ECB Outright Monetary Transactions – Master Projects 2014

Editor’s note: This is the first post in a series that will showcase Barcelona GSE master projects by students in the Class of 2014. The master project is a required component of every master program.


 An Evaluation of the ECB’s Outright Monetary Transactions

Authors:

Madalen Castells, Alexandros Georgakopoulos, Edgar Giménez Trill, Jesse Lastunen, and Karolos Lymperakis-Pitas

Master Program:

International Trade, Finance and Development

Project Summary:

Since early 2009, the euro crisis has influenced most countries of the European Monetary Union (EMU), contributing to persistent low economic growth, high unemployment, steeply rising public financial costs and several problems with the region’s banks. As a result, a wide variety of policy measures have been adopted to address these problems. The central actors have included not only individual member states but also the European Central Bank (ECB), European Commission (EC) and International Monetary Fund (IMF).

While the success of many of the policies in recent years have been contested by different parties, the ECB’s Outright Monetary Transactions (OMT) program initiated in the summer of 2012 has been widely welcomed. Our paper attempts to understand and investigate OMT’s claimed success, motivated especially by the recent efforts to discontinue the policy. The implications with regard to the continuation of the program are potentially enormous, both economically and in terms of the social welfare of European citizens. Altogether, our motivation stems from the catastrophic consequences of the crisis, mixed success of most mid-crisis policy responses, and the uncertain destiny of OMT – perhaps one of the most crucial policy initiatives adopted in Europe after 2008.

Our research questions build on the uncertain contribution of OMT to the declining bond spreads in the peripheral euro nations. We ask whether OMT was responsible for the decline in their spreads after mid-2012, why this might be the case, and whether the policy can be successful in the future. The underlying policy question is simply whether European legislators should resume OMT. Our study is based on two steps: we first examine the ”theory and practice” of the program, also conducting a compact literature survey on other research studying its effectiveness, and then turn to quantitative methods. Our quantitative analysis consists of a regression study and the application of the synthetic control method to examine OMT’s effect on declining bond spreads in the periphery. In the process, we also analyze the nature and dynamics of the post-Lehman hikes in peripheral bond spreads.

Our results suggest, firstly, that the post-Lehman takeoff in sovereign bond spreads in the periphery was largely induced by fears of sovereign default that were separated from ”normal” associations between spreads and economic fundamentals. In particular, the synthetic control countries we construct based on spread determinants in the peripheral countries do not experience any such increases in their spreads. Our regression analysis also indicates that the mid-crisis evolution of peripheral spreads differs strikingly from the values predicted based on the stable period between 2000 and 2008. Furthermore, countries outside the periphery do not suffer from the pronounced association between spreads and fundamentals.

Secondly we find that OMT was very likely to be responsible for the rapid decline in peripheral spreads after mid-2012. The synthetic control countries we construct are not significantly affected by OMT, and some actually experience slight upward trends in their spreads after the policy is announced. The method lends strong support to OMT’s role in the declines in peripheral spreads. Similarly, the regression analysis suggests that post-OMT trends in spreads approach the stable values predicted based on the pre-crisis period. In most peripheral countries, OMT also breaks up the upward trend predicted based on the period before OMT.

Our results broadly validate earlier studies by Krishnamurthy et. al (2013) and Altavilla et al. (2014) regarding OMT’s effect, and Arghyrou and Kontonikas (2011), De Grauwe and Yi (2012) and Di Cesare et al. (2012) regarding the panic-driven nature of the increased peripheral bond spreads during the crisis. Although we consider that further research regarding the suggested long-term costs of OMT is needed, we strongly believe that the benefits of the policy outweigh the hypothetical concerns, and OMT should therefore be resumed by European policymakers. In particular, OMT had the intended effect of reducing bond spreads and stabilizing monetary policy in the European Monetary Union, and there is no indication that actually implementing bond purchases through the program will be necessary.

Read the full project report or view slides below:

28th Barcelona GSE Lecture

by Professor Joel Slemrod

(Stephen M. Ross School of Business, University of Michigan) on MONDAY, October 21, 2013 at 18:45 pm.

Prof. Slemrod will speak on: Policy Insights from a Tax-Systems Perspective

Joel Slemrod is the Paul W. McCracken Collegiate Professor of Business Economics and Public Policy at the Stephen M. Ross School of Business at the University of Michigan, and Professor of Economics in the Department of Economics. He also serves as Director of the Office of Tax Policy Research, an interdisciplinary research center housed at the Ross School of Business. A leading expert on tax policy, professor Slemrod received the B.A. degree from Princeton University in 1973 and the Ph.D. in economics from Harvard University in 1980. Professor Slemrod has been a consultant to the U.S. Department of the Treasury, the Canadian Department of Finance, the New Zealand Department of Treasury, the South Africa Ministry of Finance, the World Bank, and the OECD. Besides numerous articles in top economics journal, professor Slemrod also produced highly acclaimed books on taxation. He is the co-author with Jon Bakija of Taxing Ourselves: A Citizen’s Guide to the Debate over Taxes, whose 5th edition will be published in 2013, and with Len Burman of Taxes in America: What Everyone Needs to Know, published in 2012. From 1992 to 1998 Professor Slemrod was editor of the National Tax Journal. In 2012 he received from the National Tax Association its most prestigious award, the Daniel M. Holland Medal for distinguished lifetime contributions to the study and practice of public finance.

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The Aftermath of the Latin American Boom?

Throughout this academic year, we have learned about European policy making, immigration issues in the United States, OECD´s effort to put up with the current crisis, Spain’s unemployment and labor market and why Northern countries engage in intra-industry trade. My contribution to this blog is oriented towards the Southern Cone of the globe, and is a personal assessment of some of the challenges that Latin America in particular, faces as a region today.

Cover for the book “Enough of Histories” of Andrés Oppenheimer by artist Alfredo Sabat (2010)

While many countries in the north confront one of the worst financial crisis in history, the ability that Latin American countries have had to adapt to the recent crisis has been remarkable. Nevertheless, what was first called as the Latin American boom now appears to be coming to an end.

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Healthcare: Are we demanding bad goods?

Details is a trendy American style magazine showcasing movie stars and the latest in everything fashionable and chic. So when they name a health economist as one of the 50 most influential men under 45 it should raise a well-groomed eyebrow (or two).

Submitted by Scott Robertson, Master Program in Health Economics and Policy

Details is a trendy American style magazine showcasing movie stars and the latest in everything fashionable and chic.  So when they name a health economist as one of the 50 most influential men under 45 it should raise a well-groomed eyebrow (or two).

As if that doesn’t give him enough credibility, David Cutler is one of the most-cited minds in modern health economics with a persistent focus on driving the discussion of quality.  Modern Healthcare recently said he is one of the 30 people likely to have a significant impact on the future of healthcare.  Plus he’s a professor at MIT and was an advisor to U.S. Presidents Clinton and Obama.

In short: Cutler is a big deal.  If the UPF, and ostensibly the Barcelona GSE want to prove the profile of their economics program, attracting this star to inaugurate the academic year could be an indicator of success.  The auditorium filled to standing-room only shows the opportunity was not lost on students either.

UPF Economics Department
David Cutler delivers the UPF Economics Department opening lecture in October 2012. Photo credit: UPF

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