Muto, Ichiro (2012): A Simple Interest Rate Model with Unobserved Components: The Role of the Interbank Reference Rate.
Download (462Kb) | Preview
In this study, we theoretically investigate the potential role of the reference rate in stabilizing or destabilizing an interbank market with an environment where individual banks cannot fully identify the nature of underlying shocks affecting their interbank transactions. We show that a noise-free reference rate based on a sufficient number of sample transactions can help to make the market interest rate less volatile, whereas the stabilizing effects of the reference rate are significantly reduced if the reported interest rates contain some noisy components. Nevertheless, by increasing the number of sample transactions reflected in the reference rate, the adverse effects of the noise can be mitigated (or eliminated) provided the noise is idiosyncratic to individual transactions. However, if the noise is common to multiple transactions, then the adverse effects of the noisy reference rate cannot be reduced simply by increasing the number of sample transactions. This suggests that the noise in the interest rates reported by just a few of large banks can end up making the entire market more volatile, thereby impairing the transmission mechanism of monetary policy.
|Item Type:||MPRA Paper|
|Original Title:||A Simple Interest Rate Model with Unobserved Components: The Role of the Interbank Reference Rate|
|Keywords:||Interbank Market; Reference Rate; LIBOR; Imperfect Information; Financial Stability; Transmission Mechanism of Monetary Policy|
|Subjects:||E - Macroeconomics and Monetary Economics > E4 - Money and Interest Rates > E43 - Interest Rates: Determination, Term Structure, and Effects
G - Financial Economics > G1 - General Financial Markets > G14 - Information and Market Efficiency; Event Studies
E - Macroeconomics and Monetary Economics > E4 - Money and Interest Rates > E44 - Financial Markets and the Macroeconomy
|Depositing User:||Ichiro Muto|
|Date Deposited:||11. Dec 2012 15:34|
|Last Modified:||13. Feb 2013 17:56|
Abrantes-Metz, Rosa M., Michael Kraten, Albert D. Metz, and Gim S. Seow (2012), "Libor Manipulation?" Journal of Banking & Finance, 36(1), pp.136-150.
Angelini, Paolo, Andrea Nobili, and Cristina Picillo (2011), "The Interbank Market after August 2007: What Has Changed, and Why?" Journal of Money, Credit and Banking, 43(5), pp.923-958.
Ewerhart, Christian, Nuno Cassola, Steen Ejerskov, and Natacha Valla (2007), "Manipulation in Money Markets," International Journal of Central Banking, 3(1), pp.113-148.
Freixas, Xavier, and Cornelia Holthausen (2004), "Interbank Market Integration under Asymmetric Information," Review of Financial Studies, 18(2), pp.459-490.
Gefang, Deborah, Gary Koop, and Simon M. Potter (2011), "Understanding Liquidity and Credit Risks in the Financial Crisis," Journal of Empirical Finance, 18(5), pp.903-914.
Gyntelberg, Jacob and Philip Wooldridge (2008), "Interbank Rate Fixings during the Recent Turmoil," BIS Quarterly Review, 2008 March, pp.59-72.
Heider, Florian, Marie Hoerova, and Cornelia Holthausen (2009), "Liquidity Hoarding and Interbank Market Spreads: The Role of Counterparty Risk," European Central Bank Working Paper Series, No.1126.
Lucas, Robert E (1972), "Expectations and the Neutrality of Money," Journal of Economic Theory, 4(2), pp.103-124.
Lucas, Robert E (1973), "Some International Evidence on Output-Inflation Tradeoffs," American Economic Review, 63(3), pp.326-334.
Michaud, Francois-Louis, and Christian Upper (2008), "What Drives Interbank Rates? Evidence from the Libor Panel," BIS Quarterly Review, 2008 March, pp.47-58.
Morris, Stephen, and Hyun Song Shin (2002), "Social Value of Public Information," American Economic Review, 92(5), pp.1521-1534.
Muto, Ichiro (2013), "Productivity Growth, Transparency, and Monetary Policy," Journal of Economic Dynamics and Control, 37(1), pp.329-344.
Muto, Ichiro, Nao Sudo, and Shunichi Yoneyama (2012). "Productivity Slowdown in Japan's Lost Decade: How Much of It is Attributed to Financial Factors?" mimeo.
Phelps, Edmund (1970), Microeconomic Foundations of Employment and Inflation Theory, Norton, NY.
Sudo, Nao (2012), "Financial Markets, Monetary Policy and Reference Rates: Assessments in DSGE Framework," mimeo.
Taylor, John B., and John C. Williams (2009), "A Black Swan in the Money Market," American Economic Journal: Macroeconomics, 1(1), pp.58-83.
Woodford, Michael (2010), "Financial Intermediation and Macroeconomic Analysis," Journal of Economic Perspectives, 24(4), pp.21-44.