Board of Governors of the Federal Reserve System

Abstract:

We show that reducing the probability of a trade war promotes long-term importer-exporter relationships that ensure provision of high-quality inputs via incentive premia. Empirically, we introduce a method for distinguishing between these long-term relationships--which the literature has termed "Japanese" due to their introduction by Japanese firms--from spot-market relationships in customs data. We show that the use of "Japanese" relationships varies intuitively across trading partners and products and find that the use of such relationships increases after a reduction in the possibility of a trade war. Extending the standard general equilibrium trade model to encompass potential trade wars and relational contracts, we estimate that eliminating "Japanese" procurement reduces welfare about a third as much as moving to autarky.

Keywords: Supply chain, Uncertainty, Trade war, Procurement

DOI: https://doi.org/10.17016/IFDP.2024.1389

Abstract:

This paper studies the cross-sectional dimension of Fisher’s debt-deflation mechanism that triggers Sudden Stop crises. Analyzing microdata from Mexico, we show that this dimension has macroeconomic implications that operate via opposing effects. We propose a small open economy, asset-pricing model with heterogeneous-agents and aggregate risk to measure the effects of inequality during crises. In contrast to a representative-agent model, heterogeneity generates persistent current account reversals with smaller drops in asset prices and larger drops in consumption driven by the leveraged households. Moreover, in a lower inequality calibration, we find that crises are less severe, as observed in the data.

Keywords: Inequality, Sudden Stops, Debt-deflation, Asset-pricing, Household leverage

DOI: https://doi.org/10.17016/IFDP.2024.1388

Abstract:

In principle, physical currency should be disappearing: payments are increasingly electronic, with new technologies emerging rapidly, and governments increasingly restrict large-denomination notes as a way to reduce crime and tax evasion. Nonetheless, demand for U.S. banknotes continues to grow, and consistently increases at times of crisis both within and outside the United States because dollar banknotes remain a desirable store of value and medium of exchange when local currency or bank deposits are inferior. Most recently, the COVID crisis resulted in historic increases in currency demand. After allowing for the effect of crises, U.S. banknote demand appears to be driven by the usual factors determining money demand, with no discernible downward trend.

In this work, I review developments in demand for U.S. currency over the past few decades with a focus on developments since early 2020. In addition, I revisit the question of international demand: I present the raw data available for measuring international banknote flows and updates on indirect methods of estimating the stock of currency held abroad. These methods continue to indicate that a large share of U.S. currency is held abroad, especially in the $100 denomination.

As shown earlier (Judson 2012, 2017), once a country or region begins using dollars, subsequent crises result in additional inflows: the dominant sources of international demand over recent decades are the countries and regions that were already heavy dollar users in the early to mid-1990s. While international demand for U.S. currency eased during the early 2000s as financial conditions improved, the abrupt return to strong international demand that began with the collapse of Lehman Brothers in 2008 has not slowed and reached new heights over 2020 and 2021. In contrast, however, the growth rate of demand for smaller denominations is slowing, perhaps indicating the first signs of declining domestic cash demand.

Keywords: Currency, Banknotes, Dollarization, Crisis

DOI: https://doi.org/10.17016/.IFDP.2024.1387

Abstract:

We assess the impacts from physical hazards (or severe weather events) on economic activity in a panel of 98 countries using local projection methods. Proxying the strength of an event by the monetary damages it caused, we find severe weather events to reduce the level of GDP. For most events in the EM-DAT data set the effects are small. The largest events in our sample (above the 90th percentile of damages) bring down the level of GDP by 0.5 percent for several years without recovery to trend. Smaller events (below the 90th percentile) see a less immediate decrease in initial years (0.1 percent) that progressively widens to become similar to the effect of larger disasters after 10 years. Climatological hazards (droughts and forest fires) appear to have the largest effects. These findings are robust across country groupings by development and alternative measures of the strength of the physical hazard.

Keywords: Climate-related risk, GDP growth, Natural hazards and disasters, Rare disasters, Vulnerability to climate impacts

DOI: https://doi.org/10.17016/IFDP.2024.1386