Does Quantitative Easing Policy in US Affect Market Liquidity - Research Proposal Example

THE SPILLOVER EFFECTS OF JAPAN QUANTITATIVE EASING POLICY ON CHINESE ECONOMY by + City, State Date Table of Contents I. Introduction 3 Background 3 II. Literature review 4 III. Methodology 5 Theoretical analysis 5 MFD model 5 3.2 Empirical analysis 7 Construct model 8 Data 9 IV. References 10 I. Introduction Background Japan implemented QE policy since the year of 2001. Japan implemented this policy because it was facing deflation which eventually led to the deterioration of its economy (Rixtel, 2007).

It was forced to abandon its zero rate interest policy as it believed the policy to be the reason behind the deflation and deterioration of the economy. In the year 2013, the Prime Minister of Japan, Shinzo, implemented a monetary policy. This monetary policy is an aspect of Abenomics which was virtually named after the Prime Minister, Shinzo Abe. The Abenomics plan comprises a considerable intensification in economic inducement through government expenditure, enormous growth in monetary spur through eccentric Central Bank policy and a reform program directed at creating structural enhancements to the economy of Japan (Boesler, 2013).

This is despite concerns and uncertainties from various stakeholders on how the Abenomics plan was intended to work. The monetary aspect of the Abenomics foresaw a decline in the value of the Japanese Yen from its exceptionally prominent levels. This would have positive impacts for the economy of Japan. For example, a debilitated Yen was likely to increase exports in Japan as other monetary currencies will be in a better position to purchase extra Japanese-manufactured merchandises. It was equally envisioned to deliver fuel for the Japanese shares and stocks (Boesler, 2013).

This plan therefore attracted much attention from the world at large. This is mainly because the purpose of any monetary policy in any given country is to lessen the rates of real interest. Japan was however going against this notion of a reduction of the real interest rates by weakening its currency, the Yen, much to the shock of the world. It is argued that the QE measures as a monetary policy boosts the economic growth of a country once it is adopted and implemented by the central bank of that country (Xinhua, 2015).

It is this argument that informs my study on the spillover effects of Japan quantitative easing policy on Chinese economy. The purpose of this research study is to find out the extent to which the QE measures had an impact on the economic growth of China, if any, considering the large market base that China has. The study will also help us to understand whether the spillover effects played any vital roles in the monetary policies of China. II. Literature review Cooper (1968) said that economic policy will have spillover effects when the two countries have an economic exchange.

A spillover effect occurs in a situation whereby the policy makers of one country involve themselves in the international market and tend to take the prices in the international market (Setton, 2014). This is because they are deluded to believe that the international market is a perfect one as compared to their own national markets. They will therefore be quick to adopt the prices in the international market. The Mundell-Fleming-Dornbusch model is adapted in an economy that is open. It envisions that the prices of goods display adhesiveness whereas the benefit markets, together with the foreign exchange market, are uninterruptedly in equipoise.

This model tries to solve the problems of policy makers. This is because it permits insignificant stringencies to open the way for insignificant shocks to have material paraphernalia (Rogoff, 2002).Obstfeld and Rogoff (1995) developed a perfect-foresight two-country general equilibrium model. This model, a NOEM model, is used to analyse the spillover effect from a country to another. Wu (2003) built MFD model to analyse how the change of US monetary policy affects Chinese economy and found that the influence is dependent on whether the interest rate in US is higher or lower than it is in China.

CANOVA (2005) used VAR model to study the spillover effect of US monetary policy on Latin America. He found that US monetary policy affects interest rate level in Latin America. Maćkowiak (2007) built SVAR model and study on the Spillover Effects of US monetary policy to emerging markets. He found that the monetary policy affects short-term exchange rate and interest rate. He and Peng (2014) selected data from the year of 2000 to 2012, study on the spillover effects of US and Japan monetary policy on Chinese economy and found that Japan has more influence on Chinese export and US has more influence on exchange rate in China.

Joshi (2011) indicates that volatility spill over is advanced than the spill over experienced in the cross-market. His research shows that the general perseverance of stock market volatility is uppermost for Japan (0.931) and bottommost for China (0.824). Groenewold, Lee and Chen (2004) indicate in their research that there are robust regional spill overs in China especially from the coast region to the central and western regions. They contend that a monetary policy to improve the coastal region will be of equal importance to the other two regions. III. Methodology Theoretical analysis MFD model This model provides a colossal prospect to make noteworthy enhancements in the eminence of the working areas deliberated in incorporation.

It can contribute in the accomplishment of a tranquil and operative identification, quantification and eradication of losses in lucrativeness and competitiveness. This model will show us how we can identify, quantify and conceivably abolish the root causes behind technical and economic deviancies. The model can be used to validate the savings that are essential for augmenting profitability when scheduling to eradicate the root causes. Domestic commodity market equilibrium: Foreign commodity market equilibrium: Domestic monetary market equilibrium: Foreign monetary market equilibrium: Domestic balance of international payment: Foreign balance of international payment: In (1), Y - Output, C - Consumption, G - Government expenditure, X - Amount of exports, M –Amount of imports C is decided by disposable income Yd, which e - Autonomous investment, r - Domestic interest rate Q - Domestic net exports, γ - Marginal propensity to import, EP*/P - Real exchange rate So put (7), (8), and (9) into (1), In a similar way, we can get that In (3), m - Logarithm of nominal money supply, p - Logarithm of aggregate price level, I - Logarithm of real money demand.

In the same way, we can get that In (5), F - Net capital outflow. Because net capital outflow has positive relationship with the balance of the interest rate of the world and domestic interest rate, so we can assume that F=θ·(rw-r) (14). Then put (9), (14) into (5), In the same way, 3.2 Empirical analysis This dissertation will select SVAR (Structural Vector Auto Regression) model to make empirical analysis. The methodology to identification in SVAR models is calculated to evade the difficulties in vibrant synchronized equation prototypes which frequently lead to implausible identifying limitations (Sims, 1980).

A VAR is a method whereby each variable is retrogressed on a constant and on k of its own intervals as well as on k intervals of the further variables. Every equation in the VAR encompasses similar set of influential variables. This countenances one to approximate the VAR by means of conventional slightest squares (Gottschalk, 2001). The postulation in SVAR models is that the fundamental novelties are orthogonal. SVAR models consider all variables to be endogenous. The specimen info in the statistics is sculpted with the assistance of VAR models, which model apiece variable as a purpose of all other variables.

Concerning the classifying limitations, SVAR models principally putrefy all variables into their probable and unforeseen parts. The identifying limitations are then enforced only on the unforeseen portion, where conceivable identifying limitations are easier to discover. With reverence to monetary strategy, the SVAR method identifies that the policy apparatus is for the most part endogenously indomitable, which impedes considering this variable as exogenous (Gottschalk, 2001). SVARs propose a gorgeous methodology to approximation.

They undertake to cajole remarkable configurations from the statistics that will triumph athwart a set of partly quantified vibrant economic models with a slightest of identifying suppositions. SVARs are also pretty easy to approximate, being conceivable to do so even with marketable software and spontaneously accessible procedures from the internet. It is also noteworthy that SVARs have underwritten the indulgence of aggregate variations, have elucidated the prominence of diverse economic astonishments, and have produced productive discussions among macroeconomists.

Construct model Assuming the number of endogenous variable is m, so SVAR (p) can be expressed as follow: Yt is a m×1 column vector of M endogenous variables, C0 is the coefficient matrix, Г1, Г2, ···, ГP Data The first time Japan implemented QE policy was in 2001. The data for this particular study was therefore collected from the first month of 2001 to the last month of 2014 on a monthly basis. JPM2 is equivalent to the growth rate of M2 in Japan. This paper will put its focus mainly on the growth rate industrial added value (CNIVAR) to present the situation output in China due to the lack of GDP monthly data in China.

The consumer price index (CNCPI) will be used to present the level of inflation. The weighted average of overnight call rate monthly between banks (CNAR) will be used to present the level of interest rate. The real and effective RMB exchange rate (CNREER) will be used to present the level of exchange rate. Lastly, net export value of China (CNNX) shall be used to show the change in the aspect of foreign trade. The JPM2 data used in this dissertation was collected from the central bank of Japan.

Monthly data of CNCPI and CNIVAR will subsequently be collected from National Bureau of Statistics of the People’s Republic of China. CNAR data shall be collected from the people’s bank of china and the CNNX data shall be collected from General Administration of Customs of the People’s Republic of China. IV. References Al-Najjar, B. (2009). A maintenance model for identification, quantification and elimination of losses in companies’ profitability: Application examples. Boesler, M. (2013).

The truth about Abenomics: The Japanese economic experiment that is captivating the world. Business Insider Cooper, R. N. Economic interdependence and coordination of economic policies Fabio, C. (2005). The transmission of US shocks to Latin America. Journal of Applied Econometrics, volume 20, p.229-251. Gottschalk, J. (2011). An introduction into the SVAR methodology: Identification, interpretation and limitations of SVAR models. Germany: Kiel Institute of World Economics, Working paper no. 1072.

Groenewold, N., Lee, G., & Chen, A. (2004). Regional output spill overs in China: Estimates from a VAR model. Australia: University of Western Australia Guohua, H. & Yi, P. (2014). Study on the spill over effect of US and Japan monetary policy on Chinese output. Studies of international finance, volume 2, p.19-27 Jones, R.W. & Kenen, P.B., (1985). Handbook of international economics. Elsevier, edition1, volume 2, no.2 Joshi, P. (2011). Return and volatility spill overs among Asian stock markets.

SAGE Publications. Juan, F. R., Structural Vector Auto regressions. University of Pennsylvania. Obstfeld, M. & Rogoff, K. (1995). Exchange rate dynamics Redux. Journal of Politics. Rixtel, V.A. (2007). The exit from quantitative easing (QE): The Japanese experience. Bank of Spain international financial analysis. Rogoff, K. (2002). Mundell-Flemming lecture: Dornbusch’s overshooting model after twenty-five years. International Monetary Fund, volume 49, special issue. Setton, J.C. (2014). The spill overs of fiscal and monetary policies. Bruegel. Sims, C.A., (1980).

Macroeconomics and reality. Econometrica, volume 48, no.1, p.1-48. Xinhua, (2011). China confident to cope with QE spill over effects: Minister. Global Times Zhaoyin, W. (2013). The transmission of economic policy between China and US. Studies of international finance.