2.2: Efficiency Frontier and Performance Point
(Sweden: Comparison across subperiods)
2
Standard deviation of real growth (%)
1.8
91-98
1.6
1.4
1.2
99-06
1
0.8
0.6
91-98
99-06
0.4
0.2
0
0
0.5
1
1.5
2
2.5
3
Standard deviation of inflation (%)
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Figure 2.3: Efficiency Frontier and Performance Point
(UK: Comparison across subperiods)
1.2
Standard deviation of real growth (%)
91-98
1
0.8
99-06
0.6
0.4
91-98
0.2
99-06
0
0
0.5
1
1.5
2
2.5
Standard deviation of inflation (%)
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Results – Part I

Comparing macro performance for
Denmark, Sweden and the U.K.
between 91-98 and 99-06

Further performance improvement for
all three countries



~25% performance improvement for Denmark
(about 80% due to policy)
~75% performance improvement for Sweden
(almost 100% due to policy)
~90% performance improvement for the U.K.
(about 90% due to policy)
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Generating "alternate
economies"

Recursive bootstrap technique

Iteration process to obtain 1,000
bootstrap samples of real GDP growth
and inflation (alternate economies)

performance point under the Euro:
average value (out of the 1,000
replications) of the pair of volatility
measures
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Figure 3.1: Efficiency Frontier and Performance Points
(Denmark: Second subperiod)
Standard deviation of real growth (%)
1.6
1.4
(under Euro)
1.2
(actual)
1
0.8
0.6
0.4
Efficiency Frontier (99-06)
0.2
0
0
0.1
0.2
0.3
0.4
0.5
0.6
0.7
Standard deviation of inflation (%)
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Figure 3.2: Efficiency Frontier and Performance Points
(Sweden: Second subperiod)
Standard deviation of real growth (%)
1.4
1.2
(actual)
(under Euro)
1
0.8
0.6
Efficiency Frontier (99-06)
0.4
0.2
0
0
0.2
0.4
0.6
0.8
1
1.2
1.4
1.6
1.8
Standard deviation of inflation (%)
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Figure 3.3: Efficiency Frontier and Performance Points
(UK: Second subperiod)
0.7
Standard deviation of real growth (%)
(actual)
0.6
(under Euro)
0.5
0.4
0.3
0.2
Efficiency Frontier (99-06)
0.1
0
0
0.1
0.2
0.3
0.4
0.5
0.6
0.7
0.8
0.9
1
Standard deviation of inflation (%)
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Results – Part II

Macroeconomic Performance under the
Euro



10-11% loss in macroeconomic
performance for Sweden
7-8% loss in the case of the U.K.
for Denmark, relatively small performance
change; performance improvement from
adopting the Euro depends on relative
preference for inflation stability.
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Conclusions

Monetary policy played a sizeable role
in contributing to the reduction in
inflation and real growth fluctuations,
mostly for Sweden in the U.K.

None of the three countries would have
experienced a larger macroeconomic
performance gain if they had joined the
EMU in 1999.
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What’s next?

Model specification? Examine with
alternative models

Higher frequency data

The U.K. is not a price taker – likely
impact on the ECB rate

Your comments/suggestions
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