Official Intervention and Exchange Rate Determination: Evidence from India

Despite the adoption of a market-oriented regime, Reserve Bank of India explicitly practices sterilized intervention to normalize unfavourable developments in the market. This study seeks to find empirical evidence on the intensity to which the monetary authority was able to achieve its policy objective of directing exchange rate in the anticipated trail. The study employed an Autoregressive Distributed Lag (ARDL) model to estimate the central bank reaction function in this regard. It was found that 1% purchase of foreign exchange reserve (net intervention) depreciated Indian Rupee by 0.255% for long-term. Whereas in short-term, intervention followed “leaning against the wind” policy to curb market vagueness. The findings of the study recommend that there should be more coordinated approach between official intervention policy and monetary policy formulation in consonance with the economic fundamentals for increasing the effectiveness and sustainability of the intervention operations.

Leaning against the Wind and Crisis Risk

Can central banks defuse rising stability risks in financial booms by leaning against the wind with higher interest rates? This paper studies the state-dependent effects of monetary policy on financial crisis risk. Based on the near-universe of advanced economy financial cycles since the nineteenth century, we show that discretionary leaning against the wind policies during credit and asset price booms are more likely to trigger crises than prevent them. (JEL E43, E44, E52, E58, F33)

Leaning-Against-the-Wind: Which Policy and When?

This paper quantitatively examines which of the following three widely-used leaning-against-the-wind policies is effective in stabilizing aggregate fluctuations: i) a monetary policy that responds to the loan-to-GDP ratio, ii) a countercyclical LTV policy, and iii) a countercyclical capital requirement policy. In particular, we estimate a New Keynesian model with financial frictions using U.S. data and find that a monetary policy rule that responds positively to the loan-to-GDP ratio Amplifies the macroeconomic fluctuations while a countercyclical LTV policy has almost no effect. On the contrary, a countercyclical capital requirement policy is the most desirable in stabilizing GDP, inflation, and loans. However, the stabilization effect of the optimal countercyclical capital requirement policy is concentrated during periods in which financial shocks played a large role.

Unveiling the Effects of Foreign Exchange Interventions

This paper analyzes determinants and consequences of FX interventions in the Kyrgyz Republic. Most of the literature on the topic focuses on advanced and emerging economies and this paper provides new evidence from a low-income country. We find that FX interventions take place in response to movements in the exchange rate and its volatility. There is also evidence of “leaning against the wind”, which is more pronounced for relatively larger FX sales and purchases. The “leaning against the wind” is asymmetric toward FX sales and largely reflects leaning against depreciation of domestic currency. We document a varying degree of de-facto exchange rate stability despite the de-jure floating exchange rate regime. During most of the sample, the exchange rate management index was relatively low in line with the floating exchange rate regime, with the exception of the period from 2018 Q4 until the COVID-19 shock, during which the exchange rate management index was relatively high.

Leaning Against the Wind

This paper takes a new approach to assess the costs and benefits of using different policy tools—macroprudential, monetary, foreign exchange interventions, and capital flow management—in response to changes in financial conditions. The approach evaluates net benefits of policies using quadratic loss functions, estimating policy effects on the full distribution of future output growth and inflation with quantile regressions. Tightening macroprudential policy dampens downside risks to growth stemming from loose financial conditions, and is beneficial in net terms. By contrast, tightening monetary policy entails net losses, calling for caution in the use of monetary policy to “lean against the wind.” These findings hold when policies are used in response to easing global financial conditions. Buying foreign-exchange or tightening capital controls has small net benefits.