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Money & Banking

Article Literature Review

Submitted by: Fahad Taqi Allawala (9840) Kinza Aziz Shaik (10419) Submitted to: Madam Sadia Mansoor

Determinants of Interest Rate Pass-Through: Do Macroeconomic Conditions and Financial Market Structure Matter?
Gigineishvili (2011) states that good understanding of monetary transmission mechanism is vital

for central bank to make the economy move into the required way. Interest Rate is one of the channels that have been subjected to strong scrutiny, which shows that by how and over what time duration inflation is effected by variation in policy interest rate and how changes in central bank policy rate convey longer-term retail interest rates on loans and deposits. Numerical evaluation of pass-through coefficients differ between countries and different scenarios, which suggest that retail pricing by banks in different countries and markets react differently to monetary policy. It is shown the cross country differences in pass-through with country-specific structural and macroeconomic characteristics which estimates country-specific pass-through coefficients using standard way of autoregressive distributed lags and relating these coefficients to macroeconomic variables and indicators of the financial market structure. It has been found out that per capita GDP and inflation have positive effects on pass-through, while market volatility has a negative effect. When talk about financial market variable credit quality, overhead costs, and banking competition they were found out to be strengthening pass-through, while excess banking liquidity to obstruct it and fixed exchange regime countries tend to have a weaker pass through. The objective of monetary policy is to achieve and maintain low inflation. The positive relationship between inflation and the strength of pass-through says that by being successful in its key objective which is reducing inflation, a central bank contributes to the weakening of monetary transmission. while improving the regulatory and legal environment, giving information sharing and removing obstacles to banking intermediation could be among objectives of policy makers and financial sector regulators, the reduction in overhead costs would weaken pass-through which make it harder for a central bank to control inflation.

The Determinants of Real Long-Term Interest Rates 17 COUNTRY POOLED-TIME-SERIES EVIDENCE


Orr et all (1995) explained real long term interest rates in terms of developments in lowfrequency and high frequency economic factors using multi country (17 OECH Countries) framework with a simultaneous estimation procedure. The main influences on real long term changes have been indicated as rate of return on business capital, portfolio risk, inflation uncertainty and future saving and investment balances indicator (these are all low frequency factors). High frequency factors include monetary policy actions and shocks to inflation. The importance of real long term interest rates can be seen by the fact that they are key determinants of longer term saving and investment decisions and also they have a substantial influence on business spending, housing investment and consumption of durables, which affects the business cycle and the transmission of macroeconomic policies. There were synchronized real long term interest rates rising substantially with few factors changing to justify such a rise. The deterioration of the supply of global savings can be a reason, implying an important role for exceptional shifts for recent developments. Another reason could be the global integration of capital markets. The rate of return, country's past history of inflation, current account balances and government deficits are all seen as important determinants of trend real long-term interest rates, according to our analysis using Pooled-time series. But the results do not explain why shorter-run actual movements in real rates diverge from the trend. An important outcome of the analysis suggests that there is a need to respect the interactions between the differing determinants. Several policy conclusions can be made: maintaining low and stable inflation will result in low real interest rates, public deficits have significant influence on level of real rates, reduced government dis-savings allow real rate declines to be anticipated and that in cases where hard-currency commitment is persuaded but economic fundamentals have not fully converged to those of anchor country, an additional risk premium on real long-term interest rates can be expected.

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