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The chapter first emphasizes the aspects which Steuart (1767), Thornton (1802), Tooke (1844, 1838–1857), and Keynes (1923) have in common about the relation between the exchange rate and the short-term rate of interest: they all considered a temporary unfavorable foreign balance caused by an asymmetrical exogenous shock, which called for a discretionary policy favoring international short-term capital inflows to overcome the consequences of the deficit. These aspects draw an unorthodox genealogy on this issue between the four authors, contrary to the tradition originating in Hume and developed later by the British monetary orthodoxy. Secondly, the chapter shows that there was an analytical progress from Steuart (1767) to Keynes (1923), which however faced a limit: if it reinforced an unorthodox genealogy, it did not integrate the modern idea according to which international short-term capital movements may themselves be a source of external disequilibrium. The origin of this limit was probably in the question raised, which was the adjustment to an exogenous asymmetrical shock.

This paper aims to examine two hypotheses that have not been well investigated in the existing literature. One hypothesis is that the real interest rates of industrial countries tend to be mean‐reverting during the current floating exchange rate period. Another hypothesis is that the real interest rates of the countries involved in forming the Euro area are more likely to behave as nonlinear stationary series than those of other industrial countries.

The study applies the conventional linear unit root tests and recently developed nonlinear unit root tests, as well as the tests of specifying nonlinearity in time series, to the short‐term real interest rates of 16 industrial countries.

The results of the study provide support for both hypotheses.

The results imply that, having adopted target‐zone type stabilization policies for years, the central banks of European Monetary Union (EMU) countries were likely to have exercised monetary policies in a nonlinear way, especially in the process of meeting the requirements of joining EMU.

The study provides stronger evidence than previous studies for the theory that real interest rates of industrial countries tend to have mean‐reverting behavior. The study suggests that more active monetary policies for inflation control in the floating exchange rate period may have enhanced mean reversion in real interest rates.

Economic fundamentals—such as economic growth, inflationary expectations, and monetary policy—cannot explain the worldwide rise in long‐term interest rates during 1994. The present paper investigates the extent to which the rise in rates was consistent with economic theory and domestic policies. It finds that it is necessary to introduce institutional factors to account for the widespread nature of the rise and the extent of the rise as well as, for some countries, the fact that long rates rose at all.

This paper shows that for a large class of single and multi‐factor term structure models, including the affine class, the market price of risk is directly related to the parameters of the stochastic processes of the underlying factors of the economy. It is shown that the market price of risk is proportional to the limit of the volatility of zero coupon bond returns. This means that the market price of risk is not entirely arbitrary. Not only it must be consistent with no arbitrage conditions, also it must be consistent with the parameters of stochastic processes of the factors that describe the economy. If the market price of risk is not correctly specified, then it could lead to profit opportunities of the type discussed in Backus et al (1996). Another consequence of our result is that in empirical tests of interest rate processes, the market price of risk should not be specified exogenously since its value is a function of the parameters of the model. We extend our result to forward processes. The market price of risk is shown to be a function of the volatility of the forward rate processes.

This paper aims to examine the Treasury bond yields response to monetary policy shocks in Tunisia under a heterogeneous economic environment.

Using a traditional fixed coefficient model, the impact of monetary policy changes on the term structure of interest rates for the whole period from January 2006 to December 2016 is estimated first. Then the stability of this relationship by distinguishing two sub-periods around the revolution of January 2011 is studies. To investigate how the relationship between the monetary policy and the Treasury yield curve evolves over time, a time-varying parameter model is estimated.

The results show that the impact of monetary policy is more pronounced at the short end of the yield curve relative to the longer end. Furthermore, this impact declines significantly across all maturities following the revolution and exhibits wide time variation. This evidence supports the negative influence of high levels of uncertainty on monetary policy effectiveness and highlights the desirability of more active monetary policy, especially in turbulent environment.

The impact of uncertainty on the effectiveness of monetary policy shocks needs to be explored further in future research to understand the structural sources of uncertainty and their dynamic interactions with monetary policy and risk aversion in asset markets.

A more active role of the central bank to influence the yield curve mainly through Treasury bond purchases covering medium and long maturities may be warranted. Communication also needs to be reinforced to ensure predictability of the monetary policy stance.

This paper extends the empirical literature on the pass-through of monetary policy to interest rates for an emerging country in context of transition by estimating a state-space model to test the time-varying behavior and examine the influence of increased economic uncertainty on monetary policy effectiveness.

This paper re-examines the relationship between interest rate changes and bank stock returns using the Japanese experience. Specifically, we test the relationship under two different regulatory regimes. During the first regime (1975–1983), there was strict regulation of the financial system and significant oversight of bank activities, whereas the latter regime (1984–1994) represented a period of financial liberalization and interest rate deregulation. The results presented here indicate that interest rate changes negatively affected Japanese bank equity in the post-regulatory period, but not during the period of heavy regulation. Additionally, we also find that most of the short-term rate effects were channeled through volatility proxies while long-term effects were channeled through yield spread and shape effects. These findings represent new and important insights into the relationship between interest rate changes and bank stock returns.

This paper aims to examine the response of monetary policy to financial instability in the West African Economic and Monetary Union.

Through annual aggregated data from 1970 to 2019, the empirical strategy is based on the Markov regime-switching model with fixed probabilities.

The results revealed that the monetary policy of the central bank of the West African Economic and Monetary Union is characterized by two regimes (calm and distress) with respect to the trend of financial stability. The authors also found that the occurrence of the calm regime was likely greater than that of the distress regime. In addition, the calm regime is longer than the distress regime. The authors finally revealed that the central bank reacts to financial instability risk by increasing its short-term interest rate when financial instability reaches a threshold.

The limitation of this study is the unavailability of monthly or quarterly data that are more suitable for the methodological approach adopted.

This study is the one to estimate the response of the Central Bank of West African Countries to financial stress using a novel approach based on the Markov-Switching regression.

This paper aims to empirically examine how shocks to monetary policy measures (the short-term nominal interest rate and broad money supply) affect macroeconomic aggregates, namely, output growth of the economy, national price levels and the nominal exchange rate.

Johansen’s (1995) cointegration technique and error correction models are used to explore the long-run relationship among variables. To investigate how macroeconomic aggregates respond to a one-standard deviation shock to the underlying monetary measures, the authors estimate impulse response functions based on error correction models. The study uses quarterly data covering the period 1980-2009.

The results provide evidence that there is a long-run stable relationship between the authors' monetary measures and the underlying macroeconomic aggregates. They also find that the industrial production adjusts at a faster speed relative to commodity prices and the exchange rate over the examined period. Further, they show that the short-term interest rate has relatively stronger effects on output as compared to broad money supply, whereas prices and exchange rates adjust more quickly to their long-run equilibrium when money supply is used as a measure of monetary policy. Finally, the authors find significant evidence of a price puzzle regardless of whether they consider a closed or an open economy case. However, an initial appreciation of exchange rate is observed in response to a one-standard deviation shock to money supply, indicating the overshooting hypothesis phenomenon.

The findings of the analysis suggest that the interest rate-oriented monetary policy is more effective when the monetary authorities’ objective is to enhance the output growth of the economy. However, in case of inflation targeting, the broad money supply seems a more appropriate instrument. Our findings also suggest that the monetary policy has a significant role in stabilizing both real and nominal sectors of the economy.

The main value of this paper is to examine the significance of monetary policy for a developing and relatively small open economy, namely, Pakistan. The authors use the error correction model, which improves the estimation by accounting for the long-run association. They also take into account the world oil prices by including the world commodity price index as a control variable in their empirical investigation. Finally, they utilize quarterly data rather than annual, and they cover a relatively recent sample period.

Regional rates of return in the United States differed widely following the Civil War and some differences persisted until well after World War II. Our understanding of the evolution of short-term interest rates is based primarily on portfolio rates of return estimated from bank accounting data. This paper uses new national bank loan rate series for 1887–1975 to present a revised view of the evolution of regional short-term interest rates. Two findings are of particular interest. The organization of the Federal Reserve System was accompanied by significant convergence in regional bank loan rates. Rates in the postbellum South were lower than previously thought.

The purpose of this paper is to enhance our understanding of effects of International Clearing Unions on the exchange market pressure (EMP). Using Asian Clearing Union (ACU) as an example of a typical International Clearing Union, the authors infers that ACU has not been very successful in synchronizing the EMP in the region. Other countries that are not members of such clearing union but are interested in monetary cooperation with other countries should consider the behavior of their EMP indices before attempting any form of integration. The study also provides a generic methodology for using EMP as an indicator for predicting the feasibility of monetary cooperation across countries.

An EMP model using the median absolute deviation is derived to reflect the policy preferences of each country. The weights for change in foreign reserves and interest rate differential are derived using analytical models. The index is then applied to ACU as a case study using monthly data from 2006 to 2015 for Bhutan, Bangladesh, Nepal, India, Pakistan, Sri Lanka and Iran. The descriptive statistics are studied to find the possibility of short-run relationship between the exchange rates, foreign exchange reserves and interest rate differential. The longitudinal data set generated is checked for cointegration to evaluate the EMPs of the countries.

The study finds that the EMP of ACU members’ shows similarity only in short-term movement but have no cointegration of EMP indices indicating the absence of long-term relationship. The absence of long-term cointegration of EMP for ACU members also indicates that ICU membership may not necessarily lead to similarity in exchange rate policies that facilitate the formation of a currency union. Creation of an ICU is not a sufficient condition for the formation of a currency union. The study also finds that the sample countries have faced persistent depreciation pressures in the period. The preferred tool for the management of EMP is direct intervention by sale and purchase of foreign currency. Interest rate changes are found to have the most significant effect on EMP.

The EMP model limits itself only to the study of exchange rates, foreign reserves and interest rates. Exchange rate variation and policy responses there to are known to be driven by other factors such as speculation, political factors, autonomous capital flows and micro-level dynamics of exchange markets like order flows among others. The EMP model is a simplification of the market dynamics and does not look for associations on the account of these factors. The model is evaluated for only one ICU where member countries regulate exchange rates. The study of ICUs that comprises free float currencies and pegged currencies may yield different results.

Results indicate that the member of any ICU such as ACU cannot assume that its participation will serve as a foundation for creating higher forms of economic unions such as currency unions. In the absence of any long-term relationship between the EMP of countries, any attempt by these countries may cause the exchange rates to deviate further. This leads to the conclusion that the members of ACU should avoid any attempts to form currency unions or use a common currency for its settlement.

Various countries that are considering the formation of currency union or the use of a common currency peg may like to examine its feasibility using EMP as a tool. Using EMP, they may be able to derive short-term and long-term strategies for pursuing their objectives.

There are few other studies that use EMP as an index for measuring the feasibility of formation of a currency union among countries that are the member of an ICU. While earlier studies apply EMP to a group of countries, none attempt to modify the index to reflect the EMP that is likely to affect central bank policy action. Few studies have attempted to use EMP to study the feasibility of formation of a currency union in South Asia based on exchange rate markets itself.