Dr Abdullah Mamoon

Abstract

This paper examines whether and how central bank transparency affects international bond/debt diversification. Using panel data from 39 countries, we find that central bank transparency reduces debt home bias. Further analysis shows that central bank transparency enhances debt foreign bias. This is consistent with the view that when the central bank is transparent, bondholders will be able to predict the monetary policy instruments that will be used to support price and financial market stability. The findings are robust to difference-in-difference, placebo test, moment-based cluster, mean heterogeneity across time and countries, missingness vs imputation, dynamic generalized method of moments, and fixed difference and fixed effects, our results are robust to quasi-natural. This study shows that bond investors pay attention to the transparency of the central bank which has implications for businesses, investors, researchers, and policymakers, particularly in emerging countries. JEL classification E58,F3, G2, G11,G15

The independence and transparency of central banks have a substantial influence on investment holdings and financial decisions, as monetary policy affects macroeconomic fundamentals and the financial market. A Political government of a country may influence monetary policy as different political parties have different agendas and goals. Politicians are well aware of the importance of monetary policy issues such as price stability and market volatility; however, they are less inclined than the central bank's authority to prioritize monetary policy objectives over their political agenda and commitment to the public. Politicians and central bank personnel have diverse policy preferences and points of view, making central bank independence (CBI) and transparency (CBT) crucial for a country's financial market and competitiveness. Therefore, our main argument is that central bank independence and transparency may interact with macroeconomy and institutional quality to reduce information asymmetry and convey policy and institutional stability signals to foreign investors. As a result, more market participants lead to risk sharing, lower cost of capital, reduced home bias, and increased foreign bias in equity and debt portfolios. This study employed a panel dataset of 40 countries from 2001 to 2014, including 23 developed and 17 emerging countries. The first empirical study investigates the impact of central bank independence and transparency on the cost of capital. Following existing literature, we use four measures to proxy for the cost of capital. We find compelling evidence supporting the hypothesis that countries with a higher degree of central bank independence and transparency experience lower cost of capital. In the second empirical study, we examine the impact of central bank independence and transparency on equity home and equity foreign bias. Our findings, based on rigorous analysis, demonstrate that a lower degree of home bias is linked to a higher degree of central bank independence and transparency, and an equally higher degree of equity foreign bias is associated with an increased degree of central bank independence and transparency. Finally, in our third empirical study, we investigate whether various degrees of central bank independence and transparency affect debt home and debt foreign bias in the same way that equity home and foreign bias. Following extensive analysis, our findings demonstrate that a lower level of debt home bias is associated with a higher degree of central bank independence and transparency. Similarly, higher debt foreign bias is associated with increased central bank independence and transparency. The primary contribution to the knowledge of this research is its extension of the literature on central banking and international finance. As the independence and transparency of the central bank influence, the cost of capital is crucial for developing a country's financial market and economic growth. Therefore, this study would help policymakers develop a deeper understanding of monetary policy principles and international portfolio management. The independence and transparency of the central bank influence home bias and foreign bias in equity and debt portfolio by reducing the cost of capital and increasing risk sharing among investors. The fund manager and portfolio investors will find this study invaluable in making decisions regarding international portfolio investment allocation.

The global financial crisis of the past decade had a detrimental impact on banking institutions worldwide. In both developed and developing countries, it is widely documented that the proportion of non-performing loans is often linked to bank collapse and financial crises. Existing studies show that central bank independence and transparency are important for a country's financial stability and institutional quality. Building on this premise, we investigate whether central bank independence and transparency affect the occurrence of non-performing loans. Using panel data from 39 countries, we find that central banks free from political interference reduce non-performing loans. Similarly, transparent central banks with a lower degree of information symmetry reduce the prevalence of non-performing loans. Thus, our findings support that independent and transparent central banks minimize the incidence of non-performing loans. The results imply that independent central banks indirectly impact bank operational outcomes. Our results are robust to a battery of tests and specifications.

The theory of central bank independence is clear, but there is limited evidence to support the benefits. In this study, we investigate whether central bank independence impacts the cost of capital. We perform a cross-country panel data analysis of 23 developed and 17 emerging countries in this study and find international variations in the cost of capital associated with varying degrees of central bank independence. Specifically, we find that central bank independence reduces the country’s equity risk premium. Further analysis shows that central bank independence has pronounce effects in reducing the cost of capital in emerging countries. Our study suggests that greater central bank independence results in lower levels of cost of capital. This study’s findings are consistent with alternative cost of capital measures, and they are also robust to a quasi-natural experiment using a difference-in-differences, placebo test, hierarchical cluster, and the Newey-West standard error. Overall, the results of this study suggest that a country’s government attracts foreign investors by strengthening its central bank’s independence.

Abstract

Due to the Linked Exchange Rate System (LERS), Hong Kong’s monetary policy is effectively tied to the United States, however, trade and the real economy's increased integration with China raise debate on LERS rationality. The Optimum Currency Area (OCA) hypothesis suggests that the degree of trade and economic integration across economies is crucial for optimal currency pegs, we, therefore, employ multiple measures to determine the most favourable currency for pegging with the Hong Kong dollar (HKD) in light of the OCA theory. Our study indicates that Hong Kong is relatively more integrated with Mainland China than the United States, which is crucial for a currency peg. We measure the factors influencing business cycle synchronisation using principal component analysis (PCA) and find that Hong Kong, the United States, and China have common factors that led to the economic cycle synchronisation. We also employ the structural vector auto-regression (SVAR) to measure the shock transmission among economies and find that China’s shocks have a relatively lower impact on the output and price changes in Hong Kong compared to the United States. Our findings also suggested that Hong Kong and Mainland China shared similar internal shocks and gradually increasing economic integration as well as a greater degree of business cycle synchronisation. JEL classification D04,E00,F3,F4, O24