Monetary Policy and the Short-Rate Disconnect in Emerging Economies

Pierre De Leo, Gita Gopinath and Kalemli-Özcan, Á¹¢ebnem

No 17748, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: We document that emerging market central banks adhere to Taylor-type rules and lower their policy rates when economic activity slows down, including as a response to U.S. monetary policy tightening. This suggests a countercyclical monetary policy stance. However, in contrast to advanced economies, short-term market rates do not move in tandem with policy rates. Market rates, if anything, tend to increase during recessions. We present evidence that this disconnect between policy rates and market rates can be significantly explained by fluctuations in dollar funding premia that get transmitted into local market rates through the banking sector that relies on foreign funding. Our findings shed light on the challenges to transmission and effectiveness of monetary policy in emerging economies.

Keywords: Monetary policy; Emerging market economies; US monetary policy shocks (search for similar items in EconPapers)
JEL-codes: E43 E50 E52 F30 (search for similar items in EconPapers)
Date: 2022-12
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