Synthetic collateralized debt obligations (CDOs) performed very badly during the subprime crisis: they suffered massive rating downgrades (even at the most senior levels of the capital structure) and inflicted significant losses on investors. Using numerical simulations, this study shows that such structures are highly unstable; minor errors in the basic assumptions could manifest dramatically in the accuracy of CDO rating calculations. Regardless of the quality of the underlying assets, it is impossible to make reliable statements regarding the future performance of a synthetic CDO tranche. Moreover, this study demonstrates that single-point credit risk estimators (in which no attempt at specifying a confidence interval is made) could be especially misleading. Finally, the study suggests that a regulatory framework based on credit ratings as they are presently defined is unlikely to be effective.

In this paper we analyse the utility of international measures of inflation in predicting local ones. To that end, we consider a set of 31 OECD economies for which monthly inflation data are available. Three main conclusions emerge. First, there is an important share of countries for which relatively robust evidence of predictability is found for both core and headline inflation. Second, the share of countries for which there is evidence of robust predictability is about the same for core and headline inflation, although gains in root-mean-squared prediction error are higher for headline inflation. Third, while the evidence indicates that an international inflation factor may be a useful predictor for several countries, it also indicates that, for many countries as well, predictability is either questionable, undetectable, non-robust or simply non-existent.

There is an increasing consensus that global ‘excess saving’ has contributed to a reduction in equilibrium real interest rates. While economists dispute the extent of the decline, few now question that a decline has taken place or that excess saving has played a causal role. A key implication of this narrative is a decline in yields of all assets, including but not restricted to government bond yields. Yet, since the turn of the century, yields on global equity have risen. A complementary explanation is that there has been an increase in the global equity risk premium (ERP), which has simultaneously pushed risk-free yield curves lower and equity yields higher. Applying a sign restrictions approach, I find that ‘excess savings’ shocks were the predominant force affecting global real bond yields between the mid-1980s and 2000 but that ‘risk premium’ shocks have accounted for more of the decline in real bond yields since 2000.

The aim of this study is to develop an eclectic but robust model that allows for a better measure of expected inflation and facilitates testing for all sorts of biases. Improving the measure of expected inflation is of critical importance for conducting monetary policy. In many circumstances, indicators of expected inflation move in opposite directions, and this divergence may be critical for the setting of the interest rate. I estimate the model for a special set of Israeli data via the Kalman filter methodology and then test for systematic biases, a better normalization of the model, liquidity problems and inflation risk – which could all be present in current measures of expected inflation.

Should a monetary policy maker following a Taylor-type rule set a higher policy rate than the level suggested by the rule because of a possibility of an asset price bust in the near future? Our answer to this question for monetary policy makers who have two scenarios of ‘boom–bust cycle’ and ‘stable growth’ is yes if the following two conditions are satisfied. First, early warning indicators based on credit and residential investment data show a high probability of a boom–bust cycle occurring. Second, the policy rate path that minimizes the boom–bust probability-based expected value of a social loss associated with inflation and the output gap over the two scenarios is higher than the rate path by the Taylor-type rule. Our counterfactual analysis shows that the Fed should have raised the federal funds rate by a small amount over and above the level suggested by a Taylor-type rule in the early 2000s.

This paper evaluates the macroeconomic effects of simultaneously implementing growth-friendly fiscal consolidation and competition-friendly reforms in one European country by simulating a dynamic general equilibrium model. Our results are as follows. First, in the case of joint implementation, the increase in gross domestic product (GDP) is larger than the sum of GDP increases obtained from implementing reforms separately. Growth-friendly public debt consolidation uses lower interest payments in the long run to permanently reduce tax rates, and competition-friendly reform expands the tax base, allowing for further rate reductions. Second, the medium-term output loss associated with the temporary increase in taxes during the fiscal consolidation is mitigated by its implementation alongside the competition-friendly reform, whose expansionary effects limit the tax rate increase. Third, in the short run (the first two years), all measures imply a macroeconomic cost in terms of output loss, which is smaller than the permanent output gain in the long run.

The aim of this study is to analyse whether the great shock occasioned by the financial crisis and the reaction from national governments have compromised the process of financial integration in the EU. This question is important because banking union is a cornerstone of the European integration process. We estimated the evolution of cost and profit efficiency in the enlarged EU during the period from 2000 to 2013 using Bayesian frontier stochastic models (SFA), and analysed the convergence among countries using the beta and sigma convergence tests. Our results show that the outbreak of the financial crisis interrupted the convergence and gave rise to a new divergence process. These results suggest that major reforms in European banking should be adopted by EU regulators in order to strengthen financial integration.

In this paper I estimate the speed of adjustment to shocks to real effective exchange rates (REERs) during the gold standard years. Adoption of the gold standard by the United States in 1879 resulted in all four core countries (France, Germany, the United Kingdom and the United States) being fully committed to gold. I use the concept of half-life (HL) to measure the time it takes for a deviation from purchasing power parity (PPP) to dissipate by 50%. Relative to the years 1870–1913, between 1880 and 1913 the half-lives of REERs in core countries decrease from between 4.4 and 5.2 years to between 3.1 and 3.4 years, with similar declines across dynamic panels. Combined with evidence elsewhere that interest rates adjusted quickly, the evidence herein suggests that adjustment in goods markets was faster following adoption of the gold standard.