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Josephine Smith
Job Market Candidate
Stanford University
Department of Economics
579 Serra Mall
Stanford, CA 94305
415-205-3204
jsmith83@stanford.edu
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Research
JOB MARKET PAPER: The Term Structure of Money Market Spreads During the Financial Crisis,
Updated 11/15/09
I estimate a no-arbitrage model of the term structure of money market spreads during the recent financial crisis to identify how much of the sharp movements in spreads can be attributed to observable interest rate, credit, and liquidity factors. The restrictions of the model imply that longer-term spreads are linear, risk-adjusted expected values of future short-term spreads. In addition, the linear representation of spreads can be partitioned into two distinct components: one related to time-varying expectations of spreads, and the second to time-variation in risk premia. Estimation of the model highlights the importance of time-variation in risk premia. Up to 50% of the variation of spreads is explained by time-varying risk premia, and risk premia has significant predictive power for spreads.
The Term Structure of Policy Rules (with John Taylor), Journal of Monetary Economics, October 2009
(LEAD PAPER)
A formula is derived that links the coefficients of the monetary policy rule for the short-term interest rate to the coefficients of the implied affine equations for long-term interest rates. The formula predicts that an increase in the coefficients in the monetary policy rule will lead to an increase in the coefficients in the affine equations. Empirical evidence for such a prediction is provided. The curve of the response coefficients by maturity is also predicted by the formula. The formula's predictive accuracy and its closed form make it a useful tool for studying the policy implications of embedding no-arbitrage affine theories into macro models.
Copy for Non-ScienceDirect Subcribers
The Term Structure of Money Market Spreads during the Financial Crisis: A Micro Approach, November 2009
Using micro data from LIBOR-participating banks, I estimate a no-arbitrage model of the term structure of money market spreads during the financial crisis in the spirit of Smith (2009). The model-predicted linear relationship between individual bank spreads and interest rate, credit, and liquidity factors allows me to decompose spreads into two components: one related to time-varying expectations of future spreads, and the second related to time-varying risk premia. Time-varying risk premia are volatile across banks. Those institutions with higher spreads are associated with higher time-variation in risk premia that is related to the credit factor.
Interest Rate Spreads and Interbank Markets in a DSGE Model (with Marc Hafstead), November 2009
We develop an extension of the Bernanke, Gertler, and Gilchrist (BGG) (1998) model of credit market imperfections in order to study the relationship between the interbank market, interest rate spreads, and monetary policy. BGG serves as a reasonable baseline for three reasons. First, borrowing and lending exists among private agents in equilibrium, a necessary condition for the presence of a banking sector. Second, the assumptions of the model allow an examination of monetary policy and its relationship to the financial accelerator. For our purposes, this means we can study the optimal response of monetary policy to shocks, particularly one generated in the interbank lending market. Lastly, the structure of BGG allows us to separate the effects of shocks in the aggregate economy to those in the interbank market and understand how shocks propagate across different sectors. Unlike BGG, we denote all loans and borrowing in nominal terms to analyze the Fischer debt-deflation channel. We also explicitly define the capital goods producers, a "ghost sector" in the original BGG formulation. Finally, we examine how monetary policy can react to shocks to the interbank market. Rather than a standard Taylor rule that has interest rates reacting only to measures of the price level and output, we also ascertain the impact of Taylor rules that react to movements in interbank market interest rates and spreads. If interbank rates suddenly spike in the face of a financial market friction (as we saw in the recent financial crisis), should policy react to this? If so, then by how much? Is there a tradeoff between stabilizing the real economy and asset markets?
The Link between the Long and the Short End of the Term Structure of Policy Rules: A Global Perspective, October 2007
I first document empirical shifts in the estimated response of the entire term structure of U.S. interest rates to inflation and the U.K. central bank interest rate. Motivated by the significance of these variables as determinants of U.S. monetary policy, I develop a simple macroeconomic model and derive a relationship between the monetary policy rule for the short-term interest rate and the response of all longer-term rates to the variables in the given policy rule. In a closed economy where monetary policy depends only on inflation, I find two countervailing forces explain the nature of the link between short- and longer-term interest rates. Once the economy is opened up to movements in foreign variables, namely the foreign central bank interest rate, I also derive a similar link between the short rate and longer-term interest rates as a function of inflation and this foreign interest rate. This global perspective of monetary policy, while still somewhat limited in its range of openness, helps develop a new way of structuring monetary policy so as to explain the impact of globalization and to motivate research towards optimizing monetary policy over the entire global economy.
Macroeconomic Forecasting and Uncertainty, March 2007
Expectations are at the center of all economic decision-making, and an agent's formation of expectations is central to the behavior of the overall economy. Formal modeling of expectations formation began in the 1920s with a debate about the existence of economic forecasts, continued through to its peak in the 1970s with the onset of the "rational expectations revolution," and continues into today with newly-developed stochastic frameworks that marry the structural and non-structural elements of forecasting. This paper performs a case study on a familiar forecasting survey, the Survey of Professional Forecasters (SPF). I test the popular rational expectations theory, and move in a further direction by attempting to discern the underlying uncertainty of the forecasters who take part in the survey, a variable inherently latent for all econometric purposes. My results indicate that forecasting performance has improved over time, the rational expectations hypothesis can be rejected, and that one must be cautious when attempting to proxy for uncertainty using the individual forecasts provided by this survey.
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